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 Standard Pacific (NYSE: SPF ) 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 Standard Pacific.
What We Want to See
Pass or Fail?
|Growth||5-Year Annual Revenue Growth > 15%||(28.3%)||Fail|
|1-Year Revenue Growth > 12%||(33.7%)||Fail|
|Margins||Gross Margin > 35%||21.3%||Fail|
|Net Margin > 15%||(5.5%)||Fail|
|Balance Sheet||Debt to Equity < 50%||223.5%||Fail|
|Current Ratio > 1.3||8.86||Pass|
|Opportunities||Return on Equity > 15%||(8.1%)||Fail|
|Valuation||Normalized P/E < 20||67.70||Fail|
|Dividends||Current Yield > 2%||0%||Fail|
|5-Year Dividend Growth > 10%||0%||Fail|
|Total Score||1 out of 10|
Source: Capital IQ, a division of Standard & Poor's. Total score = number of passes.
Standard Pacific barely builds a score by notching a single point. The homebuilder has taken a particularly hard hit from the housing bust, and even somewhat positive news recently hasn't established a turnaround.
Everyone knows how hard homebuilders got burned when the housing bubble ended. Toll Brothers (NYSE: TOL ) , PulteGroup (NYSE: PHM ) , and Hovnanian (NYSE: HOV ) are just a few of the many stocks that have seen their revenues plummet in the past five years. But with its focus on California, Standard Pacific felt a lot more pain than many of its more geographically diverse peers.
Moreover, Standard Pacific has a lot more going against it than some of its competitors. At the beginning of the year, the company had more than $1.2 billion in existing home inventory, yet it's planning to make huge amounts of new investment in land this year. That's a calculated gamble, but with huge amounts of debt on its balance sheet, it's one that could backfire on the company sooner than it pays off.
Meanwhile, even after a sharp drop, Standard Pacific still carries a high valuation. Although investors expect it to be profitable next year -- something they don't expect from many other homebuilders, such as KB Home (NYSE: KBH ) -- shares currently fetch 35 times forward earnings estimates. That will make it hard for investors to reap much upside even if things go well.
Just yesterday, Standard Pacific's shares briefly rose more than 10% before finishing lower on the day. Investors reacted positively at first to the company's increase in new orders and work backlog, but the company still lost money, and analysts don't expect Standard Pacific to be profitable until 2012.
Standard Pacific isn't perfect, and it will take a big win on its land-grab bet for it to turn things around. That's a tough play even for a speculative investor to make.
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 Standard Pacific 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."