Is Estee Lauder 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 Estee Lauder (NYSE: EL  ) 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 Estee Lauder.

Factor

What We Want to See

Actual

Pass or Fail?

Growth

5-Year Annual Revenue Growth > 15%

6.4%

Fail

 

1-Year Revenue Growth > 12%

13.0%

Pass

Margins

Gross Margin > 35%

78.1%

Pass

 

Net Margin > 15%

8.0%

Fail

Balance Sheet

Debt to Equity < 50%

46.0%

Pass

 

Current Ratio > 1.3

1.90

Pass

Opportunities

Return on Equity > 15%

30.5%

Pass

Valuation

Normalized P/E < 20

25.85

Fail

Dividends

Current Yield > 2%

0.8%

Fail

 

5-Year Dividend Growth > 10%

13.4%

Pass

       
 

Total Score

 

6 out of 10

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

With six points, Estee Lauder comes out looking pretty well made-up. The cosmetics company has done a good job of cashing in on a thriving luxury market.

At first glance, you might think that in tough times, a cosmetics maker might be the first to see struggling numbers. But as fellow Fool John Grgurich pointed out earlier this week, luxury retailers are thriving even in the sluggish economy, and their stocks are commanding much higher earnings multiples. Just as yoga champion lululemon athletica (Nasdaq: LULU  ) and organic king Whole Foods (Nasdaq: WFM  ) attract investor attention that lower-end industry rivals can't command (even with fairly strong business prospects), Estee Lauder is a cut above Revlon (NYSE: REV  ) .

At least for now, the numbers support that assessment. In its fiscal fourth-quarter report, Estee Lauder reported a 13% jump in sales and 46% higher profits from the year-ago quarter. But the company disappointed analysts by reining in guidance for the coming year, pushing shares lower.

Still, Estee Lauder does face competition. Ulta Salon (Nasdaq: ULTA  ) also posted strong results and has the advantage of having a one-stop salon experience for its customers. In addition, Avon Products (NYSE: AVP  ) and Elizabeth Arden (Nasdaq: RDEN  ) each pose threats, although neither has shown the recent revenue growth that Estee Lauder has seen.

With only a modest dividend and at a fairly pricey valuation, Estee Lauder isn't a perfect stock. But if it can sustain its position in a highly competitive area, it stands a chance to improve in the future.

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 Estee Lauder 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 Whole Foods and Lululemon. Motley Fool newsletter services have recommended buying shares of Lululemon and Whole Foods. 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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