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 Domino's Pizza (NYSE: DPZ ) 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 Domino's Pizza.
What We Want to See
Pass or Fail?
|Growth||5-Year Annual Revenue Growth > 15%||1.7%||Fail|
|1-Year Revenue Growth > 12%||6.1%||Fail|
|Margins||Gross Margin > 35%||28.3%||Fail|
|Net Margin > 15%||5.8%||Fail|
|Balance Sheet||Debt to Equity < 50%||NM||NM|
|Current Ratio > 1.3||1.97||Pass|
|Opportunities||Return on Equity > 15%||NM||NM|
|Valuation||Normalized P/E < 20||19.01||Pass|
|Dividends||Current Yield > 2%||0%||Fail|
|5-Year Dividend Growth > 10%||0%||Fail|
|Total Score||2 out of 8|
Source: Capital IQ, a division of Standard & Poor's. NM = not meaningful due to negative shareholder equity. Total score = number of passes.
With just two points, Domino's Pizza isn't getting much of a rise out of its financials. But the shares have been on fire recently, and some good news yesterday helped keep the party going.
Domino's is well known for its pizza, but its business model may not be as familiar to investors. Essentially, Domino's uses a franchise model that keeps its own financial risk down while still reaping big benefits from franchisees. The company not only gets royalties but also profits from its supply chain, which allows it to pass on any cost increases directly to franchise owners.
Unfortunately, there's plenty of competition in the pizza space. Restaurant competitors include Yum! Brands' (NYSE: YUM ) Pizza Hut, Papa John's (Nasdaq: PZZA ) , and a whole mess of private companies including California Pizza Kitchen, which was recently bought out. But Domino's handles its public rivals very well, with returns on capital that far exceed Pizza Hut and Papa John's -- thanks to its capital-light franchise model.
Yesterday, Domino's announced very strong second-quarter results. Revenue and profit figures came in well above estimates, and the company announced strong same-store sales both in the U.S. and internationally. More importantly for its long-term prospects, the company said that it would refinance its debt, likely to take advantage of relatively low interest rates.
As with chain restaurant companies like Starbucks (Nasdaq: SBUX ) and McDonald's (NYSE: MCD ) , international expansion is the key to Domino's future success. With some help from a lighter debt load, Domino's could deliver perfection to shareholders before too long.
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."