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 Chipotle Mexican Grill (NYSE: CMG ) 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 Chipotle.
What We Want to See
Pass or Fail?
|Growth||5-Year Annual Revenue Growth > 15%||22.5%||Pass|
|1-Year Revenue Growth > 12%||23.6%||Pass|
|Margins||Gross Margin > 35%||37%||Pass|
|Net Margin > 15%||9.5%||Fail|
|Balance Sheet||Debt to Equity < 50%||0.4%||Pass|
|Current Ratio > 1.3||3.18||Pass|
|Opportunities||Return on Equity > 15%||23.2%||Pass|
|Valuation||Normalized P/E < 20||53.84||Fail|
|Dividends||Current Yield > 2%||0%||Fail|
|5-Year Dividend Growth > 10%||0%||Fail|
|Total Score||6 out of 10|
Source: S&P Capital IQ. Total score = number of passes.
Since we looked at Chipotle last year, the fast-food chain has kept its six-point score. The company continues to post impressive growth, but its shares have gotten more expensive from a valuation standpoint.
Chipotle has continued its stellar growth trajectory, with a 24% increase in year-over-year net income for its most recent quarter. Although sales comps grew at a slower pace than the 11.2% posted last year, Chipotle seems to have maintained strong momentum.
Still, Chipotle has had to deal with rising commodity costs -- just like other players in the industry. McDonald's (NYSE: MCD ) suffered from higher food costs that kept its margins down. Like McDonald's, Starbucks (Nasdaq: SBUX ) has passed on some of its rising costs to customers through retail price hikes. Chipotle should be able to do the same when necessary.
Yet Chipotle has gained some important competitive advantages over peers Yum! Brands (NYSE: YUM ) and McDonald's. Chipotle has a sterling reputation for using quality ingredients like naturally raised meat and fresh produce that customers are willing to pay up for. That reputation, along with its food with integrity campaign, mimics what Whole Foods (Nasdaq: WFM ) has done so successfully in the grocery retail business. Also, Chipotle has been expanding, both by opening international locations in Europe as well as by announcing a second ShopHouse Southeast Asian Kitchen in the Washington, D.C. area.
Investors waiting for Chipotle to achieve perfection need to hope for a pullback that thus far has never come. Until the restaurant chain stumbles, Chipotle may just keep on growing -- and seeing its share price soar along with it.
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.
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