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 Frontline (NYSE: FRO ) 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 Frontline.
What We Want to See
Pass or Fail?
|Growth||5-Year Annual Revenue Growth > 15%||(8.6%)||fail|
|1-Year Revenue Growth > 12%||(29%)||fail|
|Margins||Gross Margin > 35%||47.7%||pass|
|Net Margin > 15%||13.5%||fail|
|Balance Sheet||Debt to Equity < 50%||357.2%||fail|
|Current Ratio > 1.3||1.46||pass|
|Opportunities||Return on Equity > 15%||20.2%||pass|
|Valuation||Normalized P/E < 20||25.69||fail|
|Dividends||Current Yield > 2%||10.4%||pass|
|5-Year Dividend Growth > 10%||(32.9%)||fail|
|Total Score||4 out of 10|
Source: Capital IQ, a division of Standard and Poor's. Total score = number of passes.
With a score of 4, Frontline doesn't look perfect. But you'd expect a company that relies on healthy economies and demand for transported goods to suffer during a global recession, and Frontline's recent fall in revenues certainly reflects that.
Looking at the broader tanker-shipping industry, you'll find that its competitors share many of the same traits. Both DryShips (Nasdaq: DRYS ) and Teekay (NYSE: TK ) have relatively high debt levels and have seen revenues drop in the past year. Fellow high-yielder Nordic American Tanker (NYSE: NAT ) has reined in its dividend payments from lofty 2005 levels, just as Frontline has.
With energy prices high, demand for Frontline's oil tankers may give it a temporary advantage over Diana Shipping (NYSE: DSX ) and other dry bulk shippers. What the entire industry will depend on, though, is lasting economic growth. Until the recovery takes firm hold, expect Frontline and its peers to remain volatile.
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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