Has McKesson Become the Perfect Stock?

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 McKesson (NYSE: MCK  ) 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 McKesson.

Factor

What We Want to See

Actual

Pass or Fail?

Growth

5-Year Annual Revenue Growth > 15%

5.6%

Fail

 

1-Year Revenue Growth > 12%

7.8%

Fail

Margins

Gross Margin > 35%

5.4%

Fail

 

Net Margin > 15%

1.2%

Fail

Balance Sheet

Debt to Equity < 50%

49.7%

Pass

 

Current Ratio > 1.3

1.10

Fail

Opportunities

Return on Equity > 15%

21.2%

Pass

Valuation

Normalized P/E < 20

16.44

Pass

Dividends

Current Yield > 2%

0.9%

Fail

 

5-Year Dividend Growth > 10%

27.2%

Pass

       
 

Total Score

 

4 out of 10

Source: S&P Capital IQ. Total score = number of passes.

Since we looked at McKesson last year, the company has picked up a point, with its debt-to-equity ratio falling below the 50% level. The stock has also done reasonably well, jumping about 20% in the past year, despite the impact that CEO John Hammergren's exercise of highly profitable stock options may have had on the stock.

McKesson has two main businesses. It's arguably best known for distributing pharmaceuticals and other medical supplies to health-care facilities and retail stores. But it also has an up-and-coming technology segment that focuses on electronic health records, making it easier for medical professionals to get the information they need to do their work well.

In drug distribution, McKesson is bigger than rivals Cardinal Health (NYSE: CAH  ) and AmerisourceBergen (NYSE: ABC  ) , and it's profiting from attempts by the industry to increase use of generic drugs. It may seem paradoxical, but while generics hurt drug-makers' bottom lines, they actually offer better margins for McKesson and its peers. As the leader of the trio of companies that 90% of the drug distribution market, McKesson thrives on changing health-care trends.

But McKesson's foray into health information exchange has just as much if not more growth potential. Allscripts Healthcare Solutions (Nasdaq: MDRX  ) has industry-leading market share in the area, but McKesson is among the many challengers to Allscripts' dominance. With General Electric (NYSE: GE  ) and Microsoft having recently formed its Caradigm joint venture, it's clear that the emphasis on health-care information in the Affordable Care Act has big companies looking closely at the space.

For McKesson to improve, it can't expect margins to expand very far, but it can hope for more growth from heightened health insurance coverage in the years to come. With a strong enough health information business, McKesson looks somewhat more promising than its score would indicate.

Keep searching
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.

McKesson is certainly more of a health-care pure play than General Electric, but with its broader scope, GE makes an interesting investment. Learn a whole lot more about the conglomerate by subscribing to the Fool's premium report service on General Electric. Full access includes a year's worth of updates and is available simply by clicking right here.

Click here to add McKesson to My Watchlist, which can find all of our Foolish analysis on it and all your other stocks.

Fool contributor Dan Caplinger doesn't own shares of the companies mentioned. The Motley Fool owns shares of Microsoft. Motley Fool newsletter services have recommended buying shares of McKesson and creating a synthetic covered call position in Microsoft. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Fool has a disclosure policy.


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