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 Transatlantic Holdings (NYSE: TRH ) 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 Transatlantic Holdings.
What We Want to See
Pass or Fail?
|Growth||5-year annual revenue growth > 15%||2.4%||Fail|
|1-year revenue growth > 12%||(3.2%)||Fail|
|Margins||Gross margin > 35%||4.6%||Fail|
|Net margin > 15%||3.8%||Fail|
|Balance sheet||Debt to equity < 50%||23.8%||Pass|
|Current ratio > 1.3||1.86||Pass|
|Opportunities||Return on equity > 15%||4%||Fail|
|Valuation||Normalized P/E < 20||50.73||Fail|
|Dividends||Current yield > 2%||1.8%||Fail|
|5-year dividend growth > 10%||11.4%||Pass|
|Total Score||3 out of 10|
Source: Capital IQ, a division of Standard & Poor's. Total score = number of passes.
With a score of only three, Transatlantic Holdings doesn't seem to ensure strong returns for shareholders. But the specialty insurance company finds itself in the enviable position of being in a bidding war involving one of the best investors of all time.
On its surface, Transatlantic doesn't look all that special. It has an interesting legacy: It was formerly controlled by AIG (NYSE: AIG ) . But otherwise, the company simply provides insurance and reinsurance on a variety of lines, ranging from general and specialty liability to casualty, marine, and credit insurance.
So when Allied World Assurance (NYSE: AWH ) offered in June to buy out Transatlantic at a 16% premium, everyone seemed to think it was a done deal that would stoke further consolidation in the reinsurance industry after a tough year of catastrophic events around the globe. But then, competitor Validus (NYSE: VR ) made a hostile bid for Transatlantic at a higher price, prompting the adoption of a poison pill from Transatlantic's board.
After that, though, the ultimate white knight came into the picture: National Indemnity Co., a unit of Berkshire Hathaway (NYSE: BRK-A ) (NYSE: BRK-B ) . It made a counteroffer of $52 per share, a sizable premium above both the then-current share price and Allied World's offer.
With three suitors, Transatlantic's days as an independent company seem numbered. The big question is whether the company will squeeze out a higher bid from Berkshire or go with one of its other potential buyers. Although it'll be interesting to follow whoever wins the takeover battle, Transatlantic almost certainly won't reach perfection on its own.
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.