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 downgrades for clothiers Urban Outfitters (URBN +5.38%) and American Eagle Outfitters (AEO +5.47%). But it's not all bad news. Before we get to those two, let's take a quick look at why one analyst thinks...
AngioDynamics is heart-healthy
Yesterday, the news came out that medical-products maker AngioDynamics (ANGO +4.84%) has won an "expanded indication" -- i.e., permission to use its products for additional treatments -- for its AngioVac cannula for venous drainage. Basically, what this means is that the AngioVac, already used to drain, filter, and return blood to a patient's body, can now also be used to remove from the bloodstream "undesirable intravascular material," such as soft thrombi and emboli (i.e., blood clots, fat globules, and gas bubbles in the blood).
This is good news for AngioDynamics, as evidenced by yesterday's 2.1% rise in stock price in response to the news -- and today's follow-on gain of 5.2% in early Wednesday trading. Helping the stock surge is an upgrade to outperform from analysts at Raymond James, who say they see AngioDynamics growing revenue and expanding its profit margins in years to come.
Let's hope they're right about that, because last quarter, revenues were up less than 1% year over year at AngioDynamics, and the company lost money. In fact, AngioDynamics has lost money for the past three years. What's more, although the company is free-cash-flow positive (with $23.6 million in cash generated during the past year), AngioDynamics' 25 P/FCF ratio and high debt levels mean that analysts' current projections of 15% long-term profits growth at the company leave AngioDynamics shares still significantly overpriced.
With AngioVac or without it, the stock costs too much -- and Raymond James is wrong to recommend it.
Urban decay?
So much for the day's big upgrade. Now, let's turn to the stocks getting downgraded. We begin with Urban Outfitters, which just got downgraded to equalweight at Barclays Capital, despite beating estimates in its earnings report Monday.
Urban Outfitters earned $0.59 in fiscal Q4, with same-store sales rising 1%, and total revenues more or less matching consensus numbers. Unfortunately, this still leaves the stock trading for more than 18.5 times trailing earnings -- a valuation that's probably too rich in light of consensus projections for earnings growth in the sub-13% range. With free cash flow appearing to still trail reported GAAP profits by a significant margin (about 10% less FCF than GAAP income), the stock looks like no better value when evaluated on its cash profits. And with no dividend, it holds little attraction for income-seeking investors, either.
Long story short, even with its stock down 14% during the past year (against a 20% rise in the S&P), Urban Outfitters still has more room to fall than to rise. Barclays is right to downgrade it.
American Eagle Outfitters -- an endangered species of retailer?
Believe it or not, the situation may be even worse at Urban Outfitters' rival American Eagle -- which actually got downgraded all the way to underweight (read: sell) at Morgan Stanley this morning.
Like Urban, American Eagle beat estimates this week, topping expectations by $0.01 in yesterday's report of $0.27 in Q4 earnings. Unlike Urban, AE's same-store sales declined by 7%, which doesn't bode well for the future.
Analysts, on average, expect earnings to grow only in the mid-single digits at American Eagle during the next five years. While the stock looks a little bit cheaper than Urban at a P/E ratio of just 15, it may be "cheap for a reason."
American Eagle shares have already underperformed not just the S&P, but Urban Outfitters as well, losing 30% of their value during the past year. The one redeeming factor in AE's favor, though, which may save it from slipping farther, is the fact that it does pay a dividend and, actually, a pretty nice one: 3.5%. As the stock's price falls, the apparent size (and actual yield) of that dividend will swell large in investors' eyes, potentially stabilizing the stock.
While I wouldn't recommend buying American Eagle until management shows the ability to get earnings growing at a decent clip, I'm actually slightly more optimistic about Morgan Stanley's sell-rated stock than I am about Urban Outfitters, the one that Barclays says you should merely "hold."
Rich Smith has no position in any stocks mentioned, and doesn't always agree with his fellow Fools. Case in point: The Motley Fool recommends Urban Outfitters.
