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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 BHP Billiton (NYSE: BHP ) 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 BHP Billiton.
What We Want to See
Pass or Fail?
|Growth||5-Year Annual Revenue Growth > 15%||16.3%||Pass|
|1-Year Revenue Growth > 12%||38%||Pass|
|Margins||Gross Margin > 35%||75.9%||Pass|
|Net Margin > 15%||27.3%||Pass|
|Balance Sheet||Debt to Equity < 50%||28%||Pass|
|Current Ratio > 1.3||2.20||Pass|
|Opportunities||Return on Equity > 15%||34.4%||Pass|
|Valuation||Normalized P/E < 20||16.65||Pass|
|Dividends||Current Yield > 2%||1.95%||Fail|
|5-Year Dividend Growth > 10%||23.2%||Pass|
|Total Score||9 out of 10|
Source: Capital IQ, a division of Standard and Poor's. Total score = number of passes.
BHP falls short of being a perfect stock only by a fraction of a percentage point on its dividend yield. The mining company is capitalizing on an excellent environment for producers of natural resources.
Thanks to big price run-ups in commodities nearly across the board, BHP has been producing extremely strong results. In the first half of its fiscal year, BHP made a record $10.5 billion.
Yet BHP isn't resting on its past success. It plans to invest $80 billion in the next five years to boost mining production. The company also clearly wants to diversify its holdings, with its failed bid for PotashCorp (NYSE: POT ) and its recent pickup of shale gas assets from Chesapeake Energy (NYSE: CHK ) . A few years back, it even tried to take over one of its primary competitors, Rio Tinto (NYSE: RIO ) , before regulators scuttled the deal.
The company does have challenges. Recent flooding in Australia has cut coal production by 30%. More importantly, with China playing such a key role in the boom in commodities, any hint of a slowdown for the world's biggest emerging economy could spell trouble for the miner.
Nevertheless, despite all of its recent growth and strong earnings potential, BHP shares remain reasonably priced and pay a decent dividend. To many investors, that's as close to perfect as you need to get.
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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Finding the perfect stock is only one piece of a successful investment strategy. Get the big picture by taking a look at our 13 Steps to Investing Foolishly.