Wednesday's Top Upgrades (and Downgrades)

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 include upgrades for Dick's Sporting Goods and DreamWorks Animation . But it's not all good news, so let's start off with one analyst who thinks that...

Riverbed is a dry hole
In a (very) delayed reaction to Riverbed Technology's underwhelming Q4 earnings report ($0.29 per share, in line with analyst estimates), analyst Wunderlich Securities announced this morning that it's cutting its price target on the tech star to $19 per share. Mind you, Wunderlich still likes the stock and recommends buying it. It just doesn't think Riverbed is going up as much in share price as it once did.

But that's OK. In fact, with Riverbed shares currently costing only $15 and change, a move to $19 is more than OK -- it would be about a 22.5% gain in value from today's prices. What's more, I think such a move is achievable.

After all, with free cash flow four times as strong as its reported earnings, Riverbed shares today only cost about 12x free cash flow -- roughly equal to the stock's forward earnings multiple. With long-term profit growth still projected to average 22.5% annually over the next five years, the stock's not expensive at all at today's prices. Fact is, even after Riverbed reaches Wunderlich's new, lowered price target, I think it will still have room to run higher.

Dick's dodges market downturn
Better news greeted shareholders of Dick's Sporting Goods this morning, when they awoke to find their share upgraded to buy by investment banker Monness, Crespi, Hardt. Indeed, the $61 target price Monness now ascribes to Dick's suggests even greater upside than Wunderlich posited for Riverbed -- a potential 28% gain from today's prices.

There's just one problem with Monness's projection, however. It's wrong.

Priced at 22 times earnings already, and projected to grow these earnings at 15.5% annually over the next five years, Dick's looks expensive on its face. Drill down into the firm's cash flow statement, though, and you'll notice the stock is actually even more expensive than it looks. With trailing free cash flow of only $219 million, Dick's only generates about $0.75 in real cash profit for every $1 it reports as "net income" under GAAP. As a result, a stock that looks expensive at a "22 P/E" looks positively overpriced once you realize that it costs nearly 27x free cash flow.

Result: Even Dick's modest 1% dividend yield isn't enough to move the valuation needle on this stock. A growth of 15.5% simply isn't fast enough to justify a 27x multiple on the stock, and Dick's is destined to fall.

DreamWorks? Dream on
And speaking of overpriced stocks and overoptimistic analysts, DreamWorks Animation just scored an upgrade from the analysts at Stifel Nicolaus, who relented this morning on their sell rating and upgraded the shares to neutral. Personally, I think Stifel is being too kind to DreamWorks, and I'll tell you why.

Stifel apparently thinks that DreamWorks' new "The Croods" comedic cartoon will lift the company's fortunes -- and the company could certainly use a lift. Unprofitable over the past 12 months and priced at a lofty 20 times what it might earn next year, DreamWorks looks overpriced for the 13% long-term earnings growth it's expected to produce. Meanwhile, DreamWorks is burning cash, with "free" cash flow dropping to negative $33 million in 2012 -- an even worse result than it achieved in 2011.

Fact is, DreamWorks hasn't had a truly "good" free cash flow year since about 2009, when the company generated $99 million worth of cash profit. (And even then, the firm wasn't making as much cash as it claimed to be earning profits under GAAP.) With more debt than cash in the bank, it can't afford to go hitless much longer.

Problem is, reviews of "The Croods" so far look mixed at best, with reviewers pointing out that DreamWorks' stuff still isn't up to snuff when compared to Disney's Pixar studios. While it's certainly possible moviegoers will ignore the reviews and turn the film into a hit, I fear even that happy circumstance will prove too little, too late for DreamWorks shareholders. The company's overpriced already and needs a real blockbuster to become worth buying again.

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Fool contributor Rich Smith has no position in any stocks mentioned. The Motley Fool recommends and owns shares of Riverbed Technology and Walt Disney. It also recommends DreamWorks Animation. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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