Is HealthSouth 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 HealthSouth (NYSE: HLS  ) 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 HealthSouth.

Factor

What We Want to See

Actual

Pass or Fail?

Growth 5-Year Annual Revenue Growth > 15% (2.4%) Fail
  1-Year Revenue Growth > 12% 10.7% Fail
Margins Gross Margin > 35% 45.6% Pass
  Net Margin > 15% 43.8% Pass
Balance Sheet Debt to Equity < 50% 297.5% Fail
  Current Ratio > 1.3 1.34 Pass
Opportunities Return on Equity > 15% 3481.7% Pass
Valuation Normalized P/E < 20 11.52 Pass
Dividends Current Yield > 2% 0% Fail
  5-Year Dividend Growth > 10% 0% Fail
       
  Total Score   5 out of 10

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

With five points, HealthSouth gets a reasonable bill of health on this scale. But the health-care provider could face the threat of government budget cuts in the near future.

HealthSouth provides rehabilitative health care to patients. Unfortunately, the company is best known for an accounting scandal that led to an FBI raid in 2003 and eventually an $81 million settlement between the SEC and former CEO Richard Scrushy.

But the company has actually done a fairly good job recovering from its problems early last decade. HealthSouth avoided bankruptcy and has worked hard to cut its huge overhanging debt burden. Still, competitor Select Medical Holdings (NYSE: SEM  ) trades at a cheaper valuation while enjoying faster growth and somewhat less debt on its balance sheet.

More troublesome are general trends throughout the health-care industry. From health insurers UnitedHealth (NYSE: UNH  ) and WellPoint (NYSE: WLP  ) to hospital operators HCA (NYSE: HCA  ) and Tenet Healthcare (NYSE: THC  ) , companies across the field are preparing for big cuts in reimbursement rates from government health programs like Medicare and Medicaid. That's a trend that could also hit HealthSouth.

Earlier this week, HealthSouth shares took a big hit as analysts tried to figure out the potential impact of the administration's deficit reduction plan on the company. With those analysts concluding that billions in Medicaid cuts could cost HealthSouth as much as 20% of its earnings, the resulting sell-off pushed shares down to new lows for the year -- and there could still be more damage to come. For now, HealthSouth doesn't look like it's heading for perfection until some of the current uncertainty ends.

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 the best investments from the rest.

Click here to add HealthSouth 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. The Motley Fool owns shares of UnitedHealth Group. Motley Fool newsletter services have recommended buying shares of WellPoint and UnitedHealth Group and creating a diagonal call position in UnitedHealth Group. 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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