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Everyone would love to find the perfect stock. But will you ever really find a stock that gives you everything you could possibly want?
One thing's for sure: If you don't look, you'll never find truly great investments. So let's first take a look at what you'd want to see from a perfect stock, and then decide whether Spectra Energy (NYSE: SE ) fits the bill.
The quest for perfection
When you're looking for great stocks, you have to do your due diligence. It's not enough to rely on a single measure, because a stock that looks great based on one factor may turn out to be horrible in other ways. The best stocks, however, excel in many different areas, which all come together to make up a very attractive picture.
Some of the most basic yet important things to look for in a stock are:
- Growth. Expanding businesses show healthy revenue growth. While past growth is no guarantee that revenue will keep rising, it's certainly a better sign than a stagnant top line.
- Margins. Higher sales don't mean anything if a company can't turn them into profits. Strong margins ensure a company is able to turn revenue into profit.
- Balance sheet. Debt-laden companies have banks and bondholders competing with shareholders for management's attention. Companies with strong balance sheets don't have to worry about the distraction of debt.
- Money-making opportunities. Companies need to be able to turn their resources into profitable business opportunities. Return on equity helps measure how well a company is finding those opportunities.
- Valuation. You can't afford to pay too much for even the best companies. Earnings multiples are simple, but using normalized figures gives you a sense of how valuation fits into a longer-term context.
- Dividends. Investors are demanding tangible proof of profits, and there's nothing more tangible than getting a check every three months. Companies with solid dividends and strong commitments to increasing payouts treat shareholders well.
With those factors in mind, let's take a closer look at Spectra Energy.
|Factor||What We Want to See||Actual||Pass or Fail?|
|Growth||5-Year Annual Revenue Growth > 15%||(19.5%)*||fail|
|1-Year Revenue Growth > 12%||2.4%||fail|
|Margins||Gross Margin > 35%||52.6%||pass|
|Net Margin > 15%||19.7%||pass|
|Balance Sheet||Debt to Equity < 50%||137.5%||fail|
|Current Ratio > 1.3||0.48||fail|
|Opportunities||Return on Equity > 15%||13.5%||fail|
|Valuation||Normalized P/E < 20||18.74||pass|
|Dividends||Current Yield > 2%||4.2%||pass|
|5-Year Dividend Growth > 10%||3.7%**||fail|
|Total Score||4 out of 10|
Source: Capital IQ, a division of Standard and Poor's. * Growth rate as of Dec. 31, 2009 based on pro forma figures. ** 3 1/2 year growth rate based on first dividend in Feb. 2007. Total score = number of passes.
Spectra Energy's score of 4 leaves plenty to be desired. But Spectra came onto the scene at a difficult time in a tough business, and so its challenges aren't particularly surprising.
Originally part of Duke Energy (NYSE: DUK ) , Spectra was spun off in 2007. As part of the spinoff, Spectra got all of Duke's natural gas pipeline and storage assets, leaving Duke to focus on its core electric business. At the time, the move made sense, as natural gas was getting a lot of attention.
Once the gas boom ended, though, Spectra found itself in difficult straits. Like fellow pipeline companies El Paso (NYSE: EP ) and Kinder Morgan Energy Partners (NYSE: KMP ) , Spectra has found revenue growth hard to come by lately. A debt-laden balance sheet and valuations that aren't as attractive as you might expect to see also take away from Spectra's appeal.
Like most companies in this field, Spectra should benefit if interest in natural gas rebounds. Until that happens, though, the company will have to work hard to stay financially healthy.
No stock is a sure thing, but some stocks are a lot closer to perfect than others. By looking for the perfect stock, you'll go a long way toward improving your investing prowess and learning how to separate out the best investments from the rest.
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