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 Kinder Morgan Energy Partners (NYSE: KMP ) 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 Kinder Morgan.
What We Want to See
Pass or Fail?
|Growth||5-Year Annual Revenue Growth > 15%||(1.9%)||Fail|
|1-Year Revenue Growth > 12%||9.2%||Fail|
|Margins||Gross Margin > 35%||36.8%||Pass|
|Net Margin > 15%||15.2%||Pass|
|Balance Sheet||Debt to Equity < 50%||181.2%||Fail|
|Current Ratio > 1.3||0.44||Fail|
|Opportunities||Return on Equity > 15%||18.1%||Pass|
|Valuation||Normalized P/E < 20||27.34||Fail|
|Dividends||Current Yield > 2%||6.3%||Pass|
|5-Year Dividend Growth > 10%||7.1%||Fail|
|Total Score||4 out of 10|
Source: Capital IQ, a division of Standard and Poor's. Total score = number of passes.
Kinder Morgan weighs in with a mediocre score of 4. As a master limited partnership operating energy pipelines, Kinder Morgan has a great dividend, but its growth prospects and overhang of debt resulting from big capital investments count against the stock.
Even though some of its metrics leave something to be desired, among energy master limited partnerships, Kinder Morgan's numbers look more normal. Enterprise Products Partners (NYSE: EPD ) has also struggled with slow recent growth and high debt levels, and pays a smaller dividend yield to boot. Moreover, the industry is particularly challenging right now: Enbridge Energy Partners (NYSE: EEP ) hasn't even been able to eke out a profit over the past 12 months.
But Kinder Morgan has made some strategic moves that could augur well for its future. It recently bought a big part of Petrohawk Energy's (NYSE: HK ) natural gas business in the Haynesville area. If reshuffling of assets continues in the industry, Kinder Morgan may be able to consolidate its presence and produce growth through acquisition.
In the long run, Kinder Morgan stands to gain most if the domestic energy industry continues to grow. With oil pushing $90 per barrel, the odds of that happening seem increasingly likely. So even though Kinder Morgan falls short of perfection right now, things may look a lot better in the years to come.
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.