January 18, 2011
Is Cirrus Logic the Perfect Stock?
Everyone would love to find the perfect stock. But will you ever really find a stock that gives you everything you could possibly want?One thing's for sure: If you don't look, you'll never find truly great investments. So let's first take a look at what you'd want to see from a perfect stock, and then decide if Cirrus Logic (Nasdaq: CRUS) fits the bill.
The quest for perfectionWhen you're looking for great stocks, you have to do your due diligence. It's not enough to rely on a single measure, because a stock that looks great based on one factor may turn out to be horrible in other ways. The best stocks, however, excel in many different areas, which all come together to make up a very attractive picture.
Some of the most basic yet important things to look for in a stock are:
- 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 don't mean anything if a company can't turn them into profits. Strong margins ensure a company is able to turn revenue into profit.
- Balance sheet. Debt-laden companies have banks and bondholders competing with shareholders for management's attention. Companies with strong balance sheets don't have to worry about the distraction of debt.
- Money-making opportunities. Companies need to be able to turn their resources into profitable business opportunities. Return on equity helps measure how well a company is finding those opportunities.
- Valuation. You can't afford to pay too much for even the best companies. Earnings multiples are simple, but using normalized figures gives you a sense of how valuation fits into a longer-term context.
- Dividends. Investors are demanding tangible proof of profits, and there's nothing more tangible than getting a check every three months. Companies with solid dividends and strong commitments to increasing payouts treat shareholders well.
Factor | What We Want to See | Actual | Pass or Fail? |
|---|---|---|---|
| Growth | 5-year annual revenue growth > 15% | 10.6% | Fail |
| 1-year revenue growth > 12% | 82% | Pass | |
| Margins | Gross margin > 35% | 56% | Pass |
| Net margin > 15% | 25.7% | Pass | |
| Balance sheet | Debt to equity < 50% | 0% | Pass |
| Current ratio > 1.3 | 5.20 | Pass | |
| Opportunities | Return on equity > 15% | 33.6% | Pass |
| Valuation | Normalized P/E < 20 | 32.59 | Fail |
| Dividends | Current yield > 2% | 0% | Fail |
| 5-year dividend growth > 10% | 0% | Fail | |
| Total Score | 6 out of 10 |
Source: Capital IQ, a division of Standard & Poor's. Total score = number of passes.
With a score of six, Cirrus Logic does quite well for a company that's still in the middle of its strong growth spurt. Although it doesn't pay dividends, the niche semiconductor maker has the attractive combination of a debt-free balance sheet, high margins, and strong recent growth.Semiconductors have been a hot industry lately, and growth has especially benefited stocks like Cirrus that cater to smartphone production. TriQuint Semiconductor (Nasdaq: TQNT) and Skyworks Solutions (Nasdaq: SWKS), for instance, produce chips that smartphones need in order to maintain their Internet connections.
But Cirrus has identified a more interesting niche: high-end audio chips. Its reputation for quality earned Cirrus chips a place in Apple's (Nasdaq: AAPL) iPhone, and more importantly, it helps the company maintain its high-margin business. In addition, it's also competing with larger companies like Texas Instruments (NYSE: TXN) in producing chips that manage power consumption.
Cirrus trades at a cheaper multiple than TriQuint and Skyworks despite having better margins and returns on equity. Also, while its "normalized income" above might stand out as high, that's because normalizing income assumes a standard tax rate. With $460 million in net operating losses as of last quarter, Cirrus shouldn't have to worry about a hefty tax bill for many years to come.For those looking to capitalize on the ever-changing world of smartphones as well as getting a foothold into energy conservation, Cirrus looks like a logical choice -- and one that could eventually become a perfect stock.
Keep searchingNo 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.
No stock is perfect.
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