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 SAP (NYSE: SAP ) 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 SAP.
What We Want to See
Pass or Fail?
|Growth||5-Year Annual Revenue Growth > 15%||8.4%||Fail|
|1-Year Revenue Growth > 12%||18.9%||Pass|
|Margins||Gross Margin > 35%||70.9%||Pass|
|Net Margin > 15%||19.4%||Pass|
|Balance Sheet||Debt to Equity < 50%||34.5%||Pass|
|Current Ratio > 1.3||1.77||Pass|
|Opportunities||Return on Equity > 15%||26%||Pass|
|Valuation||Normalized P/E < 20||19.72||Pass|
|Dividends||Current Yield > 2%||1.4%||Fail|
|5-Year Dividend Growth > 10%||10.6%||Pass|
|Total Score||8 out of 10|
Source: S&P Capital IQ. Total score = number of passes.
With eight points, SAP is looking pretty good. The German business software giant has largely avoided the troubles in Europe, and it's fighting hard to keep up in the fast-evolving tech world.
When most U.S. investors think about tech stocks, they think of the domestic powerhouses that started the tech boom in the 1990s. But over the past three years, overseas companies from countries including Brazil, the U.K., and Germany have had higher returns than U.S. tech stocks.
Of course, SAP's been around for quite a while longer. The company focuses on enterprise-software solutions for big business customers and is a longtime rival to Microsoft (Nasdaq: MSFT ) and Oracle (Nasdaq: ORCL ) . In fact, Oracle sued SAP over a security breach back in 2007, but after a $1.3 billion jury award against SAP, a federal court in California reduced the verdict to $272 million in September.
But cloud computing poses a big threat to SAP's big in-house installations, and so the company is responding to the challenge. Earlier this week, SAP made a big buy, announcing an all-cash deal to buy SuccessFactors (NYSE: SFSF ) for $3.4 billion. The purchase will hurt SAP's earnings in the short run, but SAP expects that it will help boost earnings and revenues within a couple years. Meanwhile, the move helps SAP compete better in the booming cloud-computing realm, standing up to cloud up-and-comers like salesforce.com (NYSE: CRM ) and NetSuite (NYSE: N ) as well as fellow cloud wannabes like Oracle and Hewlett-Packard (NYSE: HPQ ) .
SAP is doing its best to adapt to new conditions. If it's successful, then it may be able to stay close to perfection. But with Europe potentially going into recession, the company will face an uphill battle.
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.
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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."