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 Alaska Air (NYSE: ALK ) 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 Alaska Air.
What We Want to See
Pass or Fail?
|Growth||5-Year Annual Revenue Growth > 15%||5.5%||Fail|
|1-Year Revenue Growth > 12%||10.7%||Fail|
|Margins||Gross Margin > 35%||26.7%||Fail|
|Net Margin > 15%||4.8%||Fail|
|Balance Sheet||Debt to Equity < 50%||104.5%||Fail|
|Current Ratio > 1.3||0.99||Fail|
|Opportunities||Return on Equity > 15%||17.7%||Pass|
|Valuation||Normalized P/E < 20||8.74||Pass|
|Dividends||Current Yield > 2%||0%||Fail|
|5-Year Dividend Growth > 10%||0%||Fail|
|Total Score||2 out of 10|
Source: S&P Capital IQ. Total score = number of passes.
Since we looked at Alaska Air last year, the company has dropped a point. A fall in revenue growth is the culprit for the score loss, but the stock has held up pretty well, although it hasn't seen the recovery that some of its peers have enjoyed.
One thing that nearly everyone likes to complain about is the lousy customer experience you get from U.S. airlines. In an industry where leaders Delta Air Lines (NYSE: DAL ) and United Continental (NYSE: UAL ) are among the many carriers earning poor ratings from customers, even being considered "OK" -- as Alaska Air is -- can be a big victory.
But recently, falling fuel costs have started to bring some tailwinds for Alaska Air and its peers. Just last week, an airline analyst pushed up price targets on a number of airlines. Although the analyst believed that US Airways (NYSE: LCC ) would benefit most from a more favorable cost environment, even healthier airlines Southwest, JetBlue (Nasdaq: JBLU ) , and Alaska Air are bound to reap higher earnings if fuel costs come down and stay down.
In addition, one area where Alaska Air shines is in margin. Although a net margin that doesn't even reach 5% may not sound all that extraordinary, it truly stands out among much worse numbers from most of its peers.
For Alaska Air to improve, it needs something that the industry may not start to see: lower costs. With even higher margins, the growth that has been sorely lacking in recent years could start coming back, and with it, the company could once again start gaining altitude toward 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 out the best investments from the rest.
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