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 feature a price target hike for Time Warner Cable Inc (NYSE:TWC), balanced by a pair of lowered price targets for American Eagle Outfitters (NYSE:AEO) and American Science & Engineering, Inc. (NASDAQ:ASEI) as well.
Let’s tackle those two “American” stocks first.
AE gets its wings clipped
American Eagle Outfitters (NYSE:AEO) lowered its guidance for second-quarter earnings yesterday. Earnings during the current quarter will likely approximate $0.10 per diluted share, or less than half of what American Eagle Outfitters (NYSE:AEO) earned this quarter last year. AE says that its sales declined 2% in the second quarter. Same-store sales declined 7%. Profit margins are also likely to have declined.
AE CEO Robert Hanson pronounced himself: “Not at all happy with our second-quarter results.” Wall Street seconded the motion this morning, with analysts at both Telsey Advisory Group and UBS cutting their price targets on the stock, to $19 and $18 per share, respectively.
I think that’s an overreaction. Sure, American Eagle Outfitters (NYSE:AEO)’s new guidance is weak enough to raise its P/E ratio from 15 times trailing earnings (a clear bargain) to 17 times current earnings (a bit less so). American Eagle Outfitters (NYSE:AEO) generates strong free cash flow, however. Strong enough that its price-to-free cash flow ratio is currently less than 11 times. That’s pretty cheap if the company can return to the 12% annualized growth rates that analysts had projected for it. Throw in a 2.5% dividend yield, and I think that after today’s 16% drop, American Eagle Outfitters (NYSE:AEO) shares are once again priced to move higher.
American’s Science experiment — a failure or success?
Moving on now to the day’s second “American” story, Backscatter X-ray maker American Science & Engineering, Inc. (NASDAQ:ASEI) reported earnings last night. American Science & Engineering, Inc. (NASDAQ:ASEI) beat estimates on earnings, reporting $0.62 per share in fiscal first-quarter 2014 profits, but missed on revenues, recording about $500,000 less than expected. Analysts at The Benchmark Company responded to the news by reducing their price target on the hold-rated stock by 10%, to $54 per share.
At first glance, this, too, seems an overreaction. A strong producer of free cash flow, American Science & Engineering, Inc. (NASDAQ:ASEI) currently trades for less than 14 times its trailing free cash flow. Throw in a generous 3.3% dividend yield and a 15% projected annual profits growth rate, and you might expect analyst estimates would be going up rather than down.
But here’s the thing: Bookings at American Science & Engineering, Inc. (NASDAQ:ASEI) dropped significantly in the fiscal first quarter. Indeed, American Science & Engineering, Inc. (NASDAQ:ASEI) brought in new orders sufficient to replace only about 70% of the revenue the company recorded into the first quarter. This suggests that revenues will continue to fall in future quarters, and that analysts’ projection of a 15% growth rate may prove overly optimistic.