Every investor would love to stumble upon the perfect stock. But will you ever really find a stock that provides everything you could possibly want?
One thing's for sure: You'll never discover truly great investments unless you actively look for them. Let's discuss the ideal qualities of a perfect stock, then decide if National Grid (NYSE: NGG ) fits the bill.
The quest for perfection
Stocks that look great based on one factor may prove horrible elsewhere, making due diligence a crucial part of your investing research. The best stocks excel in many different areas, including these important factors:
- 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 mean nothing if a company can't produce profits from them. Strong margins ensure that company can turn revenue into profit.
- Balance sheet. At debt-laden companies, banks and bondholders compete with shareholders for management's attention. Companies with strong balance sheets don't have to worry about the distraction of debt.
- Money-making opportunities. Return on equity helps measure how well a company is finding opportunities to turn its resources into profitable business endeavors.
- Valuation. You can't afford to pay too much for even the best companies. By using normalized figures, you can see how a stock's simple earnings multiple fits into a longer-term context.
- Dividends. For tangible proof of profits, a check to shareholders every three months can't be beat. 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 National Grid.
What We Want to See
Pass or Fail?
|Growth||5-Year Annual Revenue Growth > 15%||10.1%||Fail|
|1-Year Revenue Growth > 12%||2.4%||Fail|
|Margins||Gross Margin > 35%||72.1%||Pass|
|Net Margin > 15%||15.1%||Pass|
|Balance Sheet||Debt to Equity < 50%||255.8%||Fail|
|Current Ratio > 1.3||0.91||Fail|
|Opportunities||Return on Equity > 15%||32.6%||Pass|
|Valuation||Normalized P/E < 20||11.66||Pass|
|Dividends||Current Yield > 2%||5.8%||Pass|
|5-Year Dividend Growth > 10%||6.9%||Fail|
|Total Score||5 out of 10|
Source: Capital IQ, a division of Standard & Poor's. Total score = number of passes.
When we looked at National Grid last year, it scored five points as well. The utility swapped better net margins for slower dividend growth, but overall, the company continues to provide the income opportunity that most investors want from a utility.
National Grid is an electrical utility that has almost a monopoly position in electric transmission wires in the U.K. It also operates in the Northeast and New England. Last year, the company made a highly dilutive secondary offering of shares in order to raise capital to rebuild its decaying U.K. infrastructure. Because the U.K. gives National Grid some benefits that its U.S. business doesn't enjoy, the emphasis on the other side of the Atlantic is good for shareholders and creates a competitive advantage against U.S.-based utilities Exelon (NYSE: EXC ) , PPL (NYSE: PPL ) , and NextEra Energy (NYSE: NEE ) .
The key to National Grid's future success, though, is turning around its lagging net income. But with an outsized dividend and the capital spending to create growth, more profits could be just around the corner -- especially if the economy will cooperate by entering a full-blown recovery. Moreover, with a lower earnings multiple than Consolidated Edison (NYSE: ED ) and American Electric Power (NYSE: AEP ) , National Grid appeals to bargain-hunters as well.
National Grid may not electrify your portfolio, but it won't electrocute it either. Despite falling short of perfection, National Grid gives income investors most of what they're looking for in a stock.
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.