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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 whether General Mills (NYSE: GIS ) 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 General Mills.
|Factor||What We Want to See||Actual||Pass or Fail?|
|Growth||5-Year Annual Revenue Growth > 15%||5.4%||Fail|
|1-Year Revenue Growth > 12%||1.2%||Fail|
|Margins||Gross Margin > 35%||39.4%||Pass|
|Net Margin > 15%||11%||Fail|
|Balance Sheet||Debt to Equity < 50%||119.7%||Fail|
|Current Ratio > 1.3||1.08||Fail|
|Opportunities||Return on Equity > 15%||26.8%||Pass|
|Valuation||Normalized P/E < 20||16.41||Pass|
|Dividends||Current Yield > 2%||3.1%||Pass|
|5-Year Dividend Growth > 10%||10.4%||Pass|
|Total Score||5 out of 10|
Source: Capital IQ, a division of Standard and Poor's. Total score = number of passes.
General Mills rounds up a midrange score of 5. The cereal giant has an honored place on many families' breakfast tables, but some troubling trends could squeeze profits in the near future.
During the recession, many feared that premium brands like General Mills would fall prey to cheaper store brands as customers sought to cut costs wherever they could. But although the company's revenue growth slowed, sales didn't drop. And lower costs helped boost profits in the most recent fiscal year.
Those lower costs look like they won't last. The big concern going forward is food inflation, and Kraft Foods (NYSE: KFT ) and ConAgra (NYSE: CAG ) have joined General Mills in stating that higher input costs threaten to overwhelm their efficiency-related gains. General Mills has hedges in place for some of those rises, but eventually, the company will have to figure out whether to suffer decreasing margins or pass on higher costs to customers.
On the financial side, General Mills is in better shape than competitor Kellogg (NYSE: K ) , with a healthier balance sheet, higher net margins, and a slightly lower valuation. Meanwhile, it has better returns on equity than Ralcorp Holdings (NYSE: RAH ) , which produces the Post cereal line, although Ralcorp has had much stronger growth in recent years.
As a dividend-paying stalwart, General Mills is a conservative pick for income-hungry investors. It faces some headwinds, but over the long haul, it should be able to navigate higher costs and reward long-term shareholders.
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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