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 McCormick (NYSE: MKC ) 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 McCormick.
|Factor||What We Want to See||Actual||Pass or Fail?|
|Growth||5-Year Annual Revenue Growth > 15%||4.8%||Fail|
|1-Year Revenue Growth > 12%||3.4%||Fail|
|Margins||Gross Margin > 35%||42.5%||Pass|
|Net Margin > 15%||10.7%||Fail|
|Balance Sheet||Debt to Equity < 50%||71.2%||Fail|
|Current Ratio > 1.3||1.20||Fail|
|Opportunities||Return on Equity > 15%||26.1%||Pass|
|Valuation||Normalized P/E < 20||20.38||Fail|
|Dividends||Current Yield > 2%||2.4%||Pass|
|5-Year Dividend Growth > 10%||10.5%||Pass|
|Total Score||4 out of 10|
Source: Capital IQ, a division of Standard and Poor's. Total score = number of passes.
McCormick's score of 4 doesn't look very spicy. But there's more to the company than its ubiquitous presence on the grocery-store spice aisle.
Spices might seem like a luxury that consumers would have given up during the recession. But its strong brand, combined with the fact that a little spice goes a long way, has helped the company maintain revenue despite tough times.
What you probably don't know, though, is that McCormick also gets a lot of its business from commercial food makers. PepsiCo (NYSE: PEP ) , Yum! Brands (NYSE: YUM ) , and General Mills (NYSE: GIS ) are among McCormick's industrial clients, which give the spicemaker about 40% of its revenue. And although PepsiCo and Wal-Mart (NYSE: WMT ) are important enough customers that losing them would have the company's financials leaving a sour taste in investors' mouths for a while, there's no reason to believe those relationships are in any danger right now.
Meanwhile, McCormick was recently named to the Dividend Aristocrats list as it marked its 25th consecutive year of paying higher dividends to shareholders. Although shares have gotten pricey enough to weigh in just above the cutoff on our valuation test, future dividend growth could make current prices look cheap.
With fairly high debt levels and slow growth, McCormick doesn't qualify as the perfect stock. But for conservative investors looking for stability, it's a reasonable way to spice up your portfolio.
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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