B.E.: With the rise in corporate scandals, what kind of information, such as earnings reports, are you looking at to trust that a company is worth investing in?
SMITH: When I look at a company, I make sure it is a dominant player in its market. Then I make sure it is not getting away from its focus. A lot of companies try to diversify but wind up abandoning what their original corporate strategy was.
When it comes to analyzing a company, I look for full disclosure, and I also look at what the analyst, under a particular broker’s firm, is saying about the stock, compared to its competitors. Since the analyst and the underwriter are often working for the same person, there is an inherent conflict.
I tend to take a more macro view when picking stocks. When I look at one stock, I’m actually looking at maybe another 10 or 11 to see how they are going to complement each other.
BLACK ENTERPRISE / blackenterprise.com / APRIL 2003
DUNAGAN: I look at stocks in the big picture. The good thing is that sources available to your readers—Value Line and Standard & Poor’s—are putting information in their reports about whether a company’s pension plan is underfunded and other liabilities it may have. So readers can go to the library and get the information inexpensively.
The other thing I’m looking at is what exactly does this company do? What are the price-to-earnings ratios? How is it going to benefit from what is going on in the economy right now, not the benefits over the next three months, but what is going to happen over the next three to five years because clients may not have $10,000 or $20,000 to invest in a company now, but they can build that position over the next year or so.
People who pick individual stocks should be suspicious of companies that are reporting good earnings per share growth, but less than perfect revenue growth. Those companies are cost-cutting, looking for ways to squeeze out good earnings per share from efficiency strategies. But, eventually, they’ll either have to charge more money or sell more to increase revenues. So that’s something to be concerned about.
You also have to be able to look at the balance sheets. Increased inventories and increased receivables are not good for cash flow, no matter what you’re recording in earnings per share.
Finally, I think individuals have to really understand their own limitations. So, for example, let’s say that you own Bank of New York stock, and the company reported a 7% drop in fourth-quarter profits because it has a lot of loans out to the distressed airline companies. If you were smart enough to avoid the airlines, but didn’t realize that your Bank of New York stock is conflicting with your avoidance of the airlines, then you don’t really understand how your stocks are interrelated. If you can make those connections, invest in stocks. If you can’t make those connections, stick to mutual funds.
B.E.: How should investors pick mutual funds?