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 comScore (NASDAQ:SCOR) and Applied Materials (NASDAQ:AMAT). But it's not all good news. Before we get to those two, let's find out why one analyst is calling...
Time out on Under Armour
Three days after stock market superstar Under Armour (NYSE:UAA) announced plans to cut its shares in half with a 2-for-1 stock split, analysts at Sterne Agee announced a cut of their own -- reducing Under Armour's rating from buy to neutral.
Why? As related by StreetInsider.com this morning, Sterne thinks the 40% run-up in Under Armour shares so far this year has given investors about all the profit that they're going to get already. With the stock trading at 65 times Sterne's estimate for fiscal 2014 profits, the analyst thinks UA shares already cost plenty.
Clearly, they're right about that. I don't know how much UA will end up earning this year (hint: neither does Sterne, for sure). But valued on what UA has already earned, the stock's selling for 80 times trailing earnings and an astounding 396 times trailing free cash flow. Most analysts who follow the stock -- Sterne included -- see a bright future for Under Armour's business, predicting earnings will keep on growing at better than 23% annually over the next five years. But even strong growth of this kind isn't enough to justify a P/FCF ratio pushing 400.
It's a valuation pushing the absurd -- and good reason to exit the stock before the inevitable pullback.
comScore books a win
Twenty-three percent growth is a pace few companies can achieve and maintain. And yet, the second stock on today's list is actually expected to exceed it. The stock is digital media expert comScore, and the analyst recommending it is Brean Murray.
This morning, Brean announced initiation of coverage on comScore with a buy rating and a $40 price target that suggests about 22% upside from today's prices. Brean calls comScore "a leader" in the "growing rapidly" $2 billion market for "digital measurement and analytics," and predicts the company will benefit from "the convergence of online and TV advertising into digital advertising," growing revenues rapidly.
comScore isn't an obviously cheap stock, of course. It has no trailing profits, for one thing, and its valuation on "forward earnings" is a steep 130 times. But with $40 million in trailing free cash flow, the stock's not egregiously overpriced for the 25% long-term growth rate that most analysts ascribe to it.
Personally, I actually prefer valuations based on real, cash profits -- free cash flow -- versus those based on more malleable GAAP earnings. For that reason, I give more credence to Brean's arguments than to many Wall Street recommendations. While I still think the stock is pretty pricey, most stocks are expensive today. Maybe in an environment like this the fact that comScore is only moderately overpriced, instead of vastly overvalued, really is enough to make the stock a buy...
Back to reality
And at last, we come to the least of today's three featured stocks -- at least from a growth perspective. Analysts have only modest expectations for established semiconductor manufacturing equipment maker Applied Materials, predicting long-term growth rates of only 9% per year. That's not keeping Nomura Securities from initiating the stock with a buy rating of its own, however.
Today, Nomura cited Applied Materials' short-term earnings power as a reason to buy the stock, arguing the company could earn $2 a share in 2015 -- far more than the $1.35 per share that other analysts predict. If Nomura is right, that will be nearly twice the $1.12 in profits that Applied Materials is expected to earn this year, and far more than the 20% one-year earnings growth that everyone else is looking for. It would also reduce the company's P/E ratio from the heady 50-plus multiple we see today, to a modest P/E of just 10.
Between its 9% projected long-term growth rate and the 2.1% that Applied Materials pays out to its shareholders as a dividend, I think a P/E of 10 could be very rewarding to long-term investors. When you get right down to it, the stock on today's list with the least attractive growth rate just might turn out to be the most attractive investment prospect of the bunch.