We have been building our Sleuth stock screen to narrow down and find penny stocks to watch. Now that we have our list, it’s time for the next step.

Last week, I talked about eliminating stocks that may be undesirable to you and furthering research on the penny stocks you have left. Only you can decide which stocks will automatically not fit your personal investment goals, but today I wanted to dig a little deeper into two of the technology stocks that popped up on our screen: EarthLink, Inc. (NASDAQ: ELNK) and Rudolf Technologies, Inc. (NASDAQ: RTEC).

EarthLink, Inc.

EarthLink is an Atlanta, Georgia based Internet provider that offers value priced dial up, as well as many other broadband services, to consumers and businesses. They also offer home phone service and Internet based phone (voice over IP or voIP). Most of the company’s revenue comes from customer fees.

Currently EarthLink is trading at less than $8.00 per share and has a market cap of 850 million. Fitting in with the ranges we used to set up the metrics on our screen: the P/E ratio is 10.74, the P/B ratio is 1.13, the net profit margin is 13.10%, and the free cash flow 195.5 million.

At first glance, EarthLink fits perfectly into what we are looking for… and even adds value back to their shareholders by paying out a 2.5% dividend. But it is important to note that EarthLink’s main competitors are huge names in the industry: Comcast, Verizon, Google, and Yahoo!. Also, EarthLink’s net income has been continuously declining over the last four years.

Rudolf Technologies, Inc.

Rudolf Technologies is a New Jersey based company that provides performance inspection and metrology systems. They are currently doing research in emerging markets, such as LED and solar technology, and nearly every major device manufacturer uses Rudolf’s services. A large part of Rudolf’s revenue comes from outside the U.S.

Rudolf is presently trading below $11.00 per share and has a market cap of 335.33 million. In line with our screen: the P/E ratio is 12.47, the P/B ratio is 1.90, the net profit margin is 13.83%, and the free cash flow 14.4 million.

While Rudolf does not pay out dividends to their shareholders, their net income has grown substantially over the last year. It is also important to note that that the company’s business crosses international borders and is actively doing research to grow their already large product line.

Digging Even Deeper

Now that you have done the basic research on the two companies, it is time to rank these companies.

When diving in even further, it may be safe to say that the value of dial-up Internet is declining and the swiftly growing advances of EarthLink’s competitors could put EarthLink at a disadvantage. But if you are an investor looking for value to be paid back to you, the dividend may be a reason to hang on.

But what we are looking for is value and growth. The numbers tell a story here… even though Rudolf may be bringing in less cash annually, their profit margin is slightly higher than EarthLink’s. Also, the company grew its bottom line between 2009 and 2010 where as EarthLink’s has been going straight down.

Going even further, EarthLink isn’t really doing anything new. Everything they have been working on over the last few years is already being done by their competitors. Rudolf, on the other hand, is investing in research to further their competitive edge.

So if I were to rank these two stocks based the information gathered, I would say the benefits of keeping a closer eye on Rudolf outweigh EarthLink.

Sincerely,
Jessica Comitto
Associate Editor, Penny Sleuth

March 11, 2011

Researching Your Way to Small-Cap Gains was originally featured in the Penny Sleuth.

Over the last month we have been building a stock screen to narrow your stock universe down to a manageable watch list of small-cap companies. First, we planted our screen in the small-cap world by limiting the market capitalization and share price.  Than we added other metrics to our screen: Price-to-earnings ratio, price-to-book ratio, net profit margin, and free cash flow.

We are now left with a manageable watch list of penny stocks. Sorting by market capitalization, here is a list of the top ten stocks on our screen:

• Symetra Financial Corporation (NYSE: SYA)

• Astoria Financial Corportation (NYSE: AF)

• F.N.B. Corporation (NYSE: FNB)

• Adams Express Company (NYSE: ADX)

• Aircastle Limited (NYSE: AYR)

• Capstead Mortgage Corporation (NYSE: CMO)

• EarthLink, Inc (NYSE: ELNK)

• Provident Financial Services (NASDAQ: CVBF)

• Blackrock Kelso Capital Corp. (NASDAQ: BKCC)

This leaves us with companies trading between $8.00 and $15.00 a share. The market capitalizations on these companies range between 800 million and 1.7 billion.

Even with a “perfect” screen, you will be inevitably left with stocks you just don’t like.  Your goal shouldn’t be to just pick stocks at random off your list, but to use it as a guideline for further research.

