Monday, 4 August 2008

Evaluating Changing Fundamentals (Part 3 of 5)


Company: ___________________
Ticker: ___________________
Prepared by: ___________________
Date: ___________________

Douglas Gerlach



o EPS or revenue growth is slowing or falling.
· Company may be entering a new stage of slower growth or stagnation.
· If considering additional purchase, use caution. The worse a company performs, the better a value it may appear on the SSG.

o Quarterly pre-tax profits are falling.
· Use PERT graph to evaluate PTP.
· Three quarters of consecutive declining PTP are a danger sign.
· Five consecutive declining quarters are usually a definitive sign to sell.

o Cash flow is diverging from net income.
· If free cash flow is falling while net income is stable or rising, company may be "propping up" profits.

o Other fundamentals are deteriorating.
· Accounts receivable rising faster than sales.
· Inventories rising faster than sales.

o There has been an uncertain change of management.
· Dynamic company leader retires, replacement has questionable qualifications.
· Senior executives leave en masse.
· Those responsible for past success are no longer with the company.

o Company faces direct or indirect competition.
· Competitors threaten to affect the company's long-term prosperity.
· Companies with very high profit margins are often susceptible to increased, cutthroat competition.

o Company faces uncertain product cycle.
· Company is too dependent on single product.
· No new products in pipeline (such as pharmaceutical companies).

o Company has uncontrolled raw material costs.
· Can harm profit margins.
· If company doesn't hedge, they may have no option but to pay higher prices for necessary materials.

o Company is the victim of fraud or "accounting irregularities."
· If the books are being cooked, investors will be last to know.
· No way for investors to know if management is lying, or auditors are covering up.
· Get out fast; these are not quality companies.

o Company's debt rating has been lowered.
· Can often be an early warning sign of greater problems in the future.


· Don't hesitate to sell in retirement accounts where taxes aren't an issue.
Don't automatically buy because a stock falls in price; re-evaluate as if new.
If you won't purchase additional shares of a fallen stock, why would you continue to hold it?
Don't "wait to get your money back" from the stock – it doesn't know you own it.
· Don't be paralyzed by uncertainty.
· Don't be an ostrich with your head in the sand –
face up to the problem.
· Remember NAIC's Rule of Five.
· Use Challenge Tree to continually upgrade your portfolio.
· Think "replace," not "remove."

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