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 new buy ratings for both game maker Activision Blizzard (ATVI +0.00%) and post office helper Stamps.com (STMP +0.00%). But the news isn't all good, so before we get to those two, let's take a quick look at why one analyst is...
Pulling threads at Columbia Sportswear
With its clothing about to be featured adorning the 2014 Olympic Freestyle Ski teams of America, Canada, and Russia, you'd think that now was a time for Columbia Sportswear (COLM 0.69%) shares to shine. Instead, Columbia shares are slumping in Friday trading after the stock got hit by a downgrade to underperform at the hands of analysts at Macquarie.
With Columbia shares up more than 58% over the past year, Macquarie is calling a halt to the stock's progression and predicting a decline to $57 over the course of the coming year. Should investors be worried?
Most analysts who follow Columbia Sportswear agree the stock is unlikely to grow earnings any more than 10% annually over the next five years. Yet the stock sells for nearly 27 times earnings, which seems dreadfully expensive. The good news, though, is that with actual free cash flow at the firm running more than 100% ahead of reported "net income," Columbia isn't quite as pricey as it looks.
Factoring cash reserves into the picture, I calculate no more than about a 10.6 enterprise value-to-free cash flow ratio on this stock. Between Columbia's modest growth rate (9.5% projected) and its not-inconsiderable dividend yield (1.3%), I actually think the stock remains somewhat underpriced, rather than overvalued. Far from selling Columbia, as Macquarie suggests, you might actually want to think about taking advantage of today's sell-off and buying a bit more.
Time to collect Stamps.com?
A second stock worth taking a look at -- and one on which Wall Street and I agree this time -- is Stamps.com. This morning, analysts at Northland Capital announced they were reinstating coverage of the "Internet delivered postage services" company with an outperform rating and a $46 price target. As Northland explains, "Management has been diligent in growing revenues and margins organically while steadily returning cash to shareholders. While the stock has had impressive performance in 2013, our price target of $46 indicates there is still upside to the shares."
Granted, we're probably not talking about a lot of upside. Priced at 18 times earnings and expected to grow these earnings at about 20% annually over the next five years, Stamps.com is already verging on "fair value." The fact that free cash flow lags reported net income ever so slightly ($33.9 million in FCF to $34.6 million reported income) also tips the scales slightly toward "overvalued."
That said, after factoring the company's cash reserves into the equation and finding them tipping the scales back toward bargain territory, I still find that on balance Northland is right. Stamps.com's prospects are still bright, and the stock remains buyable.
Activision a winner?
Last but not least, we come to gamer Activision Blizzard. Predicting this $17 stock will hit $23 a share within a year, CRT Capital recommends buying it. But should you?
On one hand, 16 times earnings hardly seems a lot to pay for a company of Activision's quality. On the other hand, most analysts agree that this company is a mid-to-upper-single-digit grower at best (7.5%, to be precise). Even with Activision paying a modest 1% dividend yield, that doesn't seem like fast enough growth to justify a double-digit P/E ratio.
It's in the third hand that we find the arguments that finally decide our buy/sell decision in Activision's favor. Strong free cash flow (about 7% ahead of reported earnings) and sizable cash reserves ($2.3 billion, net of debt) result in an enterprise value-to-free cash flow ratio of 8.1 for Activision. With growth prospects of 7.5% and the 1% dividend added to the mix, that's just barely cheap enough to justify a buy recommendation.
Result: CRT's right. This stock, too, is a buy.
Fool contributor Rich Smith has no position in any stocks mentioned. The Motley Fool recommends and owns shares of Activision Blizzard.
