Has Raytheon Become the Perfect Stock?

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 Raytheon (NYSE: RTN  ) 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 Raytheon.

Factor	What We Want to See	Actual	Pass or Fail?
Growth	5-year annual revenue growth > 15%	2.8%	Fail
�	1-year revenue growth > 12%	(1.5%)	Fail
Margins	Gross margin > 35%	21.8%	Fail
�	Net margin > 15%	7.7%	Fail
Balance sheet	Debt to equity < 50%	57.8%	Fail
�	Current ratio > 1.3	1.57	Pass
Opportunities	Return on equity > 15%	23.0%	Pass
Valuation	Normalized P/E < 20	10.44	Pass
Dividends	Current yield > 2%	3.7%	Pass
�	5-year dividend growth > 10%	14.4%	Pass
�	�	�	�
�	Total score	�	5 out of 10

Source: S&P Capital IQ. Total score = number of passes.

Since we looked at Raytheon last year, the company hasn't managed to regain the point it lost from 2011 to 2012. But the stock has managed to put in a modest gain of between 5% and 10% over the past year.

Raytheon performed better in 2012 than the numbers above would suggest. Throughout the industry, several defense contractors have seen sales contract as the Pentagon and other buyers retrench due to challenging economic conditions. Yet what has set Raytheon apart is its ability to maintain industry-leading margins, dwarfing the much less efficient Lockheed Martin (NYSE: LMT  ) and Boeing (NYSE: BA  ) , which have both struggled to keep costs down in order to limit margin compression.

In recent months, though, the threat of automatic defense spending cuts under sequestration has had an impact on Raytheon's stock. Yet what Washington calls "cuts" usually means merely a slowdown in spending growth, and analysts still expect Raytheon's revenue to grow at a fairly solid pace of nearly 6% in the coming five years. That stands in contrast to Northrop Grumman (NYSE: NOC  ) , which is seen having contracting sales in future years.

One big success for Raytheon has come from its missile systems. So far this year, Raytheon has sold about $1 billion in Patriot missiles to various buyers via the Defense Department. In addition to missiles, the company has also boosted sales of space and airborne systems as well as its integrated defense segment. Those moves should help Raytheon avoid the full brunt of any cuts.

For Raytheon to improve, it needs to work on cleaning up its balance sheet just marginally. Also, if it can find new sources of revenue, they could get Raytheon closer to perfection in the years ahead.

Keep searching
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.

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