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 and then decide whether Chipotle Mexican Grill, Inc. (NYSE:CMG) fits the bill.
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.
- Moneymaking 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 Chipotle.
| Factor | What We Want to See | Actual | Pass or Fail? |
|---|---|---|---|
| Growth | 5-year annual revenue growth > 15% | 20.3% | Pass |
| 1-year revenue growth > 12% | 20.3% | Pass | |
| Margins | Gross margin > 35% | 37.6% | Pass |
| Net margin > 15% | 10.2% | Fail | |
| Balance sheet | Debt to equity < 50% | 0.3% | Pass |
| Current ratio > 1.3 | 2.93 | Pass | |
| Opportunities | Return on equity > 15% | 24.3% | Pass |
| Valuation | Normalized P/E < 20 | 34.53 | Fail |
| Dividends | Current yield > 2% | 0% | Fail |
| 5-year dividend growth > 10% | 0% | Fail | |
| Total score | 6 out of 10 |
Source: S&P Capital IQ. Total score = number of passes.
Since we looked at Chipotle last year, the company has kept its 6-point score for the third year in a row. But the stock has fallen nearly 20% over the past year as Chipotle finally hit a roadblock in its lightning-fast growth.
Chipotle’s troubles began last summer, when the company announced a slowdown in customer traffic and a drop in comparable sales growth below the key 10% figure. That trend has continued, and in its most recent quarterly results from earlier this month, Chipotle saw only 3.8% growth in same-store sales, well below its long-term trend.
With food inflation playing a role in squeezing margins, Chipotle and its peers are fighting harder than ever to emphasize their respective strengths. Yum! Brands, Inc. (NYSE:YUM) got an endorsement from David Einhorn, who argues that its Taco Bell unit is taking business away from Chipotle. At the same time, new player Chuy’s Holdings Inc (NASDAQ:CHUY) is seeking to expand across the country, and although its focus is more on the casual-dining segment than on speedy food, its price points are fairly close to Chipotle’s.
Still, Chipotle has tapped into one of the biggest trends among restaurants: lower-calorie offerings. As customers start to value food quality, Chipotle stands to gain from the increased traffic among those seeking healthier fare from their fast-casual food. Even though McDonald’s Corporation (NYSE:MCD) and Denny’s Corporation (NASDAQ:DENN) have offered low-calorie menus, they both still lack the perception of being health-conscious, and that should give Chipotle a big advantage over both companies.
For Chipotle to improve, it needs to restore investor confidence in its growth prospects. If its ShopHouse Asian Kitchen concept takes off, that could be the growth driver Chipotle needs to get closer to perfection.
The article Has Chipotle Become the Perfect Stock? originally appeared on Fool.com and is written by Dan Caplinger.
Fool contributor Dan Caplinger has no position in any stocks mentioned. The Motley Fool recommends and owns shares of Chipotle Mexican Grill and McDonald’s.
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