Wall Street Says Buy; We Say Wait

When we analyze stocks at Morningstar, we focus on fundamentals such as a company's competitive advantages and cash flows--which we believe are crucial to valuing companies as businesses.

We believe that buying a stock means becoming part owner in a business and that over the long run, stock prices are ultimately driven by corporate financial performance. We base our fair value estimates for stocks on the present value of the company's future cash flows--not on stock-price momentum or investor sentiment.

Our opinion of whether a stock is undervalued or overvalued often doesn't jibe with so-called consensus opinion. Sometimes a majority of Wall Street analysts thinks a stock is a strong buy, but our analysts aren't quite as bullish.

That is the case with the four companies below. Don't get us wrong--these are great companies that we would happily own at the right price. All of these firms have an economic moat rating of wide, which means we think they have advantages that will fend off competitors for at least 20 years. Further, they all have a fair value uncertainty rating of low or medium, meaning we think we can more tightly bound their fair values because we can estimate the stock's future cash flows with a greater degree of confidence. However, these stocks are all rated 1 or 2 stars, which means that they are overvalued relative to our estimate of their fair value.

Applied Materials

AMAT

Consensus recommendation:

Morningstar rating:

Applied Materials is the top vendor of semiconductor fabrication tools, says equity analyst Abhinav Davuluri. While competitors tend to specialize in a single core competency, Applied competes in almost every key equipment segment; it has the broadest product portfolio and offers customers the closest thing to a one-stop shop, Davuluri says. Further, its scale and resources allow a research and development budget in excess of $1 billion to serve cutting-edge technologies. Though all chipmakers are exposed to the cyclical nature of the chip industry, we believe Applied's expansive product portfolio and large installed base will allow the firm to comfortably weather business cycles over time, and we expect the company to experience decent growth over the long term. At a price/fair value ratio of 1.42, however, we believe investors should wait for a better opportunity to buy in.

Comcast

CMCSA

Consensus recommendation:

Morningstar rating:

No other company can match Comcast's ability to offer multiple services over one connection within the territories it serves, says equity analyst Neil Macker. Comcast continues to press its network advantage in the core cable market, stealing share from the phone companies. (We believe the company's wide moat stems from the strength of its networks.) Though we don't expect rapid growth in the cable business, the firm remains very well-positioned competitively, Macker said. For one, Comcast can deliver significantly faster data speeds, and has used this advantage to steal an increasing share of customer relationships. Macker also expects that network quality will continue to grow in importance as consumers look to do more with their Internet connections. We believe the shares are overvalued, however, at a price/fair value of 1.15.

Intel

INTC

Consensus recommendation:

Morningstar rating:

As the largest semiconductor company in the world, Intel has sustained its position at the forefront of technology by investing heavily in R&D, and equity analyst Abhinav Davuluri believes this trend should continue. The firm's wide moat emanates from its superior cost advantages realized in the design and manufacturing of its cutting-edge microprocessors. With the rise in interconnectivity of devices ranging from PCs to smartphones, Intel strives to provide the most powerful and energy-efficient silicon solution to any product "smart and connected." The data centers used to facilitate the information stored, analyzed, and accessed by various front-end devices are mostly run with Intel server chips. In a recent Stock Analyst Note, Davuluri reiterated that his investment thesis for Intel revolves around data center growth offsetting PC declines. With the stock trading at a price/fair value of 1.18, though, we recommend prospective investors seek a more attractive entry point.

Zoetis

ZTS

Consensus recommendation:

Morningstar rating:

Zoetis is the clear leader in the global animal health industry, and we believe it possesses the widest moat of all the players, said senior equity analyst Debbie Wang. While the industry as a whole possesses many characteristics that are conducive to moats, Zoetis' leading revenue and global infrastructure gives it a cost advantage over its peers. Although Wang points out that patents are not essential for maintaining a product in the animal health industry, she says 20% of the firm's revenue comes from products protected by patents that allow Zoetis to charge a premium price and insulate it from competition. The firm's strong brand name is another advantage over competitors; when customers are using drugs on potentially millions of dollars' worth of livestock, or a pet that they love like a family member, they will be willing to pay a premium to buy from a firm they trust. Wang suspects that Zoetis will benefit from some macroeconomic trends as well, such as improving living standards in emerging markets, which could lead to greater adoption of meat-heavy diets for animals. We think the shares are currently overvalued, however, trading at a price/fair value of 1.30.

Price/fair value data as of Feb. 6, 2017.