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.
Who's hot, who's not -- in semiconductor stocks
Wading back into the semiconductor sector, NYC-based investment banker Oppenheimer made a bold call on Skyworks Solutions (NASDAQ:SWKS) Tuesday, resuming coverage of the stock with an outperform rating. Oppy's predictions on two other semi-players, in contrast, were more cautious, pegging RF Micro Devices (UNKNOWN:RFMD.DL) to only "perform" in line with the rest of the market, and downgrading LED lighting specialist Cree (NASDAQ:CREE) (LEDs are basically just little semiconductors that emit light) -- also to "perform."
Curiously, investors responded to the new ratings by bidding up all three stocks, both the one Oppy likes, and the two it doesn't (particularly much). Was this the right call?
As it turns out, I happened to take a look at all three of these companies over the past month -- and came away unimpressed with all of 'em. That said, I did point out that Cree, for example, was approaching a value at which it might become buyable, and that's obviously true of all three stocks: At the right price, any one of them might be worth owning. So... let's take a look at those prices.
If price were no object, I'd have to say Skyworks is probably my favorite business of the bunch. As Oppenheimer points out, it's "the most diversified among [its] peers across OEMs and baseband partners," and "best positioned to capitalize on the rising complexity of the RF front-end in next generation wireless devices."
GAAP-profitable, Skyworks throws off even more free cash flow from its business than it's allowed to report as "net earnings" under the usual accounting rules. Last year alone, free cash at the company came to $241 million, or about $30 million more than reported profit. And with so much cash coming in the door, it's not surprising that Skyworks also boasts a pristine balance sheet, with more than $377.5 million in cash to its credit, and not a lick of debt.
So far, so good. But what about the price?
Valued on free cash flow, Skyworks sports a 19.5-times valuation -- which drops below 18 once you "net out" the company's cash. That's not a bad price. At least Skyworks has free cash flow. Archrival TriQuint Semiconductor does not, and is GAAP-unprofitable to boot, giving it price-to-earnings and price-to-free-cash-flow ratios of "infinity," each. Still, with analysts projecting Skyworks will only grow profits at about 16% long-term, the stock's still not quite cheap enough to buy.
RF Micro Devices
How about RF Micro, then? Last month, Topeka Capital had similarly nice things to say about the increasing diversification of RF Micro's customer base and its addition of new product lines.
GAAP-unprofitable, RF Micro isn't in as bad shape as it looks. Last year, it produced positive cash profit in the amount of $38 million despite the accounting losses. Problem is, that still leaves RF stock trading at nearly 40 times annual free cash flow. So unless you think the stock is capable of long-term, annualized improvement in free cash flow production on the order of 40% or so, the stock's probably overpriced.
Oppenheimer doesn't think they can produce that kind of growth. Neither do I.
Shifting gears to a different kind of semiconductor, light-emitting-diode maker Cree also caught Oppenheimer's attention Tuesday. The analyst wasn't particularly enthused by the stock, however, and downgraded Cree on the theory that it looks "fully valued" in the near term.
Oppenheimer is right about that. After running up more than 50% over the past year, Cree shares now sport a sky-high P/E ratio of 95. They're not quite as overvalued as they look, however, thanks to free cash continuing to flow into Cree's coffers at a rate four times as fast as GAAP earnings accrue. With $226 million in trailing free cash flow, and a market cap surpassing $5.3 billion, Cree now costs a bit more than 23 times the amount of cash it generates in a year.
As with Skyworks, it's the growth rate that keeps this from being a totally obscene valuation. Cree is expected to post annualized profit growth of 20.5% over the next five years. This suggests the stock is close to fairly valued, which is about as close as Skyworks is. It's not a buy yet, but if a few more investors get shaken up by Oppy's downgrade, and start taking profits -- it could become one.
Foolish final thought
Bonus points today go to JPMorgan Chase, which delivered an extra dose of bad news to LED lighting enthusiasts, downgrading Veeco Instruments (NASDAQ:VECO), which makes equipment for making LEDs, to neutral. At first glance, it seems an unfair rating, given that at a market cap of only 18 times earnings -- with cash making up nearly half its market cap -- Veeco looks bargain-priced for the 15% long-term growth analysts expect it to produce.
Beware, though: Veeco has been reporting exceedingly weak free cash flow these past couple years, and mayn't be as cheap as it looks. Management also warned of "overcapacity" and "weak end market demand" in its recent Q4 update, so Veeco probably isn't out of the woods just yet.
Fool contributor Rich Smith has no positions in the stocks mentioned above. You can find him on CAPS, publicly pontificating under the handle TMFDitty, where he's currently ranked No. 357 out of more than 180,000 members.
The Motley Fool owns shares of TriQuint Semiconductor. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.