Good value investors always kick the tires. That means really getting to know what a company does, as well as understanding its numbers. It means understanding the story the company is trying to sell investors, as well as how the business fits into the larger economy, and what Wall Street's mood is at the moment.
No one can ever know enough to be certain they're pushing the right buttons on every stock. But here are a few tips I've picked up over the years that can keep you from blindly following the herd into a loser -- or overlooking an ugly winner.
In and of itself, rising debt needn't be a problem. But when sales are slowing and the economy's looking iffy, expanding debt can wave a red flag.
A terrific example is
. I get plenty of people telling me this stock looks like a value candidate because it trades at just 0.24 times book value and 0.45 times sales. Someone's got to make hay out of all the misery in telecom, right?
But when I point out that Qwest's long-term borrowings have increased roughly 21% over last year to $21.4 billion, at a time when sales have actually declined more than 12%, some investors sound surprised. As much as you like the telecom revival story, you can't overlook those nasty interest payments. They get a lot tougher to make as revenue sags.
Let me be clear when I say that in Qwest's case, the debt increase isn't insurmountable. But I'm concerned that the major credit agencies could be pushed to cut their ratings on the company even further, particularly if the rebound in telecom doesn't arrive anytime soon. Ignore debt growth at your own peril, value investors.
Everyone knows in this day and age that a company has to have plenty of cash on hand to make it through the tough times. When you think about the debt problems that a lot of sectors have -- such as the telecom group, which I wrote about above -- the importance of cold cash can't be overstated.
That said, from time to time investors will see a huge increase in cash on the balance sheet and get really excited. But don't jump to conclusions. In many cases, the rising cash level does not mean that a company's operations are growing more profitable -- it may simply mean that the company went to the market to get cash.
That's not always bad either, of course. But stock offerings can dilute existing shareholders, and bond offerings can saddle a company with debt that gets harder to pay back as interest rates rise, folks. Let's look at an example of this.
is a terrific example of what I'm getting at. After the maker of bomb detection equipment released first-quarter earnings April 23, I got some email from investors who saw that the company's war chest had swelled by more than $86 million during the quarter. Alas, that mostly came from an offering of 2.5 million shares on March 27.
Stock offerings are dilutive by nature because the company issues stock that makes each existing share worth a little less. But worse still, equity offerings can provoke other investors to sell. As a result, the stock can take a big hit. So watch out for this, too.
Just because a stock is falling doesn't mean it's going to bounce. Early in my career I watched several of my broker friends accumulate stock in a slew of companies whose share prices had recently been cut in half. The reason they were doing this was simple. They thought that when those stocks rebounded, they would cash out and reap a huge profit.
Trouble is, most of the stocks never rebounded at all. In fact, they kept falling. And the end result was that my buddies not only lost several of their biggest clients, but they were taken to arbitration as well.
This leads me to my point: Don't ever buy into a huge price collapse. Sit back, wait for the stock to level out. And in the interim, review the fundamentals and make certain everything is kosher.
A good example of this recently has been the
selloff. I mean, only six to eight months ago this name looked like a survivor -- I was liking the stock when it was in the double digits. But I saw after a while that the selling just wasn't letting up, and I was getting in deeper and deeper by the day. So I got out of the position at a loss.
Since then, lots of people have asked me what's going on with the stock. Look at the strong data-services business, look at the solid brand name. But the stock has kept on sliding, picking up huge volume along the way and causing some people to talk about bankruptcy. It's been overtaken by negative momentum, in a way, which is why it's probably better to keep waiting this one out for a while.
In short, there are a thousand things that can go wrong with any given investment. But by keeping these tips in mind, I'm confident you'll avoid some very costly errors.
Hey, why not check out a free two-week trial to my
In keeping with TSC's editorial policy, Glenn Curtis doesn't own or short individual stocks. He also doesn't invest in hedge funds or other private investment partnerships. Under no circumstances does the information in this column represent a recommendation to buy or sell stocks. Curtis welcomes your