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 Tellabs (Nasdaq: TLAB ) 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 Tellabs.
What We Want to See
Pass or Fail?
|Growth||5-Year Annual Revenue Growth > 15%||(9.2%)||Fail|
|1-Year Revenue Growth > 12%||(23.0%)||Fail|
|Margins||Gross Margin > 35%||39.4%||Pass|
|Net Margin > 15%||(24.9%)||Fail|
|Balance Sheet||Debt to Equity < 50%||14.7%||Pass|
|Current Ratio > 1.3||3.08||Pass|
|Opportunities||Return on Equity > 15%||(18.0%)||Fail|
|Valuation||Normalized P/E < 20||NM||NM|
|Dividends||Current Yield > 2%||2.5%||Pass|
|5-Year Dividend Growth > 10%||NM||NM|
|Total Score||4 out of 8|
Source: S&P Capital IQ. NM = not meaningful; Tellabs started paying a dividend in May 2010 and had negative earnings over the past 12 months. Total score = number of passes.
Since we looked at Tellabs last year, the company has gained a point. But the stock has lost a quarter of its value in the past year as it has faced big competitive challenges in the communications equipment industry.
Tellabs provides networking equipment for major telecom companies. That has given Tellabs exposure to the revolution in wireless and broadband access, but it also leaves it at the mercy of big customers. Last fall, Tellabs plunged as Verizon (NYSE: VZ ) , AT&T (NYSE: T ) , and Clearwire (Nasdaq: CLWR ) failed to spend as much on its network infrastructure products as it had hoped. Despite a pop earlier this year when AT&T and Verizon suggested that they would spend more in the first half of 2012, that higher spending hasn't really materialized, hurting networking peer Finisar (Nasdaq: FNSR ) as well as Tellabs.
Still, with the cyclical nature of the telecom industry, a rebound could help pull Tellabs back to profitability. Much of those recovery prospects rely on how quickly AT&T and Verizon work to upgrade their networks.
For Tellabs to improve, it desperately needs help from its big customers. Without their committing to Tellabs as a major supplier, the equipment-maker may never reach 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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