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 Sohu.com (NAS: SOHU) 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 Sohu.com.
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%
8 out of 10
Source: S&P Capital IQ. Total score = number of passes.
Since we looked at Sohu.com last year, the company has kept its eight-point score. But a big plunge in the Chinese stock market helped cut the stock's price in half as China's Internet services industry gets more competitive.
Sohu is one of the most popular Internet portals in China. But the company has long stood in the shadow of Baidu (NAS: BIDU) , which has a huge edge in market share in online search. The company has gotten a boost from the rising popularity of its Sogou browser, though, and it is also making a big splash in the video-streaming area as well. In addition, it owns a majority interest in gaming company Changyou.com (NAS: CYOU) .
But recent earnings results have raised some concerns about Sohu's long-term prospects. Late last month, the company gave a forecast of slower growth in brand advertising for the current quarter -- the third straight quarter it had done so. As China's economy slows down, so, too, do prospects for future advertising revenue.
Meanwhile, Sohu's share price has gotten so low that some think it could be a takeover target. Baidu is a logical acquirer as it attempts to counter the move of Youku.com (NYS: YOKU) to buy Tudou Holdings (NAS: TUDO) and get a better hold on the video-sharing market.
For Sohu to improve, it needs first and foremost for Chinese economic growth to start ramping up again. If Sohu can start translating more of its revenue growth into higher profits, it should see its recent declines reverse themselves in the near future.
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 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 Baidu. Motley Fool newsletter services have recommended buying shares of Sohu.com and Baidu. 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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