Has Dow Chemical Become 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 Dow Chemical (NYSE: DOW  ) 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 Dow Chemical.

Factor

What We Want to See

Actual

Pass or Fail?

Growth 5-year annual revenue growth > 15% 4.1% Fail
  1-year revenue growth > 12% 13.9% Pass
Margins Gross margin > 35% 15.8% Fail
  Net margin > 15% 5.3% Fail
Balance sheet Debt to equity < 50% 78% Fail
  Current ratio > 1.3 1.69 Pass
Opportunities Return on equity > 15% 13.5% Fail
Valuation Normalized P/E < 20 11.36 Pass
Dividends Current yield > 2% 3.6% Pass
  5-year dividend growth > 10% (11.3%) Fail
       
  Total score   4 out of 10

Source: S&P Capital IQ. Total score = number of passes.

Since we looked at Dow Chemical last year, the chemical giant has managed to double its score. A big boost in its dividend, combined with earnings growth and a weaker stock price that brought its earnings multiple way down, gave Dow a couple extra points this year.

Throughout the industry, chemical companies are seeing a similar phenomenon: Volume growth has been virtually nonexistent, but higher prices are boosting revenues in dollar terms. From Dow and fellow leader DuPont (NYSE: DD  ) to smaller companies like Eastman Chemical (NYSE: EMN  ) and Huntsman (NYSE: HUN  ) , changes in sales volume have paled in comparison to revenue growth.

Still, Dow's recent results have been solid. In its most recent quarter, the company saw net income rise by more than 50%, with a surprise profit from its agricultural division. As fellow Fool David Lee Smith discussed late last month, five of the company's six segments had promising results, with only the plastics division falling short -- and even it remains the most profitable part of the company.

Being a big company, though, hasn't stopped Dow from making big moves. It recently announced plans to build a major bioplastics operation in Brazil, far outpacing much smaller plans from Metabolix (Nasdaq: MBLX  ) and Cereplast. Dow has also set up a partnership with homebuilder D.R. Horton (NYSE: DHI  ) to introduce solar roofing shingles, as well as a big joint venture with a Saudi oil company to build one of the world's largest chemical facilities.

With all its irons in the fire, Dow is clearly betting on renewed economic growth throughout the world. If it gets its wish, Dow could easily get even closer to perfection in the years ahead.

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 Dow Chemical 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. 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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