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 AIG (NYS: AIG) 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 AIG.
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%
3 out of 10
Source: S&P Capital IQ. Total score = number of passes.
Since we looked at AIG last year, the company has tripled its score. With huge divestitures, the company has made a lot of progress toward boosting return on equity and achieving a more sustainable valuation, even as its shares were able to eke out a small gain over the past year.
AIG hasn't lost its stigma as one of the tragedies of the financial crisis. Yet the company has done a reasonable job of getting money back to taxpayers, with the government's $182 billion commitment to AIG now paid down to just $45 billion. Even though the government still owns around 70% of AIG, it's working to sell off shares in an orderly fashion to try to prevent a share-price collapse that could come from selling too much at once.
But AIG now looks like a completely different company. Having restructured its operations through sales of divisions and winding down much of its financial-products business, AIG now has two main businesses: its Chartis property/casualty segment that competes against Travelers (NYS: TRV) and Chubb (NYS: CB) , and its SunAmerica life insurance unit that has gone up against MetLife (NYS: MET) , Hartford Financial (NYS: HIG) , and a host of other life insurance companies.
As fellow Fool Tom Jacobs pointed out a few months ago, AIG looks inexpensive compared to its P&C insurer peers Chubb and Travelers on a price-to-book-value basis. But life insurance has pulled down valuations on MetLife and Hartford as well, and the entire industry is struggling from low interest rates and tough financial-market conditions.
For AIG to keep improving, it needs to get itself out from under the government's ownership. Once that's done, the company can focus solely on what it's already been doing reasonably well: continuing to make back money from the debacle of 2008 that could well have led to its failure.
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. 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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