Thursday's Top Upgrades (and Downgrades)

Thursday'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 differ pretty widely, as we begin with an upgrade of airplane-parts maker Spirit AeroSystems , then segue not at all smoothly into some diverging views on the single-serve coffee phenomenon -- courtesy of Green Mountain Coffee Roasters and J.M. Smucker .

Spirit takes wing
We begin with Spirit, a big parts supplier to the plane programs at Boeing and Airbus alike. Spirit caught an upgrade to "buy" from the analysts at Canaccord Genuity this morning. Expressing confidence that Spirit will continue to improve its cash flows, Canaccord also set a new price target of $38. Meanwhile, analysts at Citigroup initiated coverage of the stock with a "buy" as well -- and this time, with a $39 price target.

But is all this enthusiasm justified? After all, Spirit shares do sell for more than 176 times trailing earnings, according to Yahoo! Finance data. That's seems a rather high price to pay for a debt-laden, dividend-less stock like Spirit -- even if analysts do think Spirit will grow its earnings at close to 18% per year over the next five years.

But here's the thing: Spirit's P/E may be sky-high, but its actual valuation isn't nearly as scary as it looks. The company only reported earning $26.2 million in GAAP profits over the past year. But Spirit actually generated nearly 10 times greater positive free cash flow (the fact to which Canaccord alluded) than what its GAAP number suggests. FCF for the past year exceeded $238 million, which is enough to get Spirit's price-to-free cash flow ratio down below 20 times.

Granted, that's not quite as low as I'd like to see for a stock with an 18% growth rate. I'd actually prefer to see Spirit shares drift a good 10% lower before buying, but at least we're getting close.

Coffee debate heats up
Now, we're going to shift gears rather abruptly here (remember -- you were warned) and take a look at a brewing battle over single-serve coffee. Over at Williams Capital Group, they just upped the target price for Green Mountain Coffee shares to $106 apiece.

This was kind of a strange move, in light of Nielsen's recent warning that rival Starbucks is gaining market share and showing strong unit growth in sales of coffee "pods" for single-serve coffee makers. But on the other hand, Williams' optimism may be explained by the fact that Green Mountain shares, formerly highfliers, are looking pretty reasonably priced these days.

Selling for less than 22 times earnings, and just 17.2 times free cash flow, Green Mountain looks almost attractive based on a consensus earnings growth rate prediction of 15%. That attractiveness only grows when you recall that Green Mountain is now paying its shareholders a dividend -- 1.5%.

And yet, there's a cockroach at this coffee klatsch, and its name is Wells Fargo.

Wells spills the beans
Green Mountain's valuation only looks reasonable if you agree that the stock will achieve its projected 15% growth rate. But as just told us, Wells Fargo is pouring cold water on that thesis.

Wells notes that "30% of ... measured channel coffee sales" at J.M. Smucker come from sales of Dunkin' Donuts- and Keurig-branded coffee -- bags of the former and pods of the latter. This makes it important for shareholders of Smucker to watch what's going on at the coffee companies. And Wells does not like what it sees here: "coffee growth is slowing sharply within single-serve and 2) cost deflation benefits are poised to moderate while recent benefits are weakened by lower prices at retail."

This is particularly worrisome with respect to Smucker, and for that reason Wells Fargo is downgrading Smucker shares to "underperform" today. Even better reasons to sell the shares, if you ask me, would be Smucker's subpar free cash flow, 19-plus P/E ratio, and its growth rate of less than 9% -- but that's just my opinion.

Meanwhile, Wells' report also contains bad news for Keurig, as it notes in passing that: "in CY13 K-Cups have been affected by new entrants TreeHouse Foods ... and Kraft (Maxwell House and Gevalia)." Guidance for K-Cups sales in 2014 are down already, and "Kraft is launching new SKUs," which could steal further market share.

Long story short, there's plenty of reason here to believe Wells is right about Smucker being overvalued. There's more than a little evidence to suggest, too, that Williams Capital could be wrong about Green Mountain.

Fool contributor Rich Smith has no position in any stocks mentioned. The Motley Fool recommends Green Mountain Coffee Roasters, Spirit AeroSystems Holdings, and Starbucks. The Motley Fool owns shares of Starbucks.

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