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 hhgregg (NYS: HGG) 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 hhgregg.
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: S&P Capital IQ. Total score = number of passes.
Since we looked at hhgregg last year, the stock has dropped a point. Slightly weaker returns on equity are to blame for the fall, but far more concerning for investors is the roughly 20% drop in the stock's price since last March.
Electronics retailers have had a tough time lately. Most cite competition from online giant Amazon.com (NAS: AMZN) as the main problem for retailers, as customers simply use competitors as showrooms to test products before going to Amazon for cheaper deals. But Best Buy (NYS: BBY) and hhgregg are also both victims of a somewhat commoditized experience, offering the same products in roughly the same format without any big differentiating factor. Unlike RadioShack (NYS: RSH) , which gets considerable revenue from high-margin, low-cost items like cables and adapters, hhgregg focuses more on high-end equipment, which has been an especially tough sell during the recession.
Perhaps because of this, short-sellers truly have it in for hhgregg. The company has more than half of its float sold short. That's great for bearish investors when shares are going down, but it can lead to big short-squeeze rallies when good news comes.
Back in January, hhgregg said that its results for the Dec. 31 quarter would be weaker than expected, sending the shares plummeting. Except for a brief pop after the actual earnings announcement met those reduced expectations and an unusual payout from a key-executive insurance policy that netted the company almost $40 million late last month -- or about $1 per share -- the stock has floundered since then.
For hhgregg to improve, it needs to do something to make it worthwhile for customers to go into the store. The untimely death of board chair Jerry Throgmartin, who was the grandson of the company's founders, puts the company in the difficult position of having to decide how to carry forward hhgregg's culture into the next generation and beyond.
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 Best Buy, RadioShack, and Amazon.com. Motley Fool newsletter services have recommended buying shares of hhgregg and Amazon.com, as well as writing covered calls on Best Buy. 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.