Has SAP Become the Perfect Stock?

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 SAP (SAP 0.03%) 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 SAP.

Source: S&P Capital IQ. Total score = number of passes.

Since we looked at SAP last year, the company has lost two points, as valuations soared. But even though earnings growth hasn't been stellar, shareholders have to be happy with its nearly 40% gain over the past year.

SAP is a giant in the enterprise software space. That's been a hot sector lately, as interest in cloud computing continues to rise in the face of a better-developed Internet and increased data flows around the world. During the past year, SAP's arms race of sorts with rival Oracle (ORCL 0.22%) has continued, as Oracle answered SAP's buyout of SuccessFactors with a $1.9 billion bid for Taleo in February.

Moreover, other players have answered the call as well to go up against SAP and Oracle. salesforce.com (CRM -0.18%) responded with its own Work.com human resources service, taking aim at SAP's SuccessFactors. IBM (IBM 1.05%) bought out HR software specialist Kenexa in August, paying $1.3 billion to boost its foray into the cloud.

Potentially most interesting are the small companies taking aim at SAP's bread-and-butter industry. For instance, Workday (WDAY -0.42%) just came public in October, yet it already has a big stable of high-profile customers. With software that's easier to use and requires fewer updates than SAP's, Workday strives to be a complete solution in the HR space.

For SAP to improve, it needs to keep its eyes open for strategic opportunities to buy out up-and-coming rivals. With the emphasis on merger activity in cloud computing, SAP has an advantage with a relatively healthy balance sheet, but it needs to be diligent to stay ahead of Oracle's equally hungry business.

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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