Has Entropic Communications Become the Perfect Stock?

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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 Entropic Communications (NAS: ENTR) 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 Entropic Communications.

Factor

What We Want to See

Actual

Pass or Fail?

Growth5-Year Annual Revenue Growth > 15%33.3%Pass
 1-Year Revenue Growth > 12%(6.6%)Fail
MarginsGross Margin > 35%55.4%Pass
 Net Margin > 15%8.2%Fail
Balance SheetDebt to Equity < 50%0%Pass
 Current Ratio > 1.310.73Pass
OpportunitiesReturn on Equity > 15%6.5%Fail
ValuationNormalized P/E < 2019.24Pass
DividendsCurrent Yield > 2%0%Fail
 5-Year Dividend Growth > 10%0%Fail
    
 Total Score 5 out of 10

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

Since we looked at Entropic Communications last year, the niche-semiconductor company has lost two points. An abrupt halt in sales growth has hurt the stock badly, and it's unclear exactly how Entropic plans to recover from here.

Entropic went from riches to rags in 2011, as huge revenue gains in 2010 disappeared last year. The company, which specializes in interconnecting Internet, television, and mobile-device media, took a big hit when it said that major customer Verizon (NYS: VZ) had cut its orders last year due to weak demand.

But Entropic is taking steps to try to restart its growth. Earlier this year, it bought the set-top products business of bankrupt Trident Microsystems, along with related intellectual property. Some had feared that STMicro (NYS: STM) or Broadcom (NAS: BRCM) might try to start a bidding war, but in the end, Entropic got the assets at a small premium imposed by the bankruptcy court. In addition, the company has tried to do more business with Intel (NAS: INTC) as it makes its foray into Internet-TV.

The challenges continue, though. Late last month, the company's shares dropped 16% after it gave a weak forecast for its second quarter. Apparently, the Trident acquisition has taken longer than expected to bear fruit.

For Entropic to get back on the road to perfection, it needs to jump-start its revenue growth once again. Unless that happens, the company could find itself struggling to remain relevant in the fast-moving tech revolution.

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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Click hereto add Entropic Communications to My Watchlist, which can find all of our Foolish analysis on it and all your other stocks.

At the time this article was published Fool contributor Dan Caplinger doesn't own shares of the companies mentioned in this article. The Motley Fool owns shares of Intel. Motley Fool newsletter services have recommended buying shares of Intel. 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.

Copyright © 1995 - 2012 The Motley Fool, LLC. All rights reserved. The Motley Fool has a disclosure policy.

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