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 Wendy's (NYSE: WEN ) 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 Wendy's.
What We Want to See
Pass or Fail?
|Growth||5-Year Annual Revenue Growth > 15%||14.3%||Fail|
|1-Year Revenue Growth > 12%||2.9%||Fail|
|Margins||Gross Margin > 35%||25%||Fail|
|Net Margin > 15%||1%||Fail|
|Balance Sheet||Debt to Equity < 50%||67.4%||Fail|
|Current Ratio > 1.3||2.21||Pass|
|Opportunities||Return on Equity > 15%||1.6%||Fail|
|Valuation||Normalized P/E < 20||35.65||Fail|
|Dividends||Current Yield > 2%||1.8%||Fail|
|5-Year Dividend Growth > 10%||(24.2%)||Fail|
|Total Score||1 out of 10|
Source: S&P Capital IQ. Total score = number of passes.
Since we looked at Wendy's last year, the company has dropped a point. Slowing revenue growth was responsible for the drop, but the company made a major strategic move over the past year that could boost its prospects going forward.
Wendy's has come a long way in the past year. Last spring, the company sold off its Arby's chain, which had performed badly since their merger in 2008. That improved focus has helped the company climb above Burger King to become the No. 2 burger-selling fast-food chain in U.S. sales volume.
But quick-serve food remains a highly competitive area. McDonald's (NYSE: MCD ) has thrived by branching out beyond its traditional menu to offer everything from smoothies to fancy coffee drinks. Meanwhile, fast-casual alternatives Chipotle Mexican Grill (NYSE: CMG ) and Panera (Nasdaq: PNRA ) have a perception of offering higher-quality ingredients -- albeit at the expense of convenience of driving up to a pick-up window.
One way Wendy's is answering the call is to expand internationally. The company opened its first store in Tokyo last year and expects to add 100 others in Japan over the next five years. Still, with the popularity of Yum! Brands' (NYSE: YUM ) KFC throughout much of Asia, Wendy's will have an uphill battle to gain a bigger foothold there.
To see further improvement, Wendy's needs to keep looking beyond the U.S. market for growth. With so many players in the space, however, it could be quite a while before Wendy's starts to approach perfection.
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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