Is Baidu the Perfect Stock?

Everyone would love to find the perfect stock. But will you ever really find a stock that gives you everything you could possibly want?

One thing's for sure: If you don't look, you'll never find truly great investments. So let's first take a look at what you'd want to see from a perfect stock, and then decide if Baidu (Nasdaq: BIDU  ) fits the bill.

The quest for perfection
When you're looking for great stocks, you have to do your due diligence. It's not enough to rely on a single measure, because a stock that looks great based on one factor may turn out to be horrible in other ways. The best stocks excel in many different areas, which all come together to make up a very attractive picture.

Some of the most basic yet important things to look for in a stock are:

  • 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 don't mean anything if a company can't turn them into profits. Strong margins ensure a company is able to turn revenue into profit.

  • Balance sheet. Debt-laden companies have banks and bondholders competing with shareholders for management's attention. Companies with strong balance sheets don't have to worry about the distraction of debt.

  • Money-making opportunities. Companies need to be able to turn their resources into profitable business opportunities. Return on equity helps measure how well a company is finding those opportunities.

  • Valuation. You can't afford to pay too much for even the best companies. Earnings multiples are simple, but using normalized figures gives you a sense of how valuation fits into a longer-term context.

  • Dividends. Investors are demanding tangible proof of profits, and there's nothing more tangible than getting a check every three months. 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 Baidu.

Factor

What We Want to See

Actual

Pass or Fail?

growth

5-year annual revenue growth > 15%

104.9%*

pass

 

1-year revenue growth > 12%

54.1%

pass

margins

gross margin > 35%

74.3%

pass

 

net margin > 15%

38.9%

pass

balance sheet

debt to equity < 50%

0.0%

pass

 

current ratio > 1.3

3.78

pass

opportunities

return on equity > 15%

45.3%

pass

valuation

normalized P/E < 20

132.31

fail

dividends

current yield > 2%

0.0%

fail

 

5-year dividend growth > 10%

0.0%

fail

       
 

Total Score

 

7 out of 10

Source: Capital IQ, a division of Standard and Poor's.
*As of March 2010.
Total score = number of passes.

A score of 7 is quite good, even if it falls short of perfect. Like many young, high-growth companies, Baidu doesn't pay a dividend, which cuts two points off its score. In addition, the stock is far from cheap, although some would argue that with such amazing growth, using normalized earnings may make the stock look more expensive than it really is. On a forward basis, shares fetch just over 40 times 2011 estimates.

Just as Google (Nasdaq: GOOG  ) has found strong growth in the U.S. browser market, Baidu has dominated the Chinese market with around 70% market share. Yet even as Google has struggled with whether to exit China, Baidu may face new competition from Microsoft (Nasdaq: MSFT  ) , which hopes its Bing search engine may help fill the vacuum of a smaller Google presence. As far as domestic competitors are concerned, though, Baidu doesn't have much to worry about; rival Sohu.com (Nasdaq: SOHU  ) has only a small search-engine presence.

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 the best investments from the rest.

The Motley Fool is recommending 50 stocks in 50 days for its new "11 O'Clock Stock" series. For more information, click here. Then come back to Fool.com every weekday at 11 a.m. ET for a brand-new pick!

True to its name, The Motley Fool is made up of a motley assortment of writers and analysts, each with a unique perspective; sometimes we agree, sometimes we disagree, but we all believe in the power of learning from each other through our Foolish community. 

Fool contributor Dan Caplinger doesn't own shares of the companies mentioned in this article. Google and Microsoft are Motley Fool Inside Value picks. Baidu, Google, and Sohu.com are Motley Fool Rule Breakers recommendations. Motley Fool Options has recommended a diagonal call position on Microsoft. The Fool owns shares of Google and Microsoft. Try any of our Foolish newsletters today, free for 30 days. The Fool has a disclosure policy.


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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 September 21, 2010, at 3:49 PM, plange01 wrote:

    baidu sure layed a beating on the online phone directory google!!

  • Report this Comment On September 22, 2010, at 11:01 AM, ChuckWoolery wrote:

    Great article. This may not be an end-all for assesing stocks in my opinion but these requirements or minimums are a good start to test a stock. As mentioned, I agree high-growth companies that are first starting out may have P/E high valuations combined with no dividends. I looked at Baidu earlier this year before they did the 10:1 split thinking that maybe they would plateau but I was wrong, it keeps going strong. It has a strong moat around it since the Chinese government stepped in to block Google. My only concern is the P/E being so high (over 96 now). Possibly wait for a correction and pick up some shares.

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