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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 Coach (NYSE: COH ) 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 Coach.
What We Want to See
Pass or Fail?
|Growth||5-Year Annual Revenue Growth > 15%||15.9%||Pass|
|1-Year Revenue Growth > 12%||18.3%||Pass|
|Margins||Gross Margin > 35%||73.4%||Pass|
|Net Margin > 15%||21.4%||Pass|
|Balance Sheet||Debt to Equity < 50%||3.7%||Pass|
|Current Ratio > 1.3||2.74||Pass|
|Opportunities||Return on Equity > 15%||46.9%||Pass|
|Valuation||Normalized P/E < 20||20.73||Fail|
|Dividends||Current Yield > 2%||1.1%||Fail|
|5-Year Dividend Growth > 10%||NM||NM|
|Total Score||7 out of 9|
Source: Capital IQ, a division of Standard and Poor's. NM = not meaningful; Coach has only paid a dividend since 2009. Total score = number of passes.
With a score of seven, Coach does very well, especially for a retailer. Serving the luxury segment has proven to be a highly successful model over the years.
During the recession, some investors feared that high-end retailers like Coach, which is known for its designer handbags, would suffer. Indeed, some retailers, such as Abercrombie & Fitch (NYSE: ANF ) and American Eagle Outfitters (Nasdaq: AEO ) , struggled to find the right balance between cutting prices to lure customers and sustaining profits. But Coach threaded the recession needle perfectly, adding products at attractive price points while maintaining its huge margins and retaining its emphasis on quality and innovation.
In addition, Coach has done a good job of raising its international sales. It has a strong presence in the Japanese market and has seen big growth in China. Despite recent disappointment with stagnant margins, Coach and its focused strategy have produced margin levels that put those of more general high-end retailers Nordstrom (NYSE: JWN ) and Saks (NYSE: SKS ) to shame. Even Tiffany's (NYSE: TIF ) financials come up short.
Coach appears to be doing all the right things, and as the economy recovers, more customers may be able to move up to the company's higher-end products. That can only serve to make Coach look even closer to perfection 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.
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