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 Home Inns & Hotels Management (Nasdaq: HMIN ) 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 Home Inns & Hotels Management.
What We Want to See
Pass or Fail?
|Growth||5-Year Annual Revenue Growth > 15%||51.0%||Pass|
|1-Year Revenue Growth > 12%||14.5%||Pass|
|Margins||Gross Margin > 35%||39.1%||Pass|
|Net Margin > 15%||9.9%||Fail|
|Balance Sheet||Debt to Equity < 50%||42.8%||Pass|
|Current Ratio > 1.3||2.63||Pass|
|Opportunities||Return on Equity > 15%||12.4%||Fail|
|Valuation||Normalized P/E < 20||29.67||Fail|
|Dividends||Current Yield > 2%||0.0%||Fail|
|5-Year Dividend Growth > 10%||0.0%||Fail|
|Total Score||5 out of 10|
Source: Capital IQ, a division of Standard & Poor's. Total score = number of passes.
With five points, Home Inns & Hotels Management finds a comfortable middle ground in its road to perfection. The Chinese hotel operator has benefited from the boom in the world's most populous nation, but high valuations don't match up well with lackluster returns on equity and a lack of a dividend.
The rise in China's middle class has led to a boom in travel. Travel portals Ctrip.com (Nasdaq: CTRP ) and eLong (Nasdaq: LONG ) have put together long strings of rising revenue, although Ctrip's latest quarter showed that growth decelerating.
Among its peers, Home Inns appears to be the strongest from a financial standpoint. It has better margins and a more attractive valuation than 7 Days (NYSE: SVN ) and China Lodging (Nasdaq: HTHT ) , and while all three hotel chains had a lousy first quarter earlier this year, Home Inns posted the biggest earnings beat of the group in the second quarter.
Still, concerns continue about the state of the real estate market in China. Many people believe that Chinese real estate is in a bubble, and that has pushed shares of Home Inns down substantially over the past year. Yet even after that drop, shares continue to trade at a high multiple to earnings. In addition, as Baidu (Nasdaq: BIDU ) enters the travel aggregator industry, Home Inns will have to navigate the changing competitive waters to maintain its edge.
Home Inns isn't perfect, but it's in the right place at the right time. If the hotelier can keep tapping into China's growth, it could become a perfect stock in time.
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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Finding the perfect stock is only one piece of a successful investment strategy. Get the big picture by taking a look at our "13 Steps to Investing Foolishly."