The market managed to eke out a win on Friday, ending a string of consecutive down days. But just because your stock strapped on a rocket pack and went even higher, resist the urge to high-five everyone in the cubicles next to you.
Smart investors won't celebrate until they know why their stock surged. Without a fundamental basis for the bounce, these stocks can quickly make the return trip down.
Is now the time to lock in profits, or is this just the first step toward even higher valuations down the road? The Dow Jones Industrial Average (INDEX: ^DJI) rose 34 points on Friday, so stocks that went appreciably higher are pretty big deals. Outpacing a benchmark like the Dow over the long run is of course much more difficult, so let's see whether they're truly headed into orbit.
CAPS Rating (out of 5)
Glu Mobile (NAS: GLUU)
Arena Pharmaceuticals (NAS: ARNA)
Setting sights on growth
When Wall Street says your stock is severely undervalued and should double in price, it tends to set off a strong reaction among investors, which is what happened to Glu Mobile on Friday. An analyst at Needham thought the smartphone-game maker should be worth twice as much as the $4 per share it was trading at because the company's real value was masked by its declining feature-phone revenues. With the growth of smartphones and tablet computing, Glu's IP will start materializing.
Equally important, perhaps, was the analyst's downgrade of rival game maker Zynga (NAS: ZNGA) , which, although, it has some competitive strengths, is so tied to Facebook that as the social network's growth slows, so will its own prospects.
Thus, you have one gamer growing with an expanding market and one that's too focused on what amounts to a maturing platform. Glu previously said it will be devoting fewer resources to the basic phone segment while pouring more into mobile computing platforms such as the iPad. It's also building on "freemium" -- or the free-to-play, pay-to-play-more business model. It launched 19 such games in 2011 and expects to launch 20 this year. Freemium revenues grew 67% sequentially in the fourth quarter to $13.5 million and up from $1.3 million last year. One game alone, Gun Bros, accounted for more than 11% of total revenues.
And there's the risk in Glu. While it may sound like a winning model, the free-to-play/pay-to-play-more online gaming business model is not a tried-and-true winner. Players are not completely sold on being nickeled-and-dimed for the game experience, and that's caused the downfall of a number of companies trying their hand at implementing, including Chinese game maker Perfect World and Electronic Arts.
They need to keep developing new, fresh titles, which is expensive -- and unlike Zynga, Glu has yet to turn a profit. Last year, losses widened by 57% to $21 million. It's made a few acquisitions and plans on expanding its game line but has only $32 million in cash. With a line of credit that expired last year, it may have to issue more stock to meet its financial needs or get new lines of credit that may not be so favorable to it.
Although 84% of those rating Glu on CAPS believe it will beat the Street going forward, I'm not so sure it's found the secret to success that's eluded others. So I've rated it to underperform the broad indexes.
Add the Glu Mobile to the Fool's free portfolio tracker to see whether it can outplay the other game makers on the market.
Fit or fat?
Giving hope to the perpetually lazy, VIVUS (NAS: VVUS) is poised to get FDA approval for its fat-loss-in-a-pill drug, Qnexa. While nothing's certain when it comes to the regulatory agency, the 20-2 vote for approval by an advisory panel is also giving continuing hope to Arena Pharmaceuticals' investors who believe its own weight-loss therapy, locaserin, will receive similarly favorable treatment. But given the capriciousness of FDA rulings in the past, I won't believe it till I see it. Qnexa may be the exception that proves the rule, and sitting on the sidelines means I'll miss any pop when it happens, but the game of Russian roulette one needs to play with weight-loss meds leaves me cold.
As a result, I'm not making a CAPScall one way or the other on Arena. I admit it looks favorable at this point -- for VIVUS! One approval doesn't necessarily follow the other, but that leaves me in the minority, as 92% of those rating Arena think it will go on to outperform the market. Even All-Star genedom admits any call here is speculation.
Give me the skinny in the comments section below or on the Arena Pharmaceuticals CAPS page why this time will be different, and add it to your Watchlist if you think, as I do, that it's too risky a call to make.
Going into orbit
These two companies may have divergent futures despite their short-term bounce, so check out for free the one stock The Motley Fool thinks will break all the rules to win. Hurry, though, because the free look at the new report, "Discover the Next Rule-Breaking Multibagger," is available for a limited time only.
At the time thisarticle was published Fool contributorRich Dupreyholds no position in any company mentioned. Check out hisholdings and a short bio. The Motley Fool has adisclosure policy. We Fools don't all hold the same opinions, but we all believe thatconsidering a diverse range of insightsmakes us better investors. Try any of our Foolish newsletter servicesfree for 30 days.
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