Is Dolby Labs 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 Dolby Laboratories (NYSE: DLB  ) 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 Dolby Laboratories.

Factor What We Want to See Actual Pass or Fail?
Growth 5-Year Annual Revenue Growth > 15% 23% Pass
  1-Year Revenue Growth > 12% 24.2% Pass
Margins Gross Margin > 35% 87.8% Pass
  Net Margin > 15% 31.9% Pass
Balance Sheet Debt to Equity < 50% 0% Pass
  Current Ratio > 1.3 6.40 Pass
Opportunities Return on Equity > 15% 20% Pass
Valuation Normalized P/E < 20 20.08 Fail
Dividends Current Yield > 2% 0% Fail
  5-Year Dividend Growth > 10% 0% Fail
       
  Total Score   7 out of 10

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

Dolby manages to score seven points and comes just a hair away from an eighth. Although the company has faced some hard times lately, it has the dominant position in its industries to stage a comeback.

If it involves sound, odds are that Dolby has something to do with it. The company is the leading provider of audio entertainment technology, with a strong presence in the movie theater, consumer electronics, and software realms. Gaming represents a huge part of Dolby's business, with Microsoft (Nasdaq: MSFT  ) representing 12% of Dolby's revenue and Sony (NYSE: SNE  ) and Electronic Arts (Nasdaq: ERTS  ) also among its customers.

One problem that Dolby has faced stems from the move from PCs to tablets like the iPad. Dolby has high-margin license agreements with notebook makers that it will now need to roll over to tablet makers. However, as companies like Netflix (Nasdaq: NFLX  ) and Amazon.com (Nasdaq: AMZN  ) bring more streaming video into homes, Dolby has an opportunity to make sure its sound technology remains an integral part of the home entertainment experience.

Despite its challenges, Dolby has quite a few attractive elements. Without a dividend, it isn't the perfect stock, but as the industry continues to expand, Dolby should have a place in it for years to come.

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 Dolby Laboratories 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. Microsoft is a Motley Fool Inside Value recommendation. Amazon.com, Dolby Laboratories, and Netflix are Motley Fool Stock Advisor recommendations. Alpha Newsletter Account, LLC has bought puts on Netflix and owns shares of Microsoft. The Fool owns shares of Microsoft. 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 May 02, 2011, at 11:26 AM, ranalysts wrote:

    On April 24, 2011 my data trend and momentum detection system showed upward trend for this stock, i think it has a great potential specially with the earnings announcement due before the end of the week, so lookout for the possible breakout and crossing 55 PT.

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