Has Elan 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 Elan (UNKNOWN: ELN.DL2  ) 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 Elan, noting that in light of recent events which we'll discuss below, all of these past financials are no longer indicative of the company's future.

Factor

What We Want to See

Actual

Pass or Fail?

Growth

5-year annual revenue growth > 15%

16.5%

Pass

 

1-year revenue growth > 12%

20.4%

Pass

Margins

Gross margin > 35%

47.7%

Pass

 

Net margin > 15%

27.1%*

Pass

Balance sheet

Debt to equity < 50%

102.4%

Fail

 

Current ratio > 1.3

3.06

Pass

Opportunities

Return on equity > 15%

46.7%*

Pass

Valuation

Normalized P/E < 20

NM

NM

Dividends

Current yield > 2%

0%

Fail

 

5-year dividend growth > 10%

0%

Fail

       
 

Total score

 

6 out of 9

Source: S&P Capital IQ. All figures based on trailing 12 months as of 2012 Q3 release. NM = not meaningful due to negative normalized GAAP earnings. Total score = number of passes. *Based on continuing operations as of 2012 Q3.

Since we looked at Elan last year, the company has gained a point, adding to the two points it jumped from 2011 to 2012. But the stock hasn't responded positively, sinking by nearly 30% in the past year, and now, it faces a transformative event.

Elan is best known for its Tysabri drug, the multiple sclerosis treatment that it shared with Biogen Idec (NASDAQ: BIIB  ) . Yet in the biggest news for the company of the past year, Elan decided to sell out its 50% share of Tysabri rights to Biogen, taking $3.25 billion in upfront cash, as well as royalties of 12% during the first year and a tiered 18% to 25% royalty on sales in subsequent years. The move should help Biogen compete more effectively against MS rivals by allowing it to coordinate sales of Tysabri with fellow MS drug Avonex and its soon-to-be-approved BG-12 oral drug without worrying about cannibalizing its own revenue stream.

For Elan, though, the deal leaves the company with plenty of cash and no clear substantial revenue from continuing operations. Another drug to which Elan had retained financial rights, bapineuzumab, didn't pan out when Johnson & Johnson (NYSE: JNJ  ) and Pfizer said in July that one of its late-stage trials didn't show the drug was effective in treating Alzheimer's. The company spun off its Prothena (NASDAQ: PRTA  ) drug discovery unit in December and recently sold off its shares of Alkermes (NASDAQ: ALKS  ) that it obtained from selling off its drug technology unit, leaving it with a minimal pipeline.

The big question is what Elan will do with all of its cash. If it uses the money to buy back shares or pay dividends to shareholders, then the recent drop will be unwarranted. But if it wastes the money on ill-advised acquisitions, Elan could end up being worthless in the long run. In either event, Elan isn't going to move toward perfection at all until it comes up with a viable business strategy for its future.

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.

Johnson & Johnson is big enough to swallow Elan whole if it wanted to, but many investors think that J&J is already nothing but a bloated corporate whale. Find out whether the health-care conglomerate's diversification is an asset or a liability in our premium report on J&J, which explains the company's story in terms that any investor can understand. Claim your copy, and a year of free analyst updates, by clicking here now.

Click here to add Elan 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 (2)

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 February 11, 2013, at 3:41 PM, jimmoy wrote:

    Elan has a lot of cash now having basically liquidated itself in the past couple of years.

    They now have no sales force (they sacked them all).

    They now have no scientists (they spun them off).

    They now have no manufacturing (they sold it).

    All they have left now is one of the worst rated management teams around who have been involved in several notable wall street 'events' on their watch.

    and ...large piles of cash, which IMO they will undoubtably convert into small piles of cash and managment bonuses and stock options in the coming years.

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