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 Cisco Systems (Nasdaq: CSCO) 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 Cisco Systems.


What We Want to See


Pass or Fail?

Growth 5-year annual revenue growth > 15% 10.3% Fail
  1-year revenue growth > 12% 19.2% Pass
Margins Gross margin > 35% 62.6% Pass
  Net margin > 15% 17.9% Pass
Balance sheet Debt to equity < 50% 33.4% Pass
  Current ratio > 1.3 2.81 Pass
Opportunities Return on equity > 15% 17.4% Pass
Valuation Normalized P/E < 20 18.18 Pass
Dividends Current yield > 2% 1.4% Fail
  5-year dividend growth > 10% NM NM
  Total Score   7 out of 9

Source: Capital IQ, a division of Standard and Poor's. NM = not meaningful; Cisco just began paying a dividend. Total score = number of passes.

With seven points, Cisco demonstrates that it has had an illustrious past. But more recently, the company has had a lot of trouble keeping up with its competition, and many believe that the best days for the stock are over.

As the leading seller of network hardware, Cisco is seen as having spearheaded the building of the infrastructure of the Internet. Its long-term growth is consistent with that position, although its share price has lagged because of the extent to which it got pushed up during the tech bubble.

But lately, Cisco's strategy has started misfiring. With governments around the world looking to implement austerity measures and cut costs, Cisco's emphasis on selling to them isn't driving growth the way it used to, causing it to have problems that competitors Juniper Networks (NYSE: JNPR) and F5 Networks (Nasdaq: FFIV) aren't having.

In addition, the company hasn't kept up on the acquisition front. Even as big tech giants like Oracle (Nasdaq: ORCL) and IBM (NYSE: IBM) have sought to pick up companies to make them more competitive as cloud computing becomes more prevalent, Cisco has found itself behind the times. Competitors have even forced the company out of unrelated businesses, such as Apple's (Nasdaq: AAPL) iPhone making Cisco's Flip camcorder moot.

Cisco certainly has the resources to recover from its steep dive lately. But it has to demonstrate that it has the will and determination to do so. If it doesn't act soon, Cisco may look a lot less perfect in the years ahead.

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.

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This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium advisory service. We’re motley! Questioning an investing thesis -- even one of our own -- helps us all think critically about investing and make decisions that help us become smarter, happier, and richer.