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 Hewlett-Packard (NYSE: HPQ ) 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 Hewlett-Packard.
What We Want to See
Pass or Fail?
|Growth||5-Year Annual Revenue Growth > 15%||6.8%||Fail|
|1-Year Revenue Growth > 12%||1.0%||Fail|
|Margins||Gross Margin > 35%||23.8%||Fail|
|Net Margin > 15%||5.6%||Fail|
|Balance Sheet||Debt to Equity < 50%||78.5%||Fail|
|Current Ratio > 1.3||1.01||Fail|
|Opportunities||Return on Equity > 15%||17.7%||Pass|
|Valuation||Normalized P/E < 20||8.44||Pass|
|Dividends||Current Yield > 2%||1.7%||Fail|
|5-Year Dividend Growth > 10%||4.6%||Fail|
|Total Score||2 out of 10|
Source: S&P Capital IQ. Total score = number of passes.
Since we looked at Hewlett-Packard last year, the tech company hasn't been able to improve its two-point score. The company went through another change in leadership over the past year, but investors are hopeful that new CEO Meg Whitman can finally steer a better course for the tech giant.
HP has had a series of unfortunate problems lately. After launching its TouchPad tablet, the company found that few buyers were interested. Rumors even surfaced that Best Buy (NYSE: BBY ) wanted to return more than 200,000 TouchPads it had as unsold inventory. Eventually, HP had to hold a $99 fire sale to purge the tablets. Meanwhile, former CEO Leo Apotheker made a series of missteps, including trying to spin off the company's PC business as well as buying British software company Autonomy for a whopping $10 billion.
But many are hopeful that Whitman will make the right moves to bring HP back to prosperity. She reassured investors and customers that the company will keep selling computers. To woo developers, she decided to allow the WebOS to become open-source.
The real question for shareholders is whether HP can walk a fine line between its core hardware business and its promising software business. In hardware, rival Dell (Nasdaq: DELL ) has also struggled with the commodity-like aspects of the PC business. Yet in software, Oracle (Nasdaq: ORCL ) and IBM (NYSE: IBM ) have unquestionably focused more of their efforts toward growth, giving them a big head start over HP. If Whitman can walk that line and find a balanced approach toward growth, then HP has plenty of potential to 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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