Is Terra Nitrogen 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 Terra Nitrogen (NYSE: TNH  ) 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 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 Terra Nitrogen .

Factor

What We Want to See

Actual

Pass or Fail?

Growth

5-Year Annual Revenue Growth > 15%

3.5%

fail

 

1-Year Revenue Growth > 12%

(37.8%)

fail

Margins

Gross Margin > 35%

32.3%

fail

 

Net Margin > 15%

29%

pass

Balance Sheet

Debt to Equity < 50%

0%

pass

 

Current Ratio > 1.3

6.12

pass

Opportunities

Return on Equity > 15%

71.6%

pass

Valuation

Normalized P/E < 20

20.83

fail

Dividends

Current Yield > 2%

9.7%

pass

 

5-Year Dividend Growth > 10%

21.9%

pass

       
 

Total Score

 

6 out of 10

Source: Capital IQ, a division of Standard and Poor's. Total score = number of passes.

A score of 6 is reasonably good, even if it falls well short of perfect. In the fertilizer industry, potash producers Mosaic (NYSE: MOS  ) and PotashCorp (NYSE: POT  ) have gotten the lion's share of attention lately from investors, especially in light of BHP Billiton's (NYSE: BHP  ) bid to buy PotashCorp. But Terra Nitrogen focuses on a different niche, ammonia-based products, where it has strong pricing power.

Unfortunately, commodity prices plunged across the board when the recession hit, that's why revenue growth and gross margins have weakened from their 2008 levels. In addition, M&A activity in the industry has elevated share prices in recent months, making the stock less attractively valued. Because CF Industries (NYSE: CF  ) already owns 75% of Terra Nitrogen, a buyout isn't very likely. Terra Nitrogen pays a much higher dividend than CF, though, and has a lower multiple to earnings.

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 single 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 doesn't own shares of the companies mentioned in this article. Try any of our Foolish newsletters today, free for 30 days. The Fool has a disclosure policy.


Read/Post Comments (4) | Recommend This Article (10)

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 2:55 PM, gradkowski wrote:

    Doesn't direct competitor CF Industries own 75% of TNH?

  • Report this Comment On September 23, 2010, at 5:19 PM, surfgeezer wrote:

    gradkowski-yes. not only that but they just bought them, taking advantage of the low price. It is a great synergy as CF has a great retail. It is also a L.P., so by law it passes thru the profits without taxes being taken out of them first. Another point not talked about is the incredible growth of both earnings and revenue. When I started building a position the yield was over 10% and the way divvys/earnings are going up the future ROI should be outstanding. Yes they got beat beat up in the down turn, not in a small part because Natural Gas is a primary cost driver and NG was about 15$ as opposed to less than 5$ now. In fact I sold a big chunk of my NG holdings to buy TNH. Couple that with the demand for fertilizer tied to the increasing need for wheat,corn, and other food commodities through out the world. Not trying to pump the stock but it is my biggest holding now because I have high conviction in the business model for the foreseeable future with a long way to go if you look at the 5yr chart.

  • Report this Comment On September 23, 2010, at 5:30 PM, TMFGalagan wrote:

    @gradkowski - Thanks for the comment. I've asked for a small revision to correct any confusion.

    best,

    dan (TMF Galagan)

  • Report this Comment On September 23, 2010, at 8:38 PM, gradkowski wrote:

    surfgeezer --- I thought so, thanks. I have a large position in CF and smaller ones in POT and TNH. My portfolio is suddenly very lopsided in the sector but that's a good thing right now for all the reasons you've mentioned.

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