Noteworthy Downgrades on Thursday

Brian is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

Sometimes an analyst issues a revised outlook or changes his/her rating, but does not inform investors of the reasons behind the call. These typically move stocks on the call alone; the price target and outlook. However, some analysts provide detailed reasons behind the call; these are the outlooks that should be noted and used as part of your fundamental research. Therefore, I am taking a look at three key downgrades on Thursday and determining the best way to utilize the information.

<table> <tbody> <tr> <td> <p>Company</p> </td> <td> <p>Ticker</p> </td> <td> <p>Firm</p> </td> <td> <p>Outlook</p> </td> </tr> <tr> <td> <p><strong>CenturyLink</strong></p> </td> <td> <p><strong><span class="ticker" data-id="203234">(NYSE: <a href="http://caps.fool.com/Ticker/CTL.aspx">CTL</a>)</span></strong></p> </td> <td> <p>Several</p> </td> <td> <p>N/A</p> </td> </tr> <tr> <td> <p><strong>Ulta Salon, Cosmetics, & Fragrance</strong></p> </td> <td> <p><strong><span class="ticker" data-id="217246">(NASDAQ: <a href="http://caps.fool.com/Ticker/ULTA.aspx">ULTA</a>)</span></strong></p> </td> <td> <p>Credit Suisse</p> </td> <td> <p>Neutral</p> </td> </tr> <tr> <td> <p><strong>Edison International</strong></p> </td> <td> <p><strong><span class="ticker" data-id="203375">(NYSE: <a href="http://caps.fool.com/Ticker/EIX.aspx">EIX</a>)</span></strong></p> </td> <td> <p>Jefferies</p> </td> <td> <p>Underperform</p> </td> </tr> </tbody> </table>

Telecom Creates Industry Fears After Earnings

Shares of CenturyLink fell more than 20% after the company missed Q4 earnings expectations, issued weak guidance, and cut its dividend. The company set itself up for the perfect analyst attack, and as a result, six major analysts downgraded the stock.

Citi, perhaps the harshest with its downgrade, downgraded the stock to Neutral due to its dividend cut. The firm notes that the cut indicates that telecom companies need to maintain balance sheet flexibility during a slow growth period. The firm also said that the company’s guidance also implies free cash flow that is well below its expectations.

My take is that although CenturyLink’s decision to cut its dividend is bad for short-term investors, it was necessary with the company returning a yield of almost 9%! CenturyLink is now a fair value stock, and despite all the negatives the company did announce a $2 billion buyback program and Fitch upgraded its debt from BBB- to BB+, which could have long-lasting effects. Therefore, I’d wait a few days, maybe a couple weeks, but with expectations being lowered, I think it would make a good Buy.

A Strange Executive Resignation Leaves Many Wondering

Perhaps one of the weirdest stories of the day was that of CEO Chuck Rubin and his decision to leave Ulta to become the CEO of Michaels Stores. Ulta has been one of the best retailers/stocks in the market over the last five years. The company has great growth prospects, continues to grow organically, and has zero debt. Yet the CEO decides to leave for Michaels, a company that is almost the complete opposite for reasons that are unknown.

I think it’s a fishy story, as do analysts at Credit Suisse, who downgraded the stock because of this news. The stock is currently lower by 10.5%, and investors can’t help but worry if there might be more to this story or if there were problems with the company. Who knows, perhaps he left for more money, but at this point, I wouldn’t touch the stock.

A Speculative Concern or an Outlook Based on Substance?

Edison was a massive high-yield company, trading at multi-year highs when the market closed on Wednesday. But when it reopened on Thursday, the stock began its downtrend, losing 5% from its $15.5 billion market cap. The reason it fell was a downgrade by Jefferies, who cited the risk of regulatory disallowances. This means that the firm expects a hit to the company’s fundamentals as a result of government, specifically the restart San Onofre Unit 2 (which is very important to the company).

The firm believes that its likely that the NRC will find that Edison provided inaccurate or incomplete information regarding the site and that fundamentals could be greatly affected. At this point, this is a speculative call. However, I always worry with calls such as this, and am curious to see if there may be substance to an expectation that no other analyst has considered. As a result, I would not buy, but would follow the story closely to see if the firm is correct in their beliefs.

Conclusion

In a previous article I wrote about analysts “following the leader” and how one upgrade/downgrade usually starts a chain effect that can dictate the trend of a stock. It is good to use this information as part of your research but you must ensure that you are assessing the stock and its valuation with your own due diligence. It is important not to make an emotional decision based on the performance of a stock, and if you refrain from making such a decision then large gains could follow. 


BrianNichols has no position in any stocks mentioned. The Motley Fool recommends Ulta Salon, Cosmetics & Fragrance. The Motley Fool owns shares of Ulta Salon, Cosmetics & Fragrance. 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. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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