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 Tempur-Pedic (NYSE: TPX ) 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 Tempur-Pedic.
What We Want to See
Pass or Fail?
|Growth||5-Year Annual Revenue Growth > 15%||8.5%||Fail|
|1-Year Revenue Growth > 12%||25.4%||Pass|
|Margins||Gross Margin > 35%||52.7%||Pass|
|Net Margin > 15%||15.4%||Pass|
|Balance Sheet||Debt to Equity < 50%||563.9%||Fail|
|Current Ratio > 1.3||2.56||Pass|
|Opportunities||Return on Equity > 15%||183.8%||Pass|
|Valuation||Normalized P/E < 20||6.96||Pass|
|Dividends||Current Yield > 2%||0%||Fail|
|5-Year Dividend Growth > 10%||0%||Fail|
|Total Score||6 out of 10|
Source: S&P Capital IQ. Total score = number of passes.
With six points, Tempur-Pedic looks like a promising prospect. But the stock has taken a pounding recently, having lost nearly three-quarters of its value just since April.
Until recently, the entire bedding and mattress industry looked like a gold mine. Established stalwart Select Comfort (Nasdaq: SCSS ) had used its well-controlled distribution channels to produce strong sales growth of around 31% in 2011 versus the previous year, while Tempur-Pedic almost matched that pace with a 28% boost in annual revenue. Newly public Mattress Firm (Nasdaq: MFRM ) experienced even faster sales growth, with shares doubling only months after its November IPO.
But then things started going wrong for Tempur-Pedic. In April, the company gave full-year 2012 earnings guidance that disappointed analysts, triggering a 22% slide in the stock. Then, earlier this month, Tempur-Pedic drastically cut that guidance, shaving $1 off its previous EPS forecast. Disappointing results from Mattress Firm pushed it down as well, although more conventional mattress company Sealy (NYSE: ZZ ) has actually held up reasonably well by comparison.
A slowing economy definitely plays into the bear case for Tempur-Pedic. Furniture maker Leggett & Platt (NYSE: LEG ) has risen and fallen along with sentiment about the U.S. economy, with early optimism about an improving housing market more recently giving way to concerns about a slowdown. The same trend affects mattress makers as well.
Where Tempur-Pedic will go from here depends on its business performance. As Fool analyst Anand Chokkavelu notes, if management is just being conservative in its forecasts, then the stock could easily soar once those results come out. But if there's a real problem, then it could be a while before Tempur-Pedic starts to improve toward perfection. As for me, I'm voting for the bullish value case by making a positive CAPScall on Tempur-Pedic.
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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