This series, brought to you by Yahoo! Finance, looks at which upgrades and downgrades make sense and which ones investors should act on. Today, our headlines feature upgrades for Zillow (NASDAQ:ZG) and Mine Safety Appliances (NYSE:MSA). On the other hand, we've also seen...
A couple of downgrades for Twitter
The first full trading week of the New Year is dawning bleak for Twitter (NYSE:TWTR) shareholders, as not one but two separate analysts give the social media outlet poor marks for value.
This morning, analysts at CRT Capital cut Twitter shares one notch to "fairly valued." Banker Morgan Stanley went a step further. Arguing that in the competition for marketing dollars advertisers are more likely to direct their spending toward broadly popular websites such as Facebook and YouTube than toward a smaller platform like Twitter, Morgan Stanley cut shares of the microblogging website to "underweight."
Whether or not you agree with that prediction, StreetInsider.com points out that Morgan Stanley is also saying that Twitter sells for a "premium to peers." And that fact is undeniable. Unprofitable where Google and Facebook are raking in the profits, Twitter also sells for a price-to-sales ratio north of 70 -- a huge premium to the 6.4 P/S ratio at Google and even to Facebook's lofty 19.5 P/S.
Worse, according to Yahoo! Finance's aggregation of analyst estimates, Twitter's (lack of) profits are expected to grow at only 20% annually over the next five years. That's not much faster than Google's projected growth rate of 15.7% (on positive profits), and is actually slower than Facebook's (also positive) profits growing at 32.2%!
In short, whatever its fortunes in the advertising market, when it comes to value, Twitter's got a lot of catching up to do with the competition.
Better bargains at Zillow?
Staying with the Internet companies a bit longer, we turn now to some happier news for Zillow investors, which just scored an upgrade to "outperform" from the analysts at RBC Capital Markets.
RBC says it's got "increased confidence" in the "2014 sector outlook," and likes the recent improvement in Zillow's valuation as well. "We believe that Zillow is one of the best small-cap plays on two of our 2014 Internet Growth factors: Mobile Materiality and Local Internet Adoption," says the analyst, and "the leader in Online Real Estate" to boot.
I'm not sure I agree with that, though. On the one hand, at a share price of $86 and change, Zillow is certainly cheaper than the stock was when trading at $103 a few months ago. On the other hand, Zillow has turned unprofitable again, and higher capital spending has left the company generating barely breakeven free cash flow.
As recently as 2012, Zillow looked to be breaking out and turning into a really strong producer of cash, with nearly $20 million generated that year. At last report, however, the company was eking out less than $3 million in annual cash profit. With a price-to-free cash flow ratio that now soars into the quadruple digits (1,196:1, to be precise), I'm afraid that RBC's citing "valuation" as a reason to buy the stock is anything but reasonable.
Safety below ground?
For our final ratings change of the day, we turn to something a bit more substantial: mine safety equipment. This morning, analysts at R.W. Baird tapped Mine Safety Appliances for an upgrade to "outperform." The news isn't having much effect on the stock, though, with shares up only a fraction of a percent in response. Is this an opportunity?
I think it may be, and I'll tell you why.
At first glance, shares of Mine Safety don't look all that attractive. The stock sells for 23.6 times earnings, which seems a bit rich even with its projected 18.2% annualized long-term growth rate. And yet, one factor investors may be overlooking is that Mine Safety generates a whole lot more cash profit than its "P/E" lets on. True, GAAP earnings at the company are only $82.3 million. But actual free cash flow, at last report, was running more than $10 million higher -- at $92.6 million.
What this works out to, then, is a stock selling for barely 20 times free cash flow, growing at 18%, and paying its shareholders a 2.3% dividend yield, to boot. In ordinary times, I'd say this valuation was only "fair." But in today's overheated stock market, Mine Safety actually looks like a pretty good bargain, relative to the alternatives.
I think Baird's right to recommend it. If you're in the hunt for a good, quality company at a reasonable price, you should take a look, too.