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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 Activision Blizzard (Nasdaq: ATVI ) 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 Activision.
What We Want to See
Pass or Fail?
|Growth||5-year annual revenue growth > 15%||47.9%||Pass|
|1-year revenue growth > 12%||3.8%||Fail|
|Margins||Gross margin > 35%||50.4%||Pass|
|Net margin > 15%||7.3%||Fail|
|Balance sheet||Debt to equity < 50%||0%||Pass|
|Current ratio > 1.3||3.64||Pass|
|Opportunities||Return on equity > 15%||2.9%||Fail|
|Valuation||Normalized P/E < 20||29.49||Fail|
|Dividends||Current yield > 2%||1.3%||Fail|
|5-year dividend growth > 10%||NM||Pass|
|Total Score||5 out of 10|
Source: Capital IQ, a division of Standard and Poor's. NM = not meaningful; Activision started paying a dividend in February 2010. Total score = number of passes.
With a score of five, Activision won't make the top-scoring list. But given tough times that the video game industry has been going through lately, Activision's score is actually somewhat impressive.
Video game manufacturers like Activision are facing the same problem that Hollywood has had for years: milking just the right amount of money from long-running franchises without overstaying their welcome. Between the Electronic Arts (Nasdaq: ERTS ) series Medal of Honor and Take-Two Interactive's (Nasdaq: TTWO ) Grand Theft Auto, gamers are getting bored with the same old, same old.
That makes Activision's acquisition of Blizzard and its World of Warcraft seem like an incredibly smart move, as it provides revenue from die-hard fans willing to pay ongoing subscription prices. With console sales from Microsoft (Nasdaq: MSFT ) and Sony (NYSE: SNE ) down, online gaming seems like the bigger growth area for Activision and its peers.
Despite its growth challenges, Activision has an impressive balance sheet and just started paying a dividend this year. If the company can resurrect the innovation that gave my Atari new life in the early 1980s, it should recover strongly in the coming years.
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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