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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 if AT&T (NYSE: T ) 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 AT&T.
|Factor||What We Want to See||Actual||Pass or Fail?|
|Growth||5-year annual revenue growth > 15%||24.7%||Pass|
|1-year revenue growth > 12%||0.9%||Fail|
|Margins||Gross margin > 35%||58.9%||Pass|
|Net margin > 15%||17.6%||Pass|
|Balance sheet||Debt to equity < 50%||61%||Fail|
|Current ratio > 1.3||0.67||Fail|
|Opportunities||Return on equity > 15%||19.8%||Pass|
|Valuation||Normalized P/E < 20||12.73||Pass|
|Dividends||Current yield > 2%||5.9%||Pass|
|5-year dividend growth > 10%||5.4%||Fail|
|Total Score||6 out of 10|
Source: Capital IQ, a division of Standard and Poor's. Total score = number of passes.
AT&T's score of six may not be perfect (and it can thank mergers and acquisitions for that stellar top-line growth), but it's a pretty good showing. The bellwether telecom has made some pretty good moves in recent years, but it remains to be seen whether it can keep up its momentum.
So far, AT&T has done a good job transitioning from its declining landline business. Although smaller rural telecoms CenturyLink (NYSE: CTL ) and Frontier Communications (NYSE: FTR ) are making a go at milking legacy voice-line customers as long as they can, AT&T has pinned its hopes for future growth on its wireless network.
Unfortunately, the wireless business has intense competition. Although AT&T did well to tie its fortunes to the highly popular iPhone, it's increasingly likely that Verizon (NYSE: VZ ) will eventually succeed in muscling in on the hot smartphone. Even down-and-out player Sprint Nextel (NYSE: S ) has a head start in the up-and-coming 4G market.
With a healthy dividend and reasonable valuation, AT&T looks attractive to those willing to take the risk of an ever-changing industry. If the company can keep responding well to future innovations, it will remain in an enviable position among surviving telcos.
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 the best investments from the rest.
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