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 Honeywell (NYS: HON) 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 Honeywell.
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%
5 out of 10
Source: Capital IQ, a division of Standard & Poor's. Total score = number of passes.
With five points, Honeywell is about halfway to perfection. The conglomerate has businesses with huge scope across the industrial landscape, but thin margins and slow growth have held it back from the top echelon of companies.
Honeywell focuses primarily on the aerospace industry, producing engines, power systems, and other products for commercial and military aircraft. As such, its success depends on the health of the federal government and the commercial aviation sector.
Neither of those areas is healthy right now. On the commercial front, although big orders from AMR (NYS: AMR) , Delta (NYS: DAL) , and potentially Southwest (NYS: LUV) and United Continental could bolster prospects for aircraft maker Boeing (NYS: BA) and Honeywell, big profits for airlines have turned back to losses as fuel costs have soared. And in the defense sector, concerns about possible defense budget cuts have brought valuations on companies like Raytheon (NYS: RTN) and Northrop Grumman (NYS: NOC) down to single-digit multiples.
With a healthy and growing dividend, Honeywell is appealing to a wide range of investors. But the company needs to build on its recent growth spurt if it expects to overcome its challenges to get closer to perfection in the years to come.
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 contributor Dan Caplinger doesn't own shares of the companies mentioned in this article. The Motley Fool owns shares of Raytheon and Northrop Grumman. Motley Fool newsletter services have recommended buying shares of Southwest Airlines. 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.
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