Is Ambac Financial the Perfect Stock?

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 if Ambac Financial (NYSE: ABK  ) 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 Ambac.

Factor

What We Want to See

Actual

Pass or Fail?

Growth

5-Year Annual Revenue Growth > 15%

13.9%

fail

 

1-Year Revenue Growth > 12%

NM*

pass

Margins

Gross Margin > 35%

49.6%

pass

 

Net Margin > 15%

69.1%

pass

Balance Sheet

Debt to Equity < 50%

NM**

fail

 

Current Ratio > 1.3

0.91

fail

Opportunities

Return on Equity > 15%

NM**

fail

Valuation

Normalized P/E < 20

0.22

pass

Dividends

Current Yield > 2%

0.0%

fail

 

5-Year Dividend Growth > 10%

0.0%

fail

       
 

Total Score

 

4 out of 10

Source: Capital IQ, a division of Standard and Poor's. NM = not meaningful.
*Treated as pass because revenue went from negative to positive.
**Treated as fail because equity is negative.
Total score = number of passes.

A score of 4 doesn't even count as particularly good, let alone perfect. But to anyone who's familiar with Ambac's woes, its bad score shouldn't come as a big surprise. Last month, the company made it pretty clear that it would have to seek additional financing, which would be highly dilutive to existing shareholders. If it fails, it may need to put together a prepackaged bankruptcy proceeding.

Ambac isn't alone in its suffering. Fellow guarantee insurer MBIA (NYSE: MBI  ) has taken huge losses from its decision to insure real estate-backed securities, although fund-managing superstar Bruce Berkowitz has made a big bet on MBIA. PMI Group (NYSE: PMI  ) , which provides residential mortgage insurance, has been a money loser for years and shows no signs of recovering. Assured Guaranty (NYSE: AGO  ) is in somewhat better shape, posting a $700 million profit in the past 12 months and having kept its balance sheet much more under control.

Perhaps the safest play in the space, however, is Berkshire Hathaway (NYSE: BRK-A  ) (NYSE: BRK-B  ) , which created a bond insurance subsidiary in late 2007 in the midst of uncertainty about Ambac's and MBIA's ability to meet their obligations.

Keep searching
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.

The Motley Fool is recommending 50 stocks in 50 days for its new "11 O'Clock Stock" series. For more information, click here. Then come back to Fool.com every weekday at 11 a.m. ET for a brand-new pick! 

True to its name, The Motley Fool is made up of a motley assortment of writers and analysts, each with a unique perspective; sometimes we agree, sometimes we disagree, but we all believe in the power of learning from each other through our Foolish community. 

Fool contributor Dan Caplinger owns shares of Berkshire Hathaway, as does the Fool. Berkshire Hathaway is a Motley Fool Inside Value selection and a Motley Fool Stock Advisor pick. Try any of our Foolish newsletters today, free for 30 days. The Fool has a disclosure policy.


Read/Post Comments (2) | Recommend This Article (20)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On September 23, 2010, at 10:38 PM, normie07 wrote:

    I am wondering...Why the Fools is still banging on Ambac almost every week? What is the purpose?

    Using influence to beat on an already beaten stock....But there is so many beaten stocks...however ABK is a choosen target apparently.

    I just dislike any article that seems to be bias...in anyway.

  • Report this Comment On September 29, 2010, at 10:29 AM, boothjp21 wrote:

    Really, the big revelation here is Ambac is troubled and Berkshire isn't...thanks Captain Obvious!

Add your comment.

Sponsored Links

Leaked: Apple's Next Smart Device
(Warning, it may shock you)
The secret is out... experts are predicting 458 million of these types of devices will be sold per year. 1 hyper-growth company stands to rake in maximum profit - and it's NOT Apple. Show me Apple's new smart gizmo!

DocumentId: 1310032, ~/Articles/ArticleHandler.aspx, 12/21/2014 4:33:49 AM

Report This Comment

Use this area to report a comment that you believe is in violation of the community guidelines. Our team will review the entry and take any appropriate action.

Sending report...

Apple's next smart device (warning, it may shock you

Apple recently recruited a secret-development "dream team" to guarantee its newest smart device was kept hidden from the public for as long as possible. But the secret is out. In fact, ABI Research predicts 485 million of this type of device will be sold per year. But one small company makes Apple's gadget possible. And its stock price has nearly unlimited room to run for early-in-the-know investors. To be one of them, and see Apple's newest smart gizmo, just click here!


Advertisement