This series, brought to you by Yahoo! Finance, looks at which upgrades and downgrades make sense, and which ones investors should act on. Today's ratings switcheroos are brought to you by the letter S and the letter C, which sometimes sounds like it, as analysts encourage investors to buy shares in SolarCity (NASDAQ:SCTY.DL) and SanDisk (UNKNOWN:SNDK.DL), but cut their price targets on Cisco Systems (NASDAQ:CSCO). Let's dig in.
At first glance, Cisco's earnings report didn't seem like the kind of news that would shock Wall Street. Fiscal first-quarter profits of $0.53 per share topped analyst estimates by a good $0.02, after all, and "adjusted" gross margins at the Internet equipment maker were a better-than-expected 63%, to boot. Plus, Cisco management announced plans for as much as $15 billion in extra share buybacks, promising to shore up the stock against any declines in price.
On second glance, though, this question arises: Why would Cisco be afraid of declines in its stock price?
There are a couple of reasons. First, revenue in the first quarter came in a bit light -- just $12.1 billion when analysts had expected $12.35 billion. Worse than that, though, was management's forecast for only a $0.45-$0.47 per-share profit in the current second quarter. At best, that suggests Cisco will miss analyst estimates ($0.52) by a nickel, and the actual miss could be even larger than that.
No wonder, therefore, that analysts are starting to head for the exits. This morning saw both Wedbush and Deutsche Bank cut their recommendations on Cisco to hold, while Goldman Sachs removed the stock from its conviction buy list. Goldman says it has "reduced confidence in the near-term trajectory" at Cisco, and it isn't the only one. RBC Capital Markets and Northland Capital both reduced their price targets on the stock, to $22 and $26 a share, respectively.
Of course, the shocking 12% drop in Cisco shares in response to its forecast may spell opportunity for investors. Cisco shares currently sell for just 11.4 times earnings after the sell-off, and are even cheaper when valued on free cash flow. Weak near-term guidance notwithstanding, that sounds like a bargain price for a company that most analysts still think is capable of growing earnings at 9% or better over the next five years, and that pays its shareholders a dividend worth nearly 3%.
Knock-knock. Methinks I hear opportunity at the door.
SanDisk looks shiny
In contrast, we're hearing nothing but happy talk out of Wall Street over flash memory maker SanDisk. Last week, analysts at Swiss megabank UBS predicted that "continued market undersupply in C14" will give SanDisk pricing power on its products. UBS thinks SanDisk could earn $5.20 a share this year and $5.30 in 2014. Compared to the $3.78 in trailing earnings the company currently boasts, that would be quite an improvement -- enough to drive the stock's P/E ratio down to just 13 this year.
What's more, based on current free cash flow figures, SanDisk is already below that valuation. In fact, I calculate a price-to-free-cash-flow ratio of just 12.3 on the stock -- and that's not even giving SanDisk credit for its $1.2 billion in net cash. With analysts predicting that SanDisk will show earnings growth of 25% annually over the next five years, this suggests the stock is bargain-priced.
Little wonder, therefore, that this morning banker Drexel Hamilton lined up behind UBS in support of SanDisk stock, which it rates a buy. Little wonder, too, that I agree with them.
SolarCity sales growth blinds analysts
Last but not least, we come to SolarCity -- tech titan Elon Musk's vehicle for bringing solar power to the masses by offering cheap, long leases on rooftop solar panels. Last week, SolarCity beat estimates when it lost "only" $0.43 per share in its fiscal fourth quarter, versus an expected $0.47 loss. In part, it lost less money because it did less money-losing business, recording revenue of only $32 million versus anticipated fourth-quarter revenue of $41.4 million.
Regardless of the revenue miss, though, banker Robert W. Baird remains impressed with the stock, and this morning upgraded SolarCity to outperform while upping its price target on the stock by more than 40%, to $71 per share.
As quoted on StreetInsider.com this morning, Baird attributed its upgrade to SolarCity's recent announcement that it has successfully "securitized" $54.4 million worth of its solar panel leases in an asset-backed security. This means, Baird points out, that the company has found a way to access capital to continue growing without having to finance the work itself. Instead, SolarCity basically allows buyers of its ABS to put up the money it needs to build out subsequent projects.
Don't get me wrong. I agree with Baird that this is a positive development for SolarCity. That said, I'm still of the opinion that a company like SolarCity, with no profits to its name and no prospects for earning profits until at least 2016 (according to most analysts), is not the kind of business that investors should be looking to buy. Without profits, I can't value the stock. And if I can't value it, I won't buy it. Period.
Motley Fool contributor Rich Smith has no position in any stocks mentioned. The Motley Fool recommends Cisco Systems and SolarCity. The Motley Fool owns shares of SolarCity.