This Just In: Upgrades and Downgrades

At The Motley Fool, we poke plenty of fun at Wall Street analysts and their endless cycle of upgrades, downgrades, and "initiating coverage at neutral." So you might think we'd be the last people to give virtual ink to such "news." And we would be -- if that were all we were doing.

But in "This Just In," we don't simply tell you what the analysts said. We'll also show you whether they know what they're talking about. To help, we've enlisted Motley Fool CAPS, our tool for rating stocks and analysts alike. With CAPS, we'll be tracking the long-term performance of Wall Street's best and brightest -- and worst and sorriest, too.

And speaking of the worst ...
Shares of megabiotech Genentech (NYSE: DNA) got a shot in the arm this morning on twin news items: First, the FDA granted conditional approval for using Genentech's Avastin lung and colon cancer drug to fight metastasized breast cancer. Second, stock shop Rodman & Renshaw upgraded the shares in response to the news. According to the analyst, widening the acceptable uses for Avastin could add 50% to Genentech's revenue going forward, generating perhaps $4 billion in additional revenue per year over the next five years.

Sound good? Well, hold on. You haven't heard the bad news yet: When it comes to picking winning stocks, Rodman is pretty close to the worst analyst on the Street.

Let's go to the tape
According to CAPS, where we've been tracking Rodman's success rate since mid-2006, this analyst sports an embarrassing "Under 20" CAPS rating, and is wrong roughly twice as often as it's right. A few examples:

Granted, Rodman is right on occasion ...

... but, on balance, this stock picker's abysmal performance is bad enough to "win" the CAPS booby prize of a "Wall Street's Worst" icon. Which sort of makes me wonder about the value of The Wall Street Journal's rankings of "industry leaders." According to Rodman's website, three of its biotech analysts are among the top five biotech analysts in the Journal's "2007 Best on the Street survey."

Do me a favor ... don't do me any favors
With a record such as Rodman's, I have to wonder whether that will be Genentech's reaction to the upgrade. Sure, it's nice to be appreciated. But if Genentech's stock proceeds to perform as poorly as many of Rodman's other picks have, that'll only sour investors all the more when the bottom eventually drops out of this stock. And based on Genentech's valuation today, I can't help but believe that's exactly what will happen.

While we don't yet have the results on Genentech's fiscal 2007 free cash flow performance, early indications are not good. Over the four quarters preceding the Q4 report, the biotech giant had generated $1.9 billion in free cash flow -- significantly less than the $2.7 billion reported as net income during the period. So unless Q4's cash flow performance really rocked, it looks to me like this stock is probably trading for about 40 times free cash flow -- an extremely rich price to pay for a projected 21% grower.

Foolish takeaway
Even if you give the stock every conceivable benefit of the doubt -- value it on its 30 P/E, and up its growth estimates by half (to about 30% per year) thanks to Rodman's higher projected revenue -- that still leaves you with a stock only fairly priced by traditional PEG standards.

So what's my take on today's upgrade? The "prognosis is not good."

Feel free to disagree, and tell us about it on CAPS.