iRobot Stock Upgraded After Earnings Sell-Off: What You Need to Know

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Every day, Wall Street analysts upgrade some stocks, downgrade others, and "initiate coverage" on a few more. But do these analysts even know what they're talking about? Today, we're taking one high-profile Wall Street pick and putting it under the microscope.

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Thursday was not a fun day to own iRobot (NASDAQ: IRBT) stock. Shares of the Roomba maker sold off by 13.5% yesterday despite the company reporting what was in many respects a fine quarter. Sales grew 22% year over year, and while earnings per share showed only a more modest 9% increase, at $0.76 per share they still came in a good $0.29 ahead of estimates. Management capped off the good news with improved guidance for the remainder of the year.

Accenting the positive -- and perhaps a little bemused by Mr. Market's refusal to acknowledge it -- this morning analysts at Sidoti announced they are upgrading iRobot shares to "buy" and assigning the stock a $90 price target. Here are three things you need to know about that.

Just the facts

Let's start off with the earnings report that sparked the sell-off. On Wednesday after close of trading, iRobot reported "another outstanding quarter" (their words), featuring 22% sales growth and "accelerating" sales growth "in the United States and in EMEA" in particular.

Combined, this "continued positive momentum" was enough to encourage management to raise its sales guidance for the year by about $30 million and earnings by $0.30 per share. It now expects to earn between $1.65 and $2 per share on $870 million to $880 million in sales by year-end.

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With market penetration in the U.S. still below 10%, and even lower outside the country, iRobot still has a lot of room to grow.

How Wall Street read between the lines

There's a lot to like in all that, right? And yet TheFly.com reports that two analysts, Canaccord Genuity and Piper Jaffray, cut their price targets on iRobot stock in response to this news. Canaccord cited a disappointing outlook for iRobot sales in China in cutting its price target to $65 per share. Piper noted that while iRobot remains "best in class" among robotic vacuum makers, competition is increasing from cheaper vendors such as SharkNinja.

Looking ahead, both analysts are dubious about iRobot's prospects and maintain "hold" ratings on iRobot stock.

Opportunity knocks

On the one hand, Wall Street's reaction caused a lot of pain for iRobot shareholders on Thursday. But as Sidoti argues in this morning's upgrade, it creates a buying opportunity for new investors in iRobot. Sidoti says that Wall Street's worries over "weak China sales" and SharkNinja competition alike are overblown. And I have to say that, despite a few caveats, I find myself in agreement with Sidoti on this one.

iRobot may face difficulty selling its vacuums in China. It may have greater competition for sales in the U.S. from SharkNinja as well. Still, with the share price now down more than 37% from its highs of earlier this year, a lot of risk has already been squeezed out of iRobot stock.

Valued today at $1.85 billion, and with a $260 million cash reserve that reduces its enterprise value to about $1.6 billion, iRobot stock currently trades for an enterprise value of less than 20 times its trailing free cash flow. Admittedly, free cash flow took a bit of a hit in Q3, but with the valuation having just taken a much more substantial hit, my opinion is that iRobot's valuation is on balance more attractive today than it was just prior to earnings being released.

The upshot for investors

Analysts surveyed by S&P Global Market Intelligence currently project a 17.5% annual long-term growth rate for iRobot stock. The still-high P/E ratio notwithstanding, the stock's current 20 times EV/FCF ratio puts it very close to being a buy in my book.

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Rich Smith has no position in any of the stocks mentioned. The Motley Fool owns shares of and recommends iRobot. The Motley Fool has a disclosure policy.