Is Abercrombie & Fitch 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 Abercrombie & Fitch (NYSE: ANF  ) 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 Abercrombie & Fitch.

Factor What We Want to See Actual Pass or Fail?
Growth 5-Year Annual Revenue Growth > 15% 4.5% Fail
  1-Year Revenue Growth > 12% 18.4% Pass
Margins Gross Margin > 35% 63.8% Pass
  Net Margin > 15% 4.3% Fail
Balance Sheet Debt to Equity < 50% 3.6% Pass
  Current Ratio > 1.3 2.56 Pass
Opportunities Return on Equity > 15% 8.1% Fail
Valuation Normalized P/E < 20 35.73 Fail
Dividends Current Yield > 2% 1% Fail
  5-Year Dividend Growth > 10% 3.1% Fail
       
  Total Score   4 out of 10

Source: Capital IQ, a division of Standard and Poor's. Total score = number of passes.

Abercrombie & Fitch wears a not-so-fashionable 4 as its score. The retailer has faced huge struggles for years, and although things may be looking up for the company, Abercrombie & Fitch still needs to convince skeptical investors who've gotten burned in the past.

Not so long ago, Abercrombie & Fitch was on top of the fashion world, performing well with its target teen audience. But the retailer got hit hard during the recession, as cash-strapped consumers couldn't afford its high price points and had to move down to competitors. For years, the company posted negative annual same-store sales and posted several months of consecutive double-digit drops in comps. In response, the company has done an aggressive cost-cutting campaign. Last year, it announced plans to cut 60 stores in 2010 and 50 more in 2011.

The retailer's moves seem to be bearing fruit. Earlier this month, Abercrombie boosted its guidance for 2012 well above what analysts were expecting, forecasting aggressive moves into international markets seeking to cash in on a global economic recovery. Meanwhile, the stock has run up substantially in hope for better earnings.

But competitors still have the upper hand. Buckle (NYSE: BKE  ) , for instance, has run circles around Abercrombie in running a financially efficient operation. Aeropostale (NYSE: ARO  ) has managed far better comps over the past several years and has adapted more quickly to changing trends. And Urban Outfitters (Nasdaq: URBN  ) has seen more consistent growth and stronger profits, while maintaining its own unique identity that sets it apart from more mainstream retailers like Abercrombie.

Abercrombie may well recover from its long malaise. But with a pricey valuation, the stock isn't terribly compelling at these levels. It certainly doesn't resemble the perfect stock at the moment.

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 Abercrombie & Fitch 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 Aeropostale. 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.


Read/Post Comments (2) | Recommend This Article (3)

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  • Report this Comment On April 08, 2011, at 1:41 PM, DAVE9778 wrote:

    ANF might be flying high now, and they certainly have made improvements, but consider the following:

    - gas and most energy prices are rising

    - food prices are going to rise (due to food, gas etc. costs) grocers won't be able to eat the costs for long

    - clothing prices should rise for the same reasons

    - still too many unemployed

    ANF rebound might be short lived. If I have less money to spend on more expensive goods, it only stands to reason their sales are going to fall again... followed closely the wind going out of the sails

  • Report this Comment On April 11, 2011, at 1:22 PM, redroksaz wrote:

    Check out the traffic in a Hollister store and then walk into an Urban Outfitters or Buckle franchise. You could combine everyone in URBN and BKE into a Hollister store with plenty of room to spare.

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