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 SandRidge Energy (NYS: SD) 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 SandRidge Energy.
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%
6 out of 10
Source: S&P Capital IQ. Total score = number of passes.
Since we looked at SandRidge Energy last year, the company has improved strongly, picking up three full points. Much of the gain in net margin and return on equity came from gains on derivative contracts, which may help explain why the stock is up only 10% in the past year.
SandRidge started out as a natural gas company. But just as peers Chesapeake Energy (NYS: CHK) and Devon Energy (NYS: DVN) have moved toward more lucrative production of oil and natural gas liquids over dry gas, SandRidge chose to build up oil exposure in response to the plunge in natural gas prices that resulted from the shale gas boom. Now, the company sports a wide array of assets in areas including the Permian Basin, the Mississippi Lime, and offshore in the Gulf of Mexico.
SandRidge is looking to expand aggressively over the next three years. As Fool analyst Paul Chi discussed recently, SandRidge has a lot of promising land assets but hasn't yet boosted production levels to anywhere near their full potential, so it has done a good job of disposing of non-core assets to raise cash it can use to invest in drilling to try to boost output.
Still, drilling is expensive, and so SandRidge constantly needs capital to finance its capital expenditures. SandRidge has repeatedly turned to royalty-trust offerings to get some of that much-needed cash, with its SandRidge Mississippian Trust I (NYS: SDT) and SandRidge Mississippian Trust II (NYS: SDR) both offering investors a chance to get tailored exposure to the potential that the Mississippi Lime has.
For SandRidge to keep improving, it will need to get a handle on its expenses and start using cash flow to pay down debt and eventually pay a dividend. For now, though, SandRidge is in growth mode, and as long as energy prices cooperate, that should be a good strategy to get the company closer to perfection in the years ahead.
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.
We've only scraped the surface of the potential that SandRidge Energy has here. Drill deeper and get the whole story by reading the Fool's premium report on SandRidge. It's available right now, so click here and acquire your copy today.
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The article Has SandRidge Energy Become the Perfect Stock? originally appeared on Fool.com.
Fool contributor Dan Caplinger doesn't own shares of the companies mentioned. The Motley Fool owns shares of SandRidge Mississippian Trust II and Devon Energy. Motley Fool newsletter services have recommended buying shares of Devon Energy. 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.