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 Diamond Offshore (NYSE: DO) 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 Diamond Offshore.

Factor

What We Want to See

Actual

Pass or Fail?

Growth 5-Year Annual Revenue Growth > 15% 15.3% Pass
  1-Year Revenue Growth > 12% (4.2%) Fail
Margins Gross Margin > 35% 52.5% Pass
  Net Margin > 15% 28.7% Pass
Balance Sheet Debt to Equity < 50% 36.1% Pass
  Current Ratio > 1.3 4.78 Pass
Opportunities Return on Equity > 15% 24.6% Pass
Valuation Normalized P/E < 20 12.99 Pass
Dividends Current Yield > 2% 4.9% Pass
  5-Year Dividend Growth > 10% 11.8%* Pass
       
  Total Score   9 out of 10

Source: Capital IQ, a division of Standard and Poor's. *Includes special dividends paid. Total score = number of passes.

Diamond Offshore falls just short of perfection with a score of nine. Despite some obvious turbulence in the drilling industry, the company has done a good job delivering growth, although it hit a snag over the past year.

With oil prices having risen significantly over the past five years, Diamond Offshore has done its best to capitalize, driving growth and seeing impressive profits. The company has faster long-term growth rates than competitors Ensco (NYSE: ESV) and Nabors (NYSE: NBR), and investors expect that trend to continue into the future.

But last year's Gulf disaster put a dent in the company's progress. Even though the government has started issuing Gulf permits again, Diamond and Transocean (NYSE: RIG) have moved assets out of the Gulf toward areas with less-strict regulation. Moreover, pressure from Seadrill (NYSE: SDRL) and its impressive world-class drilling fleet has forced Diamond to change its long-held strategy of merely upgrading old rigs rather than building new ones.

Just last week, Diamond Offshore posted mostly positive results for its second quarter. After a year of poorer year-over-year results, sales and income both rose compared to the second quarter of 2010 and outpaced Wall Street's expectations. A big increase in expected downtime spooked the shares, but with backlog on the rise, Diamond Offshore shouldn't be lacking for business anytime soon.

Drilling is a cyclical business, and Diamond's low valuation reflects an expected reversal in profits in the future. But for now, Diamond is firing on all cylinders, and if it can only find some growth in the next year, it could well become a perfect stock soon.

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.

Click here to add Diamond Offshore to My Watchlist, which can find all of our Foolish analysis on it and all your other stocks.

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."

Fool contributor Dan Caplinger doesn't own shares of the companies mentioned in this article. The Motley Fool owns shares of Diamond Offshore, Ensco, and Transocean. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Fool has a disclosure policy.