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." Today, we'll show you whether those bigwigs actually know what they're talking about. To help, we've enlisted Motley Fool CAPS to track the long-term performance of Wall Street's best and worst.

Jinxed by Jefferies
On a generally "up" day for the market, shares of database specialist Oracle (NAS: ORCL) took a tumble yesterday, losing as much as 3% of their value at one point. For this, you can thank the analysts at Jefferies & Co.

Criticizing the company as a relic of the pre-software-as-a-service (SaaS) era, Jefferies argued that online software providers (NYS: CRM) and even (NAS: AMZN) (through its NoSQL cloud service) are crimping Oracle's growth prospects. Meanwhile, traditional software firm SAP (NYS: SAP) is becoming more competitive in Oracle's core database business. SAP's HANA database product in particular, Jefferies argues, could potentially steal as much as $0.05 to $0.10 in per-share profits away from Oracle.

And yet, even Jefferies isn't totally negative on Oracle stock. The analyst didn't actually tell investors to sell Oracle yesterday. All Jefferies said was that worries about "challenges to growth" are sufficiently scary that it feels a downgrade to "hold" is warranted. But might even this be an overreaction?

Valuation matters...It really depends on what numbers you're looking at. On the surface, I agree Jefferies has a point about Oracle's share price being in danger. At 16 times earnings, but with only 12% long-term growth projected for it, Oracle shares look a bit pricey -- but only a bit -- and as I said, only on the surface.

Dig a little deeper, though, and you'll find that Oracle is actually much cheaper than it looks. The company generates about 35% more free cash flow than what it reports as "net income," for one thing. Its prolific cash generation has helped it build up a net cash balance of more than $17 billion, for another. Factor both these numbers into the valuation, and what you'll find is that Oracle's enterprise value (its market cap, minus net cash) is just 10.7 times annual free cash flow.

...and so does growthTo my Foolish eye, 10.7 times FCF doesn't sound like an unreasonable price to pay for a 12% grower like Oracle. Indeed, Jefferies' worries about the growth rate notwithstanding, I'd argue that Oracle actually looks pretty good here.

Twelve percent growth is, after all, a much easier hurdle to leap than the 20% growth rate more commonly demanded of software stocks. In a contest between Salesforce and Oracle, I'd be much more concerned about Salesforce's ability to keep hitting the 27% growth target that Wall Street has set for it than about Oracle's maintaining a growth rate just half as ambitious. (And even more so when you consider that over the past five years, Oracle has had little difficulty achieving 19% growth.)

Foolish final thought(s)
Last but not least, Oracle has two things that its major rivals in the database space lack:

First, it's got Mark Hurd on staff. As he's a proven master of making Wall Street earnings guesses look woefully conservative, Hurd's role at Oracle shouldn't be underestimated. With Jefferies predicting a mere 6% rise in year-over-year earnings growth this year, and Wall Street on average looking for only 5% (versus 20% average growth elsewhere in the industry), the possibility of an earnings surprise can't be ruled out.

And second, Oracle still has its multibillion-dollar patent claim against Google (NAS: GOOG) , alleging infringement of intellectual property that Oracle acquired when it purchased Sun. The legal battle has hit some snags, true. But it's still out there, and it still has the potential to produce a windfall profit for Oracle.

When you combine these wild cards with a valuation that looks, at worst, fair, and at best, surprisingly cheap for a software industry leader like Oracle, I wouldn't bet against the stock.

So now we know that Jefferies & Co. -- an analyst that according to our records gets the majority of its stock picks wrong -- doesn't think you should buy Oracle. But are there any better investors we should be watching, and better stocks we should be buying? Find out in the Fool's new (and free!) report:"The Stocks Only the Smartest Investors Are Buying."

At the time thisarticle was published Fool contributorRich Smithdoes not own (or short) shares of any company named above.You can find him on CAPS, publicly pontificating under the handleTMFDitty, where he's currently ranked No. 390 out of more than 180,000 members. The Motley Foolhas adisclosure policy.The Motley Fool owns shares of, Oracle, and Google.Motley Fool newsletter serviceshave recommended buying shares of Google,, and A separate service has recommended shorting Fools may not all hold the same opinions, but we all believe thatconsidering a diverse range of insightsmakes us better investors.

Copyright © 1995 - 2012 The Motley Fool, LLC. All rights reserved. The Motley Fool has a disclosure policy.