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 Valero (NYSE: VLO ) 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 Valero.
What We Want to See
Pass or Fail?
|Growth||5-Year Annual Revenue Growth > 15%||3.6%||Fail|
|1-Year Revenue Growth > 12%||48.7%||Pass|
|Margins||Gross Margin > 35%||5.3%||Fail|
|Net Margin > 15%||1.4%||Fail|
|Balance Sheet||Debt to Equity < 50%||47.7%||Pass|
|Current Ratio > 1.3||1.44||Pass|
|Opportunities||Return on Equity > 15%||8.6%||Fail|
|Valuation||Normalized P/E < 20||6.66||Pass|
|Dividends||Current Yield > 2%||2.4%||Pass|
|5-Year Dividend Growth > 10%||(5.8%)||Fail|
|Total Score||5 out of 10|
Source: S&P Capital IQ. Total score = number of passes.
Since we looked at Valero last year, the company has picked up two more points. A slight reduction in debt helped, but the big factor has been the huge drop in the refiner's earnings multiple and the corresponding rise in dividend yield.
Many have seen the refining industry as the junkyard of energy, with its low margins and volatile profits. Marathon Oil (NYSE: MRO ) went so far as to jettison its refining operations into the spinoff Marathon Petroleum (NYSE: MPC ) , and ConocoPhillips (NYSE: COP ) expects to take similar action in the near future.
But Valero is betting on growth in the industry. With purchases of refineries from Chevron (NYSE: CVX ) and Murphy Oil (NYSE: MUR ) , Valero expects favorable pricing to continue -- and with new sources of oil like the Eagle Ford play, the refiner is looking to position itself to reap rewards from them.
Valero's most recent quarterly results show just how far the refiner has come. In the third quarter, Valero quadrupled its year-ago earnings from continuing operations, with 18% higher refining volumes.
Most recently, takeover speculation has boosted shares. But even after the recent rise, shares still look cheap. If you're looking for a way to bet on long-term demand for energy, Valero has plenty of potential -- and could get a lot closer to perfection in the years ahead.
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.