At The Motley Fool, we poke plenty of fun at Wall Street analysts and their endless cycle of upgrades, downgrades, and "initiating coverage at neutral." While the pinstripe-and-wingtip crowd is entitled to its opinions, we've got some pretty sharp stock pickers down here on Main Street, too. (And we're not always impressed with how Wall Street does its job.)
Given this, perhaps we shouldn't be giving virtual ink to "news" of analyst upgrades and downgrades. And we wouldn't -- if that were all we were doing. Fortunately, in "This Just In," we don't simply tell you what the analysts said. We also show you whether they know what they're talking about.
Today, we're going to take a look at three high-profile ratings moves on Wall Street: a downgrade for our Motley Fool Stock Advisor-endorsed Seadrill
Bank of America pulls out of Seadrill
Bad news first: No sooner had our analysts at Stock Advisor added Seadrill as a new recommendation than the company reported disappointing quarterly results. Revenues for last quarter were better than expected, but earnings came in at a loss, dragged down by an anchor-weight of one-time charges.
The bad news isn't scaring our SA team, which still sees good "long-term prospects" for this deep-sea driller. But this morning, the folks at Bank of America pulled their buy rating on the stock and downgraded to neutral.
Who's right? It probably depends on what numbers you focus on. Even after last quarter's loss, the bull case here is plain to see. Seadrill sells for just 13.2 times earnings -- a tempting price given the stock's 6% dividend yield and long-term earnings growth estimates of 28%. Personally, however, I'd be leery of running with the bulls on this one. Free cash flow at Seadrill is nonexistent. (The company's actually only generated positive FCF once in the last five years, and that was for less than $100 million.) Personally, I'm no great fan of cash-burning businesses -- and I'm no fan of Seadrill, either.
Stifel opens Pandora's box
Speaking of businesses that burn rather than earn, Stifel Nicolaus upgraded Pandora Media to "buy" this morning, calling the Internet radio provider "a must-have tablet and connected device application." Although Stifel groans over the "vexing" nature of valuing the company, the analyst boasts that Pandora (whose IPO it helped to run) has an "audience larger than any terrestrial radio broadcaster." Last clocked at 125 million registered users, Pandora's customer base is several times the 20 million-odd subscribers claimed by Sirius XM
Of course, that's part and parcel of the "vexing." Sirius actually makes its subscribers pay for the service, and as a result, the company's not just profitable, but rolling in free cash flow. Most Pandora patrons, in contrast, get their service for free.
Stifel thinks Pandora's ad-driven business model is worth "$4 billion or more." But that's twice what Pandora shares fetch today, and honestly, when I see Stifel projected $0.02 per share in profits this year, or even $0.11 in profits next year -- either way, I just can't see myself paying a triple-digit P/E for a share of Pandora. And the quadruple digits Stifel says it's worth?
RBC puts Alaska Communications on hold
Last but not least, we come to the curious case of Alaska Communications
What changed? Well, earnings, for one thing. Last week, ACS announced that it had closed out fiscal 2011 with a small profit -- quite an accomplishment for a firm that lost $30.7 million in 2010. But here's the bad news: In the "bad" year of 2010, ACS nonetheless managed to generate $48 million in free cash flow from its business. The "good" year 2011, in contrast, saw FCF shrink by nearly half to just $27 million. The shrinkage is all the more striking, given how often ACS CEO Anand Vadapalli mentioned his plans to drive free cash flow in last week's earnings release.
I don't think he was intending to promise to drive free cash flow over a cliff -- but that does seem to be where things are heading. Long story short, at an enterprise value of roughly 26 times FCF today, Alaska Communications doesn't really ring any bells for me.
I wouldn't necessarily sell the stock, mind you -- because 6% dividends like these don't exactly grow on trees. But if it's stable, rich free cash flows you're looking for in a telecom stock, I would urge you to take a close look at AT&T
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