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 and then decide whether Royal Caribbean (NYSE: RCL ) 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.
- Moneymaking 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 Royal Caribbean.
What We Want to See
Pass or Fail?
|Growth||5-Year Annual Revenue Growth > 15%||7.1%||Fail|
|1-Year Revenue Growth > 12%||9.1%||Fail|
|Margins||Gross Margin > 35%||33%||Fail|
|Net Margin > 15%||6.2%||Fail|
|Balance Sheet||Debt to Equity < 50%||99.9%||Fail|
|Current Ratio > 1.3||0.25||Fail|
|Opportunities||Return on Equity > 15%||5.8%||Fail|
|Valuation||Normalized P/E < 20||21.65||Fail|
|Dividends||Current Yield > 2%||1.6%||Fail|
|5-Year Dividend Growth > 10%||(7.8%)||Fail|
|Total Score||0 out of 10|
Source: S&P Capital IQ. Total score = number of passes.
Since we looked at Royal Caribbean last year, the company lost both of its points. Slowing revenue growth and higher valuations brought the cruise operator's score down to zero, even as its stock rose 25% in the past year.
Late last year, the cruise industry seemed to be looking up. After years of recessionary belt-tightening, Americans want to start spending on vacations again, and cruises often offer good deals for all-inclusive packages with exotic ports of call. In particular, Royal Caribbean's upscale Celebrity Cruise division topped the list of popularity among cruise buyers.
But then, rival Carnival (NYSE: CCL ) suffered two separate incidents, with the grounding and tipover of the Costa Concordia causing numerous deaths and sparking a wave of cancellations across the industry. After a fire in its Costa Allegra's engine room, Carnival again faced criticism for handling the situations badly. Both Royal Caribbean and Disney (NYSE: DIS ) took collateral damage from the incidents, although Disney had already been about 75% booked even before the incidents occurred. Moreover, Expedia (Nasdaq: EXPE ) took steps to boost cruise demand by slashing prices.
One potential growth area for Royal Caribbean is China. As part of an emerging middle class, Chinese consumers are hungry to travel, and Royal Caribbean is building relationships in Chinese ports and trying to make it easier to bring foreign travelers and Chinese adventurers alike to take advantage of the nation's long coastline.
For Royal Caribbean to improve, it needs to convince travelers that not all cruise lines are alike. If it can differentiate itself from Carnival and other rivals, that could be the first step toward getting out of the cellar on our 10-point scale.
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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