Has Permian Basin Royalty Trust 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 and then decide whether Permian Basin Royalty Trust (NYSE: PBT  ) 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 Permian Basin Royalty Trust.

Factor

What We Want to See

Actual

Pass or Fail?

Growth

5-Year Annual Revenue Growth > 15%

1.6%

Fail

 

1-Year Revenue Growth > 12%

0.7%

Fail

Margins

Gross Margin > 35%

100%

Pass

 

Net Margin > 15%

98.3%

Pass

Balance Sheet

Debt to Equity < 50%

0%

Pass

 

Current Ratio > 1.3

1.00

Fail

Opportunities

Return on Equity > 15%

7,285.8%

Pass

Valuation

Normalized P/E < 20

17.15

Pass

Dividends

Current Yield > 2%

6%

Pass

 

5-Year Dividend Growth > 10%

1.7%

Fail

       
 

Total Score

 

6 out of 10

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

Since we looked at Permian Basin Royalty Trust last year, the trust has managed to pick up a point, with its valuation falling somewhat. Unfortunately for existing unitholders, that valuation drop has come from a 25% decline in the share price over the past year.

As its name plainly states, Permian Basin is a royalty trust tied to production in the Permian Basin area of west Texas, specifically several properties on the Waddell Ranch. As with similar trusts covering different areas, including San Juan Basin Royalty Trust (NYSE: SJT  ) in northwestern New Mexico and BP Prudhoe Bay (NYSE: BPT  ) on Alaska's North Slope, Permian Basin's value depends not only on prevailing oil prices in the market but also on the production curves of the particular properties the trust owns.

One nice thing about Permian Basin is that it makes distributions to investors monthly. Yet over the past several months, the trust's payouts have dropped dramatically, pushing its yield well below that of Prudhoe Bay, as well as Pengrowth Energy (NYSE: PGH  ) , a former Canadian royalty trusts that were forced to convert to corporate status due to changes in Canadian tax law.

Permian Basin also faces a particular challenge that could threaten forward payments. ConocoPhillips (NYSE: COP  ) has asserted that it overpaid Permian by $5.9 million. If those assertions prove true, then Permian Basin shareholders could have to endure further dividend declines in order to repay Conoco.

For Permian Basin to improve, it needs one or both of two things to happen: oil prices to rise and production levels to strengthen. Without those factors, Permian Basin will struggle ever to reach perfection.

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.

Permian Basin Royalty Trust has plenty of potential, but why not invest in the one company in the energy sector that can hold fast no matter what oil costs? Find out why this company is "The Only Energy Stock You'll Ever Need" in The Motley Fool's popular free report. Click here for the inside scoop while it lasts.

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

Fool contributor Dan Caplinger and The Motley Fool have no positions in the stocks mentioned above. Try any of our Foolish newsletter services free for 30 days. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.


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