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 whether Starwood Hotels & Resorts (NYSE: HOT ) 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 Starwood.
What We Want to See
Pass or Fail?
|Growth||5-Year Annual Revenue Growth > 15%||(3.3%)||fail|
|1-Year Revenue Growth > 12%||7.8%||fail|
|Margins||Gross Margin > 35%||22.3%||fail|
|Net Margin > 15%||0.6%||fail|
|Balance Sheet||Debt to Equity < 50%||164.7%||fail|
|Current Ratio > 1.3||0.88||fail|
|Opportunities||Return on Equity > 15%||(4.1%)||fail|
|Valuation||Normalized P/E < 20||71.28||fail|
|Dividends||Current Yield > 2%||0.5%||fail|
|5-Year Dividend Growth > 10%||(25%)||fail|
|Total Score||0 out of 10|
Source: Capital IQ, a division of Standard and Poor's. Total score = number of passes.
Starwood can't manage to put up even a single point on the scorecard. With the recession being just the latest in a string of setbacks for the hotel industry, it's not terribly surprising that Starwood doesn't rate well.
2009 was a terrible year for Starwood and the hotel industry generally. Both occupancy rates and average daily rates fell by around 9%, combining to hit revenue per available room, the industry's key metric, by a whopping 17%. As badly as Starwood's shares were hit in the market meltdown, many competitors saw even worse drops, with LaSalle Hotel Properties (NYSE: LHO ) and Ashford Hospitality Trust (NYSE: AHT ) taking more than 90% hits at the March 2009 market bottom.
In the interim, shares have bounced back. But the hotel industry still faces many of the same problems. As the figures above suggest, debt levels are high across the industry. Starwood actually finds itself in the middle of the pack in that regard, as Hyatt (NYSE: H ) and Host Hotels (NYSE: HST ) boast less debt while Marriott (NYSE: MAR ) has an even greater debt load. Yet Marriott is the only one of those four companies that can claim a return on equity greater than 1%, with Host and Starwood both posting losses.
If the recovery continues, then conditions for hoteliers should improve. The question, though, is whether they'll improve enough to help Starwood and its peers dig themselves out of their debt holes. Until things get a lot better, Starwood will have an uphill climb toward becoming the perfect stock.
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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