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 Teva Pharmaceutical (Nasdaq: TEVA ) 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 Teva Pharmaceutical.
What We Want to See
Pass or Fail?
|Growth||5-Year Annual Revenue Growth > 15%||20.9%||Pass|
|1-Year Revenue Growth > 12%||14.6%||Pass|
|Margins||Gross Margin > 35%||55.6%||Pass|
|Net Margin > 15%||18.6%||Pass|
|Balance Sheet||Debt to Equity < 50%||26.9%||Pass|
|Current Ratio > 1.3||1.25||Fail|
|Opportunities||Return on Equity > 15%||14.7%||Fail|
|Valuation||Normalized P/E < 20||12.63||Pass|
|Dividends||Current Yield > 2%||2.6%||Pass|
|5-Year Dividend Growth > 10%||24.9%||Pass|
|Total Score||8 out of 10|
Source: Capital IQ, a division of Standard & Poor's. Total score = number of passes.
When we looked at Teva Pharmaceutical last year, it only managed seven points. A drop in valuation and a dividend boost helped give it extra points in those categories, but the company lost a point in seeing its current ratio fall slightly.
Teva has made a name for itself in producing generic drugs. With its huge size, Teva can outmuscle smaller competitors like Mylan (Nasdaq: MYL ) and Watson Pharmaceuticals (NYSE: WPI ) through economies of scale in production. Given Teva's favorable margins and returns on equity over those competitors, it's clear that size produces a competitive advantage.
But by itself, the generics market is essentially a race to the bottom over the long run. That's one reason why Teva has tried to diversify more into branded drugs. Its multiple sclerosis drug Copaxone has produced good results for years. To get a bigger pipeline, Teva managed to outbid Valeant Pharmaceutical (NYSE: VRX ) to buy out Cephalon (Nasdaq: CEPH ) , a specialty pharmaceutical company.
One interesting trend about Teva is watching where its growth is coming from. Back in July, the company announced an 82% increase in European sales but saw North American generic sales drop 40%. By contrast, Mylan saw a big increase in North American sales.
If Teva continues its current course toward broadening its scope, then spending on acquisitions could well pose a threat to its now-healthy balance sheet. But the corresponding growth could more than offset that downside. Teva still looks poised to stay near perfection for the indefinite future.
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.