Is Xerox the Perfect Stock?

Every investor would love to stumble upon the perfect stock. But will you ever really find a stock that provides everything you could possibly want?

One thing's for sure: You'll never discover truly great investments unless you actively look for them. Let's discuss the ideal qualities of a perfect stock, then decide if Xerox (NYSE: XRX  ) fits the bill.

The quest for perfection
Stocks that look great based on one factor may prove horrible elsewhere, making due diligence a crucial part of your investing research. The best stocks excel in many different areas, including these important factors:

  • 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 mean nothing if a company can't produce profits from them. Strong margins ensure that company can turn revenue into profit.
  • Balance sheet. At debt-laden companies, banks and bondholders compete with shareholders for management's attention. Companies with strong balance sheets don't have to worry about the distraction of debt.
  • Money-making opportunities. Return on equity helps measure how well a company is finding opportunities to turn its resources into profitable business endeavors.
  • Valuation. You can't afford to pay too much for even the best companies. By using normalized figures, you can see how a stock's simple earnings multiple fits into a longer-term context.
  • Dividends. For tangible proof of profits, a check to shareholders every three months can't be beat. 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 Xerox.

Factor What We Want to See Actual Pass or Fail?
Growth 5-year annual revenue growth > 15% 6.6% Fail
  1-year revenue growth > 12% 42.5% Pass
Margins Gross margin > 35% 34.4% Fail
  Net margin > 15% 2.8% Fail
Balance sheet Debt to equity < 50% 74.0% Fail
  Current ratio > 1.3 1.35 Pass
Opportunities Return on equity > 15% 6.5% Fail
Valuation Normalized P/E < 20 15.82 Pass
Dividends Current yield > 2% 1.6% Fail
  5-year dividend growth > 10% NM NM
       
  Total Score   3 out of 9

Source: Capital IQ, a division of Standard & Poor's. NM = not meaningful; Xerox started paying a dividend in 2007. Total score = number of passes.

With just three points, Xerox isn't copying the performance of more perfect stocks. The company that revolutionized photocopying now finds itself in a tough industry with plenty of competition, and that has taken its toll on Xerox's financial prospects.

At one point, Xerox dominated the corporate market for copiers to such an extent that "Xeroxing" a document became part of the English language. Starting as a photographic paper and equipment company, Xerox released the first desktop plain-paper copier in 1963, and followed with a color copier 10 years later.

Now, though, Xerox faces plenty of competition. With the computer-printer segment merging with copiers, Hewlett-Packard (NYSE: HPQ  ) and Canon (NYSE: CAJ  ) now compete directly against Xerox, along with printer specialist Lexmark (NYSE: LXK  ) .

In the past year, Xerox has seen much faster growth than its competition. That comes mostly from its acquisition of Affiliated Computer Services, which expanded Xerox's reach into outsourcing of business processes and information technology. In doing so, Xerox hopes to add some diversity to its revenue stream, trying to move toward a higher-margin service-based model that companies like IBM (NYSE: IBM  ) have executed so well.

For now, Xerox still has a lot of work to do. Until it turns the corner, investors should probably look elsewhere to try to find the perfect stock.

Keep searching
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.

Click here to add Xerox to My Watchlist, which can find all of our Foolish analysis on it and all your other stocks.

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.

Fool contributor Dan Caplinger doesn't own shares of the companies mentioned in this article. The Fool owns shares of IBM. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Fool has a disclosure policy.


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  • Report this Comment On April 07, 2011, at 1:55 PM, gmjohnny wrote:

    Dan,

    I am a veteran the printing and copier industry including 16 years at Xerox. Dont be fooled by the growth at Xerox as it totally by acquisition. They may have had a better year in their core business in 2010 vs 2009, but then who didnt. Another thing to remember is that gross margins in services are WORSE than the break fix services in their core, not higher as you elude to. The real issue with the whole industry, including the competitors you mentioned where I worked, is that volumes are declining by 10-15% per year, with declining margins on the meter charges in colour. Post sale stream revenues are the key for both revenue and profit in that industry and both are in decline. Xerox competitors are strong in other spaces...HP with computing technology...storage and servers, while Canon is strong in camera and breaking into medical. Canon is still too dependant on print, both as the manufacturer of HP laser and their copier MFP sales which represent over 30M over their 45M in revenue. Growth in any print based company without acquisition (organic growth) is impossible. Even Canon acquired Oce which will likely show some growth, but none is organic

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