Even with the broad-based S&P 500 retracing for three straight days amid worries that the Federal Reserve may begin paring back its monthly bond-buying program as early as next month, more than 2,550 stocks finished yesterday within 10% of a new 52-week high. For skeptics like me, that's an opportunity to see whether companies have earned their current valuations.
Keep in mind that some companies deserve their current valuations. Generic drugmaker Mylan (NASDAQ:MYL), for example, certainly deserves a boost after outlining its EPS guidance through 2018. With $2.75-$2.95 in EPS expected this year, Mylan projects that it could double its annual EPS to $6 by 2018. With a near-endless supply of generic opportunities, Mylan could be poised to head even higher.
Still, other companies might deserve a kick in the pants. Here's a look at three companies that could be worth selling.
Why ask YY?
Let's get this out of the way early: We could make puns about YY's (NASDAQ:YY) name and be here all day, but for the sake of why you should consider heading for the exits, I'm not going to do that.
It isn't hard to understand why shares of YY have headed through the roof. This China-based social media platform saw its revenue explode higher by 118% during the second quarter, led by a 189% increase in YY music segment revenue and an 87% boost in online gaming revenue. Operating income also rose by nearly threefold and handily topped estimates.
Despite these strong results, I've seen this game played far too many times with Chinese social media platforms. Next year, revenue growth will practically halve from 104% this year to "just" 55%, all while expenses soar as YY overestimates its newfound success and spends heavily on new gaming and music platforms meant to drive new paying customers. I'm not saying YY won't eventually be successful, because it's already profitable, so that's not even in question. What I am saying is that YY's valuation here makes little sense with the understanding that expenses will rise and revenue growth will slow as its business matures and competition increases. YY is going to need multiple quarters like its most recent one just to maintain its current valuation and I just don't see that happening.
Counting your chickens before they're hatched
Make no mistake about it, I would love to see sufferers of Duchenne muscular dystrophy get one or two possible new treatments over the next year; but I believe the expectations that shareholders have baked into these stocks, especially Prosensa (UNKNOWN:RNA.DL), may be a bit too much to endure.
Prosensa is currently developing a late-stage drug with GlaxoSmithKline known as drisapersen that's being tested on a patient pool of 186 people. Results of this study are expected later this year and, if favorable, could lead to a Food and Drug Administration approval before mid-2014. In mid-stage trials of the drug, drisapersen delivered a 117-foot improvement in six-minute walking distance over the placebo, but made no mention of the effect on dystrophin production.
In contrast, Sarepta Therapeutics (NASDAQ:SRPT) is also developing a DMD drug known as eteplirsen, which not only improved walking distance but, in a much smaller 12-person mid-stage trial, actually demonstrated disease improvement. Based on trial results, eteplirsen was more impressive, but it also relies on the correlation that increase dystrophin production is what correlates to improved response by patients. The FDA has yet to make this correlation, which will likely put Sarepta and Prosensa on a collision course in 2014 to have both their drugs going through the new drug approval process at the same time.
Drisapersen's peak sales estimates of $600 million to $1 billionreally depend on whether it's approved, whether eteplirsen is approved, and if it can successfully launch its product. With so many questions and few answers, I'd suggest abandoning ship and watching this one safely from the sidelines.
No a-Capella to be seen here
Ask me about one sector that I pretty much wouldn't touch with a 10-foot pole and online education is likely going to be my answer. Despite increasing government scrutiny within the sector, Capella Education (NASDAQ:CPLA), the owner of Capella University, has seen shares surge to a two-year high after reporting marketing-topping second-quarter results. But if you ask me, this company could be a lot closer to a dunce cap than the honor roll among investors.
For the quarter, Capella delivered a 12.7% increase in year-over-year enrollments, which invigorated investors in spite of a 2.3% decrease in revenue and a $0.02 drop in EPS from the year-ago period to $0.83. Both figures still slid past the Street's estimates. To me, this looks like nothing more than rewarding a company for reporting bad results that were a bit "less bad" than expected. Tighter government regulations governing which post-secondary companies qualify for loans and how companies can market to students are still in place, and the public image of many of these companies is still pretty marred.
For Capella, it would need to deliver some relatively sizable growth if it has any hope of maintaining its forward P/E of 19, yet sales growth estimates for next year are just 2.5%. A smart investor would take this lack of growth as more reason to leave Capella to the speculators.
You could certainly say that this week's theme is all about counting your chickens before they're hatched. I feel pretty confident that YY's rising expenses will constrain shareholder expectations moving forward; that Prosensa's drug may be in for more competition and a slower launch than traders realize; and that the reality of Capella's slow growth is going to catch up with investors' high hopes for a rebound in the for-profit education sector.
Fool contributor Sean Williams has no material interest in any companies mentioned in this article. You can follow him on CAPS under the screen name TMFUltraLong, track every pick he makes under the screen name TrackUltraLong, and check him out on Twitter, where he goes by the handle @TMFUltraLong.
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