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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 Macy's (NYSE: M ) 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 Macy's.
What We Want to See
Pass or Fail?
|Growth||5-Year Annual Revenue Growth > 15%||(0.2%)||Fail|
|1-Year Revenue Growth > 12%||5.3%||Fail|
|Margins||Gross Margin > 35%||40.3%||Pass|
|Net Margin > 15%||4.9%||Fail|
|Balance Sheet||Debt to Equity < 50%||115.3%||Fail|
|Current Ratio > 1.3||1.49||Pass|
|Opportunities||Return on Equity > 15%||22.3%||Pass|
|Valuation||Normalized P/E < 20||11.22||Pass|
|Dividends||Current Yield > 2%||2.4%||Pass|
|5-Year Dividend Growth > 10%||(0.4%)||Fail|
|Total Score||5 out of 10|
Source: S&P Capital IQ. Total score = number of passes.
Since we looked at Macy's last year, the company has picked up two points. Improvement in its current ratio and dividend yield are what pulled the score up, and a roughly 10% rise in the stock over the past year has made shareholders happier with the retailer.
The retail sector has walked on eggshells over the past several years as shoppers have struggled to retain their discretionary spending power in light of the recession and slow recovery. Although warmer weather this winter helped bring customers back into stores, comparisons now are starting to come down to more normal levels.
Still, Macy's is lagging behind some of its competitors. Same-store sales at Macy's for June were up 1.2%, less than the 1.9% rate analysts had expected. By contrast, rival Nordstrom (NYSE: JWN ) saw June same-store sales soar 8.1%, and Saks posted a 6% gain -- both beating estimates. Moreover, department store Dillard's (NYSE: DDS ) has outpaced Macy's soundly on earnings growth, yet it trades at a much lower multiple to earnings.
But Macy's has gotten some benefits from a competitor's missteps. With J.C. Penney (NYSE: JCP ) having moved away from promotional discounts toward "everyday" values, Macy's believes it has gained customers who've misunderstood Penney's new strategy. Moreover, ongoing weakness from Sears Holdings (Nasdaq: SHLD ) could also open up potential new business for Macy's.
For Macy's to keep improving, it needs to continue to pull customers away from weaker competitors and grab onto its mid-scale niche. Once the economy firms up, Macy's should be in a strong position to capitalize and grab its share of new business.
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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