This Just In: More Upgrades and Downgrades

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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." The pinstripe-and-wingtip crowd is entitled to its opinions, but we have some pretty sharp stock pickers down here on Main Street, too. And we're not always impressed with how Wall Street does its job.

So perhaps we shouldn't be giving virtual ink to "news" of analyst upgrades and downgrades. And we wouldn't -- if that were all we were doing. Fortunately, in "This Just In," we don't simply tell you what the analysts said. We also show you whether they know what they're talking about.

And speaking of the best ...
Not that it always matters. Take Friday morning, for instance. RWBaird -- an analyst that's consistently ranked in the top 15% or so of investors we track on CAPS, and one that's enjoyed some measure of  success in the software industry with recommendations such as salesforce.com (NYS: CRM) and new Intel (NAS: INTC) holding McAfee -- initiated coverage of two gaming software makers.

According to Baird, investors should give serious thought to buying shares of Activision Blizzard (NAS: ATVI) because it's both a "safe haven" stock and simultaneously the "highest quality publisher" of video games on the planet. By the same token, Baird likes Electronic Arts (NAS: ERTS) quite a bit, calling this one a "turnaround" story that's "poised for growth." But because expectations are so high for EA, and expectations are always a guessing game, the analyst suggests investors hold off on buying that one and wait for "opportunistic" chances to buy the stock at better prices.

Gaming stocks: Buy these numbers
On one hand, I understand why investors might be a bit leery of investing in EA and Activision. After all, at forward P/E ratios of 18.6 for EA, and 13.4 for Activision, both companies currently cost more than the average stock listed on the Dow Jones Industrial Average (INDEX: ^DJI). On the other hand, though, both stocks are also pegged for above average growth rates. Consensus estimates for Activision, for example, call for the company to grow at least 50% faster than the average Dow-stock over the next five years. EA, predicted to grow at nearly a 16% annual pace, looks even better.

And while I share Baird's reluctance to buy EA at today's prices (because its $114 million free cash flow score isn't quite high enough to justify the stock price), I have no such reservations about Activision.

With $1.16 billion in trailing free cash flow to its credit, Activision shares currently sell for just 12.3 times the amount of cash this company churns out in a year. Back out the contents of Activision's sizeable bank account, moreover, and the company's enterprise value-to-free cash flow ratio is an even more attractive 10.0. But whichever measure of value you use on Activision, the stock looks like a bargain to me at near-14% annual growth, and a 1.4% dividend yield.

Foolish final thought
Fact is, I like Activision so much that I own it in my personal investment account -- so I've put my money where my mouth is on this one. Still, while free cash flow investing has worked out really well for me, I understand that it's not for everyone. Fortunately, even more traditional "PEG" investors can find something to like in Baird's recommendations.

That's because, in addition to the games makers, Baird also recommended buying shares of games retailer GameStop, and here, the value argument is even easier to understand. GameStop sells for less than 9x earnings, you see.  Meanwhile, it's expected to grow earnings at 8.3% per year for the next five years -- and could well do better than that. Historically, GameStop's been able to achieve earnings growth of nearly 30% per year over the past five years. So even if you don't love Activision as much as I do, I bet you'll find a lot to like at GameStop.

Want to learn more about these three opportunities in the U.S. gaming space? Add 'em to your Watchlist!

At the time this article was published Fool contributorRich Smithowns shares of Activision Blizzard. You can find him on CAPS, publicly pontificating under the handleTMFDitty, where he's currently ranked No. 268 out of more than 180,000 members.The Motley Fool owns shares of GameStop, Intel, and Activision Blizzard and has written calls on Activision Blizzard.Motley Fool newsletter serviceshave recommended buying shares of salesforce.com, Activision Blizzard, and Intel, writing covered calls in GameStop, creating a diagonal call position in Intel, creating a synthetic long position in Activision Blizzard, and shorting salesforce.com.We Fools don't all hold the same opinions, but we all believe thatconsidering a diverse range of insightsmakes us better investors. The Motley Fool has adisclosure policy.

Copyright © 1995 - 2011 The Motley Fool, LLC. All rights reserved. The Motley Fool has a disclosure policy.

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