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 Dominion Resources (NYSE: D ) 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 Dominion Resources.
What We Want to See
Pass or Fail?
|Growth||5-Year Annual Revenue Growth > 15%||(3.6%)||Fail|
|1-Year Revenue Growth > 12%||(5.4%)||Fail|
|Margins||Gross Margin > 35%||33.7%||Fail|
|Net Margin > 15%||9.8%||Fail|
|Balance Sheet||Debt to Equity < 50%||182.1%||Fail|
|Current Ratio > 1.3||0.78||Fail|
|Opportunities||Return on Equity > 15%||12.1%||Fail|
|Valuation||Normalized P/E < 20||18.67||Pass|
|Dividends||Current Yield > 2%||4.1%||Pass|
|5-Year Dividend Growth > 10%||7.4%||Fail|
|Total Score||2 out of 10|
Source: S&P Capital IQ. Total score = number of passes.
Since we looked at Dominion Resources last year, the utility has seen its score cut in half. Plunging margins and returns on equity are responsible for the drop.
Dominion is in both the electrical generation and transmission business, serving several states with electricity and natural gas. Until 2010, the Virginia-based utility also had substantial natural gas resources, but it sold them to CONSOL Energy (NYSE: CNX ) to focus on its core business -- although Dominion retained a huge gas-storage facility.
Utility stocks did extremely well in 2011 as investors were attracted to their high dividends. But lately, their valuations have gotten pricey. Dominion, Southern Company (NYSE: SO ) , and Consolidated Edison (NYSE: ED ) all received downgrades recently. Predictably, share prices have retreated somewhat during 2012 in response. Similarly, Exelon (NYSE: EXC ) has seen lower prices for electricity in the markets it serves, hurting the stock.
Nuclear power also remains a concern. Like Southern and Exelon, Dominion has nuclear generating plants, which have come under fire following Japan's Fukushima Daiichi plant disaster.
All that said, an improving economy should eventually help Dominion get closer to perfection. When sales growth reverses, it should boost all of the utility's metrics -- and hopefully get its valuations back to reasonable levels.
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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