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." Today, we'll show you whether those bigwigs actually know what they're talking about. To help, we've enlisted Motley Fool CAPS to track the long-term performance of Wall Street's best and worst.
A good day to be a miner
Yesterday was a good day to own a mining company, or invest in mining stocks, as Wall Street analysts continued to sing the praises ("Hi-ho, hi-ho, it's off to buy we go!") of just about everyone who's digging anything valuable out of the earth. Earlier this week, we saw JPMorgan begin the trend with an upgrade of Stillwater Mining (NYSE:SWC) to overweight. This was quite the contrarian call, given that most analysts on Wall Street still expect to see years of declining earnings at the platinum miner. Yesterday, though, that trickle of interest turned into a torrent.
Whether it was rare-earth-element miner Molycorp (OTC:MCPIQ), truly rare diamond digger Harry Winston Diamond (NYSE:DDC), or even less valuable metals miner Silver Wheaton (NYSE:SLW), the Street's enthusiasm for shiny rocks continued unabated. But is it justified?
Let's find out, beginning with...
Harry Winston Diamond
Fresh off its deal to sell its luxury-branded diamond jewelry business to Swatch last month, Harry Winston won an upgrade to outperform from analysts at Scotia Capital Thursday. At first glance, this upgrade seems a bit strange. After all, at 34.5 times trailing earnings, Harry's stock hardly looks like a bargain -- but two factors argue that this stock may be a diamond in the rough. (Sorry. Had to say it. The Financial Writer's Code of Conduct calls for at least one bad pun per column).
First off, analysts have Harry pegged for 36% annualized profits growth over the next five years, which is fast enough growth to make even a 34.5 P/E look cheap. More importantly, though, Harry's deal with Swatch calls for the company to collect $750 million from the sale of its retail division, and offload $250 million in debt as well. That's enough money to swing Harry's balance sheet from a $228 million net-debt position to more than $750 million net cash -- and turn Harry into a company with about $500 million enterprise value.
Given that last year, Harry's mining division produced a net profit of about $35 million, the stock appears to be trading for less than a 15 P/E based on its post-retail unit-sale valuation. Assuming its growth rate can hold up without retail to support it, the stock looks cheap to me.
Next up: Molycorp. Yesterday, JPMorgan Chase -- which StreetInsider.com referred to as a "noted bear" on Molycorp -- switched gears on the stock and pulled its underperform rating. Citing Moly's recent stock-and-debt offering as removing "near-term risk," the analyst upgraded the stock to neutral, eliciting "cheers" (again, according to StreetInsider) from investors.
And yet, a neutral rating does not a buy-argument make, and if truth be told, even JP still has doubts about the stock. Priced at two times sales, and infinity times the profits it isn't earning, Molycorp remains one seriously risky stock. It's drowning in debt already, with nearly $800 million more debt than cash on its balance sheet, and adding more debt by the day, with free cash flow now standing at negative $819 million.
While I suppose it's possible that the company will ultimately pull out of its funk, get more mines on line, and begin earning a profit for its shareholders, Moly's history of incessant cash burn (it's literally never generated real free cash flow from its business, despite reporting a "GAAP" profit in 2011) is a big, bright red flag waving over the stock. Long story short, I'd be more inclined to short it than to go long.
Finally, Silver Wheaton. The numbers here look good. The company just finished negotiating the purchase of gold production streams from Vale's (NYSE:VALE) Salobo and Sudbury mines, a deal that the Fool's favorite mining analyst, Christopher Barker, recently termed "a monumental score."
He's not the only one. Credit Suisse upgraded Silver Wheaton to outperform on Wednesday, citing the Vale deal as its reason. Scotia Capital yesterday followed suit, and what's more, said the deal could lift Silver Wheaton shares as high as $53 within a year -- which would make for a 43% profit from today's share price.
Most analysts, in fact, would probably recommend the stock on its growth rate alone. On Wall Street, Silver Wheaton's pegged for an astounding 68% annualized rate of profits growth over the next five years, a number so high as to justify almost any P/E ratio. But here's the thing...
After a truly fabulous 2011, Silver Wheaton's cash flow statement showed the company plunging deeply into the red in 2012. With a free cash flow number that's now at negative $10 million, as much as I like Silver Wheaton's business model, I can no longer endorse the stock. Effective immediately, I'm closing out my "outperform" CAPScall on Motley Fool CAPS. To date, this call has earned me a 28-point victory over the market -- but that was then, and this is now. At Silver Wheaton's current overvalued price, I see no reason to push my luck.