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 DragonWave
Wave goodbye to DragonWave
Let's get the bad news out of the way first. With its fiscal fourth-quarter 2012 having just ended, packet microwave radio systems maker DragonWave revised its revenue guidance Tuesday. And when I say "revised," I mean "warned." DragonWave was never expected to produce an actual profit for the quarter (or for the year, or for next year, either), but analysts had at least hoped the company would deliver on revenue for the quarter. But it was not to be.
"Delays in shipments to customers in North America, Japan and the Middle East" cut deeply into Q4 sales, DragonWave says. As a result, when earnings finally come out, investors can expect to see no more than $9.4 million in Q4 revenues -- about 33% lower than what Wall Street had been expecting.
After taking some time to mull the new numbers, Avian Securities decided to throw in the towel on DragonWave this morning. Previously neutral on the stock, Avian now says it's negative -- and I can't blame it. Unprofitable today, and expected to remain so through at least 2013, DragonWave's situation looks iffy. The company's $60 million cash hoard will buy it some time, but if it keeps burning the stuff at the rate it's been going, the company could still run out of cash before it can turn a profit.
In happier news, Ciena spiked yesterday on a report of better-than-expected revenues and a return to positive cash flow. Adding to the enthusiasm, Stifel Nicolaus predicted this morning that Ciena is going to $20 a share, and upgraded the stock to buy. But should you? Buy Ciena, that is?
I admit, at first glance the stock looks as iffy as DragonWave. Trailing GAAP profits at Ciena remain decidedly negative. The company's also mired in debt -- an issue DragonWave doesn't face (yet).
On the other hand, Ciena does have one thing in its favor. As of this week, Ciena has now produced back-to-back free-cash-flow-positive quarters. That's one more than telecom equipment industry rival Alcatel-Lucent
Still, even if Ciena can repeat this feat over the next six months, its run-rate for free cash flow will still be just $72 million and give the stock a 20 times price-to-free-cash-flow ratio. That seems a bit pricey for a projected 16% grower. If you're betting on a rebound in these companies' businesses, Alcatel looks like the better speculative bargain. Four quarters' worth of $704 million FCF would have that stock trading for less than two times FCF.
And now that our telecom work is done, it's time for some entertainment. This morning, Canaccord Genuity initiated coverage of the mobile gaming segment with a pair of new ratings. Citing risks including overdependence on Facebook for revenue, and selling pressure as the "lockup period" on its IPO shares expires, Canaccord only gave Zynga
According to Canaccord, this "mobile gaming pure-play" is in the early stages of a turnaround in which it focuses on cash-rich smartphone owners over less-flush "feature phone" users, and keeps more revenues in-house by developing its own games rather than licensing those developed elsewhere. Looking way, way out into the future, Canaccord sees Glu turning these revenues into earnings per share of $0.33 three years from now, in 2014, and thinks the stock should fetch 30 times that number -- or about $10 a share by then. Nearer term, the analyst sticks a $7-a-share price estimate on Glu, suggesting a 75% profit from today's levels. Is that reasonable?
It depends on your frame of reference. Comparing Glu to Zynga, Canaccord points out that Glu sells for two times forward sales but costs just 40% of the valuation given to the 2013 sales estimates for Zynga.
Foolish final thought
Personally, I'd be more concerned about the fact that Glu sells for 3.7 times the sales it actually made over the past year -- which is more than twice the price that Electronic Arts fetches, and 20% more than already profitable Activision Blizzard costs. Or the fact that both EA and Activision are generating truckloads of free cash flow, while Glu is not. Personally, I think I'll still with the free-cash-flow-positive companies, and leave the speculative picks to Canaccord.
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Editor's note: A previous version of this article mistakenly included references to OmniVision and Mitek, which the author discussed in an earlier article. The Fool regrets the error.