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 McCormick & Company, Incorporated (NYSE:MKC) 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 McCormick.
| Factor | What We Want to See | Actual | Pass or Fail? |
|---|---|---|---|
| Growth | 5-year annual revenue growth > 15% | 6.6% | Fail |
| 1-year revenue growth > 12% | 8.6% | Fail | |
| Margins | Gross margin > 35% | 40.3% | Pass |
| Net margin > 15% | 10.2% | Fail | |
| Balance sheet | Debt to equity < 50% | 68.9% | Fail |
| Current ratio > 1.3 | 1.08 | Fail | |
| Opportunities | Return on equity > 15% | 24.6% | Pass |
| Valuation | Normalized P/E < 20 | 24.89 | Fail |
| Dividends | Current yield > 2% | 2.1% | Pass |
| 5-year dividend growth > 10% | 9.2% | Fail | |
| Total score | 3 out of 10 |
Source: S&P Capital IQ. Total score = number of passes.
Since we looked at McCormick last year, the company hasn’t been able to regain the point it lost from 2011 to 2012. But the stock has spiced up many portfolios with a 25% gain over the past year.
McCormick is famous for its name-brand spices. But much of McCormick’s revenue comes from less visible markets, such as its sales to institutional food companies. Fully 40% of its revenue in 2012 came from its industrial business, where PepsiCo, Inc. (NYSE:PEP) and Yum! Brands, Inc. (NYSE:YUM) rely on McCormick to provide flavoring for their respective food offerings.
Still, McCormick has been vulnerable to pressure from private-label spice brands. Although major customer Wal-Mart Stores, Inc. (NYSE:WMT)‘s test of private-label spices a few years ago hasn’t hurt McCormick’s revenue, the threat remains palpable throughout the industry. In response, McCormick has increasingly played a vital role in actually providing store-brand spices to grocery stores, sacrificing some margins to maintain its competitive moat.
In its most recent quarterly report, McCormick disappointed investors with somewhat weak earnings. Even though Motley Fool Inside Value analyst Joe Magyer argues that it’s still expensive at current valuations, big drops in McCormick’s stock don’t happen very often, and the business still dependably produces ample free cash flow and a solid dividend that has risen every year for more than a quarter-century.
For McCormick to improve, it needs to find new avenues for faster growth and to do its best to shore up its margins. Combine that with some minimal work on its balance sheet, though, and it’s clear that McCormick could rise up toward perfection fairly quickly with minimal effort.
The article Has McCormick 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 McCormick and (NYSE:MKC) PepsiCo and owns shares of PepsiCo.
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