Has Darden Restaurants 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 Darden Restaurants (NYSE: DRI  ) 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 Darden Restaurants.

Factor

What We Want to See

Actual

Pass or Fail?

Growth

5-year annual revenue growth > 15%

7.4%

Fail

 

1-year revenue growth > 12%

6%

Fail

Margins

Gross margin > 35%

23.3%

Fail

 

Net margin > 15%

5.9%

Fail

Balance sheet

Debt to equity < 50%

115.8%

Fail

 

Current ratio > 1.3

0.39

Fail

Opportunities

Return on equity > 15%

25.5%

Pass

Valuation

Normalized P/E < 20

15.39

Pass

Dividends

Current yield > 2%

4.3%

Pass

 

5-year dividend growth > 10%

22.8%

Pass

       
 

Total score

 

4 out of 10

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

Since we looked at Darden Restaurants last year, the company kept its four-point score. Shareholders didn't get a big payoff, with about a 5% gain for the stock over the past year.

Darden is the company behind well-known eateries Olive Garden and Red Lobster. The chains have a loyal following and have appeared at or near the top of American Customer Satisfaction Index polls, and as a result, Darden has managed a stronger operating margin than rival Brinker International (NYSE: EAT  ) and its Chili's chain, as well as paying a higher dividend yield.

Throughout much of the year, Darden performed extraordinarily well, with shares hitting an all-time high in late September. Part of that success has come from tracking customer information to help company staff serve customers better and attract individual customers with the promotions they'll want most.

Yet more recently, the company has run into trouble. Last week, Darden reduced its 2013 guidance, sending the shares to a 52-week low. Although restaurants across the industry, including McDonald's (NYSE: MCD  ) and Yum! Brands (NYSE: YUM  ) , are seeing similar sales trends, Darden seems to be having trouble even connecting with its customers. With patrons seeking maximum value when they dine out, Darden may have to redevelop its menu offerings with a brand-new paradigm in mind.

Moreover, controversy is swirling around Darden's tests at relying more on part-time employees in order to cut costs under health care regulations. In response, the company has said it won't demote any full-time workers to part-time status now, but it doesn't rule out using more part-time help in the future. With Papa John's (NASDAQ: PZZA  ) CEO having commented about the potential to find ways around regulations requiring coverage for full-timers, the issue is heated right now.

For Darden to improve, it needs to get revenue at its mainstay restaurant chains moving in the right direction. With a healthy dividend, though, Darden could easily attract investors if it can turn its sales around.

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.

To understand the challenges Darden faces in the restaurant industry, it's helpful to understand what fast-food leader McDonald's is dealing with as it aggressively expands around the world. After making investors rich in 2011, McDonald's has been one of the worst-performing blue chip stocks this year. Is it time to sell McDonald's? Our analysts shed light on that question with an in-depth look at the fast-food giant. Click here now to read our premium research report on the company.

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


Read/Post Comments (1) | Recommend This Article (0)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On December 11, 2012, at 5:03 PM, codykeats wrote:

    "Last week, Darden reduced its 2013 guidance, sending the shares to a 52-week low."

    Not true. DRI's 52 week low (42.72) occurred in 2011. Please get your facts correct.

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