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 Trinity Industries (NYS: TRN) 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 c an'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 Trinity Industries.
What We Want to See
Pass or Fail?
5-Year Annual Revenue Growth > 15%
1-Year Revenue Growth > 12%
Gross Margin > 35%
Net Margin > 15%
Debt to Equity < 50%
Current Ratio > 1.3
Return on Equity > 15%
Normalized P/E < 20
Current Yield > 2%
5-Year Dividend Growth > 10%
2 out of 10
Source: Capital IQ, a division of Standard and Poor's. Total score = number of passes.
With just two points, Trinity Industries isn't heading down the track very fast. The railroad industry has been moving ahead strongly in recent years, but Trinity seems to have been left behind.
Trinity makes railcars that railroad companies use to ship freight. Railroads have seen a huge rebound, as high energy costs make rail transportation cheaper than shipping by truck. CSX (NYS: CSX) and Norfolk Southern (NYS: NSC) have been big beneficiaries of this trend, and so you'd naturally think it would extend to companies like Trinity that help railroads function.
But even last year, railroads had a huge number of idle railcars, suggesting that Trinity and competitors Greenbrier Companies (NYS: GBX) , FreightCar America (NAS: RAIL) , and American Railcar Industries (NAS: ARII) would need to see a big turnaround before order backlogs would start climbing again.
Apparently, that hasn't happened yet. Yesterday, the company announced second quarter earnings that fell short of expectations. Even worse, it substantially lowered guidance for the current quarter. Combined with $2.5 billion in net debt, mediocre growth prospects, and a fairly high valuation, that has many investors spooked.
Trinity compares reasonably well against its competitors, but none of them looks particularly strong right now. Unless the rail expansion lasts long enough to force railroads to restock their railcar fleets, Trinity won't start approaching perfection for a long time.
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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At the time thisarticle was published Fool contributorDan Caplingerdoesn't own shares of the companies mentioned in this article.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 adisclosure policy.
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