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 LinkedIn 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 LinkedIn.
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 LinkedIn last year, the company has kept its five-point score. Growth has continued at a ridiculous pace, but the company is still struggling to try to make a substantial profit. Still, promising progress has helped the stock climb more than 80% over the past year.
Among social-media companies, LinkedIn has been the exception to the general rule. Most companies in the space have been dependent on advertising for their sales from the beginning, leaving them vulnerable to ad gluts and changing economic conditions. Even industry-giant Facebook gets nearly 85% of its revenue from ad sales, and Facebook has had trouble adapting that ad model from the mature PC market to work on cutting-edge smartphones and tablets. That's been a big part of why Facebook's progress has disappointed investors lately, and why LinkedIn, with only about a quarter of its sales coming from advertising last year, is soaring.
The question going forward for LinkedIn, though, is whether it can sustain its positive network effect to become the undisputed leader in the business social-media space. Monster Worldwide used to have a much stronger presence in personnel-based online services, but LinkedIn has quickly eaten into its business. As its customers have gravitated toward using LinkedIn to an ever-greater extent, Monster has struggled with huge declines in sales and earnings, and the stock reflects investors' lack of confidence in Monster's future. Facebook has introduced a new jobs app that could eventually pose a threat, and a new service called Relationship Science could be the next challenge in the space. LinkedIn is on top of its game now, but it has to keep moving forward to sustain its advantage.
For LinkedIn to improve, it needs to keep pushing its premium subscriptions, which will be the biggest source of revenue growth for the foreseeable future. By making the most of that opportunity as well as expanding into corporate enterprise and relationship management, LinkedIn could grow into its valuation 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.
LinkedIn has certainly done a better job than Facebook in rewarding investors, but don't count Facebook out yet. In our premium research report on the social-media colossus, our top social-media analyst explains why there's more to Facebook than meets the eye. Read up on what there is to "like" about the company today and whether we think Facebook deserves a place in your portfolio. Access your report by clicking here.
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The article Has LinkedIn Become the Perfect Stock? originally appeared on Fool.com.
Fool contributor Dan Caplinger has no position in any stocks mentioned. The Motley Fool recommends Facebook and LinkedIn. The Motley Fool owns shares of Facebook and LinkedIn. Try any of our Foolish newsletter services free for 30 days. 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 Motley Fool has a disclosure policy.
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