• Your Screen is Just the Start — The first step is to eliminate companies or industries that are undesirable…  For example, if you already know that you do not want to invest in computer technologies, you would want to cross EarthLink off your list.

• Do Your Research — Now that you have eliminated companies that you know you aren’t interested in, it is time to work with the list you have left. Many of the metrics we used should not be used alone, and as we discussed… it is important when reviewing possible investments to compare companies to other companies in the same industry, or even to the industry standard.

If you take Adams Express Company, for example, you will notice that it is in the financial industry. Comparing Adams Express Company to Earthlink, Inc, a technology company, would be like comparing apples to oranges.

Comparing Adams Express Company to Blackrock Kelso Capital Corporation would be one place you could start furthering narrowing down your list. Both of these companies are working in the same industry, both are investment companies.

• Dig Even Deeper — Now that you have compared the companies to their competitors and industry standards… you will want to look for market catalysts and industry trends. These can be good indicators to which stocks on your list could outperform others.

Once you have furthered your research, you should rank the stocks on your screen. Next week, I will be back and we will start ranking a few of the stocks in our Sleuth screen.

Sincerely,
Jessica Comitto
Associate Editor, Penny Sleuth

March 4, 2011

Screening Your Way Toward Profit was originally featured in the Penny Sleuth.

Last week, I covered how you can use net profit margin to gauge a company’s profitability. Our small-cap stock screen is quickly becoming a very manageable watch list. With five simple additions we have already narrowed down the overwhelming world of stocks to 40 small-cap companies.

Today, we will be talking about free cash flow, or FCF.

You can find free cash flow by taking the operating cash flow and subtracting capital expenditures. Operating cash flow can be found as a line item on a company’s statement of cash flows.  Capital expenditures are the expenses a company incurs to acquire or update physical assets (such as real-estate).

FCF shows real money that the company generates right now without being skewed by non-cash accounting numbers. This metric can be useful to identify companies that generate higher cash balances in their bank accounts. Some investors believe the FCF gives a clearer view of the company’s ability to generate cash.

However, there is no easy standard for determining FCF.  Even the savviest investors sometimes disagree on the use of this metric. As with many of the metrics we have been talking about, FCF is not cut and dry…

A lower FCF could indicate that the company is unable to cover its costs and sustain growth in the future. A company without enough FCF may not have enough liquidity to stay in business.

Negative free cash flow is not always bad in itself, though. It could be a sign that the company is making large investments… if these are smart investments that yield high returns, they will pay off in the future.

Companies that show a higher FCF show value.  With more spending money at their fingertips, companies with higher FCF have the cash to develop new products, make acquisitions, pay dividends out to their shareholders, and reduce their debt.

In the small-cap universe, positive FCF is a good indication that share price and earnings will rise.  That is why we are going to set the FCF to greater than zero.

Here is a look at our Sleuth screen so far:

We now have about 30 small-cap companies that have the cash flow to produce value to their shareholders.

Next week it will be time to start looking at the individual companies that have popped up on our Sleuth screen.

Sincerely,
Jessica Comitto
Associate Editor, Penny Sleuth

February 25, 2011

Finding Enhanced Shareholder Value Using “Free Cash Flow” was originally featured in the Penny Sleuth.

Stock screens are one of the best ways to find new investment ideas.  Over the last couple of weeks we have added two metrics, P/E ratio and P/B ratio, to your screen that help you assess the value of a company based on earnings and book value.

While both of these metrics are very useful in finding the value of a stock in relation to a company’s earnings and assets… one very important aspect is left out.

Neither one of these ratios tells you how much money the company is actually bringing in as profit. To find out how profitable a company is, today I want to introduce you to the net profit margin.

The net profit margin can be found by taking a company’s net income and dividing it by a company’s revenues.

Revenue is the entire amount of money a company receives from sales before any deductions. Net income is the company’s revenue subtracting out costs and expenses.  Simply put, revenue is your salary, and net income is your spending money after your bills and other necessary expenses are paid. The net profit margin measures how much out of every dollar in sales the company keeps as earnings and is shown as a percentage.

Finding a company’s net profit margin is a great way to look at a company’s profitability. Many investors could be tempted to look at a company’s net profits alone, but this would not give them the full picture.

The net profit margin doesn’t just give you a quick look into what a company takes home in profits at the end of the day… it also gives you deeper insight into the efficiency of the management.

For example, you have two companies:  Company A brought in $1 million in sales while Company B brought in $2 million. At first glance most may say that Company B would be the better investment because in brought in twice the amount in revenue as Company A.

