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 Nutrisystem (Nasdaq: NTRI ) 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 Nutrisystem.
What We Want to See
Pass or Fail?
|Growth||5-Year Annual Revenue Growth > 15%||(9.6%)||Fail|
|1-Year Revenue Growth > 12%||(17.8%)||Fail|
|Margins||Gross Margin > 35%||48.4%||Pass|
|Net Margin > 15%||2.8%||Fail|
|Balance Sheet||Debt to Equity < 50%||44.8%||Pass|
|Current Ratio > 1.3||2.20||Pass|
|Opportunities||Return on Equity > 15%||16.4%||Pass|
|Valuation||Normalized P/E < 20||34.11||Fail|
|Dividends||Current Yield > 2%||6.3%||Pass|
|5-Year Dividend Growth > 10%||0%||Fail|
|Total Score||5 out of 10|
Source: S&P Capital IQ. Total score = number of passes.
Since we looked at Nutrisystem last year, the company has lost a point. Earnings multiples have soared even as the stock has dropped 20% in the past year, and new threats have appeared from the pharmaceutical industry that could hurt Nutrisystem's prospects going forward.
With its tailor-made meals designed for weight control and loss, Nutrisystem has had a big opportunity for years as concerns about obesity become more widespread. Going beyond its mail-order food offerings, the company has expanded into grocery stores.
Yet the problem that Nutrisystem shares with rivals Weight Watchers (NYSE: WTW ) and Medifast (NYSE: MED ) is the fact that customers don't tend to stick with the program for long. With low retention rates, Nutrisystem can't recoup the large marketing and advertising expenses it puts into getting customers in the door in the first place.
Moreover, the recent FDA approval of Arena Pharmaceuticals' (Nasdaq: ARNA ) anti-obesity drug Belviq poses an even bigger problem for Nutrisystem. Given the choice between higher-priced food that requires constant monitoring and a diet pill, many potential customers will turn away from Nutrisystem. And if VIVUS (Nasdaq: VVUS ) gets its Qnexa anti-obesity drug approved, it could be one more hurdle for Nutrisystem to overcome.
For Nutrisystem to improve, it needs to find ways to stimulate growth while keeping its already-compressed margins up. That's a tough assignment, but it's the only way that Nutrisystem has a chance to become a perfect stock -- and at best, it's something that could take years to achieve.
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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