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 InterOil (NYSE: IOC ) 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 InterOil.
What We Want to See
Pass or Fail?
|Growth||5-Year Annual Revenue Growth > 15%||17.1%||Pass|
|1-Year Revenue Growth > 12%||27.2%||Pass|
|Margins||Gross Margin > 35%||3.6%||Fail|
|Net Margin > 15%||(2.4%)||Fail|
|Balance Sheet||Debt to Equity < 50%||23.6%||Pass|
|Current Ratio > 1.3||1.44||Pass|
|Opportunities||Return on Equity > 15%||(3.9%)||Fail|
|Valuation||Normalized P/E < 20||NM||NM|
|Dividends||Current Yield > 2%||0%||Fail|
|5-Year Dividend Growth > 10%||0%||Fail|
|Total Score||4 out of 9|
Source: S&P Capital IQ. NM = not meaningful due to negative earnings. Total score = number of passes.
Since we looked at InterOil last year, the company has picked up a point. More importantly for shareholders, the stock has bounced back substantially from its year-ago losses, jumping 60% in the past year.
InterOil is part of the revolution going on in the natural gas industry. Because of the growing energy needs of emerging economies in China and India, energy producers are looking for ways to develop viable resources closer to where they're needed. That's the rationale behind both ConocoPhillips' (NYSE: COP ) plans to export liquefied natural gas from Australia, as well as separate plans from both ExxonMobil (NYSE: XOM ) and InterOil to export LNG from Papua New Guinea.
But InterOil faces potential competition from North America. Both Cheniere Energy (NYSE: LNG ) and a joint venture involving Encana (NYSE: ECA ) are planning similar LNG export facilities in Louisiana and British Columbia, respectively, and if they choose to sell to Asia, then they could pose a substantial threat to InterOil, even with its geographical advantage for some markets.
What's making investors especially excited right now, though, is interest from Royal Dutch Shell in possibly entering into a joint venture to help InterOil develop its fields. The stock has shot higher on the partnership speculation, which would validate InterOil's thesis and give the small company the resources it needs to finish its work and get its project moving forward.
For InterOil to improve, the ideal situation would involve a deal with Shell or a similar large energy company to help it make the most of its valuable resources. It'll take time for the story to pan out, but eventually, InterOil could look a lot more like a perfect stock than it does right now.
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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