But, after subtracting out costs (such as salaries and other operating expenses) both Company A and B have a net income of $200,000. Even though Company A brought in less revenue they keep 20% of every dollar they bring in and Company B only keeps 10%.  After looking at the net profit margin one can clearly see that Company A is the more profitable company.

One can also assume that Company A is managing their resources well. Their relative costs are a lot less compared to Company B… by that measure Company A is running more efficiently; they are spending less and therefore keeping more of the money they are bringing in.

So what does net profit margin mean to you as an investor?

A lower net profit margin can indicate a low margin of safety. Because the company is bringing in less income from its operations, in times of economic downturns it could be more likely to start losing money.

It is important to note however that for companies with fast moving inventory, like grocery stores, lower profit margins can be acceptable. Many retailers have a low cost, high volume approach that could cause lower net profit margins.

Companies with higher net profit margins show good indication that the company is doing well.  The higher the net profit margin, the more money a company is making compared to their expenses.

More importantly, companies that are able to grow their net profit margins will usually be rewarded over time with growth in share price— especially when they pass those profits onto shareholders in the form of dividends or share buybacks.

For our screen, to narrow our focus to small-cap companies with reasonable levels of profitability, we will set the net profit margin to greater than 10%.

Here is a look at our stock screen so far:

We are now left with about 40 small-companies that are showing the profits for growth.

Just like the other metrics we have discussed, the net profit margin should not be used alone and can vary by industry. It is always important when evaluating stocks to make sure you are comparing the companies with their industry average (which can be easily found on Yahoo Finance by clicking on “Competitors”).

We are quickly narrowing down a very manageable watch list of stocks. Next week we will add free cash flow to our Sleuth screen.

Sincerely,
Jessica Comitto
Associate Editor, Penny Sleuth

February 18, 2011

Screening Your Way to Profits Using “Net Profit Margin” was originally featured in the Penny Sleuth.

Before the Internet allowed investors access to manage their own portfolios, most investors large and small relied on their brokers to supply them with the best investment ideas.

Researching and narrowing down a list of potential investments could take days, or even weeks.

Now with only a few clicks, online stock screeners allow even the least experienced investors to quickly narrow down stocks based on a wide variety criteria. If used correctly, stock screeners can be the best way to find quality stocks for your portfolio.

However, if you want to use a stock screener affectively, you need to know how to ask for the right stocks.  Understanding what all the different metrics mean and how they are used to filter out a list of stocks that meet your criteria can be overwhelming.

In this weekly series, I will show you how to build a stock screen to find your successful small-cap play.

First, lets get started by checking out a where you can go to set up your ideal stock screener:

• Morningstar: Morning Star offers a selection of research and screeners.

• Portfolio123: Portfolio123 allows for more complex screens.

• FinViz.com: FinViz.com allows investors to visually see stocks based on there chart patterns.

• Google Finance: Google Finance allows investors to select screening criteria in relation to other companies.

• Zachs Stock Screener: Zachs Stock Screener allows investors to get professionally designed screens as well as design their own.

To start, here’s how you narrow down the vast number of companies that are publicly traded.

The first two stock screening metrics I want to introduce you to are share price and market capitalization.

Share price is pretty simple. And as I am sure you already figured out… it is the price it would cost you to buy one share of stock in a particular company.

Market capitalization, or market cap, is the total dollar value of all the company’s outstanding shares. This is used by investors to determine the size of a company.

Since I will be focusing on building a stock screen of penny stocks to watch, setting up these first two metrics will narrow down the stock pool to small-cap companies.

Go ahead and set up your share price for $15.00 or less.  Limiting your share price to under $15.00 will weed out higher-priced stocks.

Set up your market capitalization with a $300 million minimum and $2 billion maximum. Setting a $300 million minimum you filter out companies that may be so small they create unnecessary risk. The $2 billion maximum will remove medium and large-cap stocks.

Now you should be left with almost 750 of small-cap companies — and that doesn’t even include stocks on the Over the Counter (OTC) market.

These two metrics will build the base for our future screens. I will be back next week to show you the next step to narrowing down your list of small-cap stocks. For now, go ahead and set up your free stock screening account and get comfortable with the criteria selections.

Sincerely,
Jessica Comitto
Penny Sleuth

January 28, 2011

Screening Your Next Penny Stock Winner was originally featured in the Penny Sleuth.

With that in mind, here are three tools to help you find the best small-cap and penny stocks for your portfolio:

No. 1:  Stock Screeners

A stock screen is one of the most effective ways to pick up on the best stock plays the market has to offer. Brokers and analysts on Wall Street use screens to cut through the noise and find some of the best investment opportunities available.

Stock screeners are applications that look through a list of every stock on the market, and find you the ones that meet your specific criteria. For example, when you ask for a stock with a price-to-earnings (P/E) ratio of less than 14, the screener searches the database and only returns the stocks whose P/E ratio is less than 14.

Once you get comfortable with some financial terminology, you can combine metrics to have your stock screen whittle down the broader market to just a few stocks that you think are worth checking out…

You don’t have to be a Wall Street hotshot to run a screen. There are tons of free stock screeners out there that anyone can use. You can find screeners online at financial sites like Google Finance or Morningstar, or you can download desktop screeners like the aptly named Stock Screener Lite.

No. 2: The SEC Database

The Securities and Exchange Commission is the first resource you should tap when you’re ready to research a specific stock. Almost all public companies — large and small alike — are required to file quarterly and annual reports, financials, insider trading information, and more with the SEC.

All of this information is available to anyone with an internet connection. Just go to http://www.sec.gov and click “search for company filings” under the Filings & Forms section. From there, you will navigate to a user-friendly database. It’s completely searchable by company name and/or ticker symbol.

No. 3: What’s everyone else saying?

So you’ve run a screen. Then you have picked out what you believe to be the best stocks to research. You’ve checked with the SEC database — and printed out the companies’ most recent 10-Qs. Now, it’s time to find out what everyone else is saying.

Search the web to see what analysts and other investors think of the stock. Don’t just read message board posts written by cheerleaders who only want to boost the share price. Gather a variety of opinions and forecasts.

One great way to do this is through the social networking site Twitter. Traders and investors alike use Twitter to communicate market information to anyone who wants to follow them. On the Penny Sleuth Twitter feed, we post daily stock updates on big movers and other helpful market information you won’t find in our daily columns.

You can sign up for a free account and follow us here.

Best,
Greg Guenthner

March 27, 2009

Three Tools for Picking Penny Stocks was originally featured in the Penny Sleuth.

But that doesn’t mean that there aren’t gains to be found even in this shaky market. It’s not always clear how to pick a winner, so let’s take a look at what’s been working. Over at the Penny Sleuth’s big brother, Penny Stock Fortunes, subscribers already booked 2009 gains for two stocks that averaged 27% – Soapstone Networks (SOAP: NASDAQ) and CarMax (KMX: NYSE).

Generating new stock names can be a tough process. After all, it’s not every day that you hear about a new small-cap that’s doing great things. You have to be proactive in your search for tickers.

In the case of Soapstone, which returned 16% in just a few months, a stock screen was what put the company on our radar. The screen told us that qualitative factors looked good – the balance sheet was strong, there was plenty of cash to ride out the recession, and the income statement showed signs of growth.

But knowing the financial numbers is only half the battle…the qualitative side of Soapstone was just as essential. The company was just coming out with a proprietary networking product, the Provider Network Controller (PNC), that could turn out to be huge for their business. While the success of the PNC was a risk, the company had already demonstrated industry demand and the PNC technology had already won innovation awards from some of the biggest publications in the field.

We bought Soapstone at $2.15, and sold the stock at $2.50 – a 16% gain. For CarMax, the investment process was a bit different. The company probably isn’t your idea of a small-cap, and until recently it wasn’t ours either. But that all changed in the last year as scores of powerhouse companies fell into small-cap territory at the heels of a rough and tumble stock market.

CarMax was a company we were already familiar with; it’s a household name after all. The industry leading used-car superstores are known for their no-haggle prices and 125-point inspections. But what investors should have known was that credit crunched car-buyers would be flocking to CarMax over new car dealers as the economy worsened.

Sure enough, investors oversold the stock when they announced a narrow loss – that’s when we took our position in the otherwise financially fit auto retailer. We bought into CarMax at $7.36 and sold at $10.16 just 44 days later for a 38.04% profit.

The big takeaway from all this is that timing is everything in this market. While our investment strategy is normally a long-term buy and hold approach, the volatility and investor fear that’s saturating the market is making that method difficult to swallow.

Be prepared to invest in solid, financially fit companies, and push the sell button if the stock jumps more than it should. Both of the stocks we sold this year fit that mold, and both made us double-digit gains in a losing market.

Cheers,
Jonas Elmerraji

March 20, 2009

How to Find Small-Cap Gains in This Market was originally featured in the Penny Sleuth.