SIGNS THAT A STOCK IS ABOUT TO SLIDE
When considering shares to purchase, a company that generates below average earnings, has poor cashflow or a weak balance sheet may be one for you to look at especially carefully before purchasing. Whilst there are other characteristics of weakness to look for, these offer clues that unpleasant issues may be about to surface.
One things that companies must always keep to the fore is to communicate, communicate, communicate, even if over and above the regulatory requirements – especially in troubled times.
1. Earnings Guidance – it is not uncommon for companies to lower their earnings guidance previously issued. Reasons may be related to the economy generally, or to a specific company related issue. However, if the company does not meet the revised earnings rate the effect can be one of negativity in the marketplace and well as with employees and shareholders and a downward spiral quickens. Stock analysts may then scale back their recommendations and reduce earnings estimations further – all of which may have a subsequent further negative on the share price.
2. Executives Selling – neither is it uncommon for executives of publicly listed companies to sell shares they hold in their company. There are often very legitimate reasons for executives to download their share holding – they may be purchasing a new home or need money for some family reason, or to just earn some profits or diversify their holdings (such as the recent downselling of Telstra shares by the Future Fund).
There are, however, times when some selling activity can and should raise eyebrows, such as when more than one executive is looking to off load parts of their holdings, or when an individual sells a large proportion of their holdings, or when executives sell at or neat the 52 week low. Whilst executives might comment that they have other need for funds, the action does tend to raise alarms in the investment community- both in terms of management practices within the company as well as the personal expertise of the executive.
3. Stopping Quarterly or Annual Financial Forecasts – Whilst it is not always easy to provide the investment community with quarterly or annual financial forecasts as corporations are large entities and the business environment can change rapidly over time, with revenue changes both up and down. However, companies should still endeavour to provide some operational guidance to ensure confidence remains in the business and investment community.
A signal that there may be trouble brewing is when a company abruptly stops issuing forecasts. Silence in this case is not golden as it can raise concerns as to what is happening, Not having some future earnings guidance can give the impression of actually trying to hide information, so investors and analysts become wary, when in fact there may or may not be a reasonable explanation.
4. Suspending Dividend – For income-seeking investors, companies paying dividends are always tempting, and in fact necessary. That a company is paying a dividend (especially fully franked) is often viewed as a sign that the company is doing well. So if a dividend-paying company suddenly suspends dividends it may be a signal that the company is experiencing some financial difficulty. Also, the company may see a significant sell off of its shares as those income-seeking investors off load their shares. Additionally a dividend suspension may herald serious job cuts, production reduction, asset sales and plant closures. A reduction in the dividend, or the franking amount are reasons to investigate company operations and ask appropriate questions.
5. Termination of Buy Back – If a company has been buying back shares and suddenly stops, it may be a signal that the company is short of cash, or the shares are not as good an investment at the time, and that investors are eager to offload without any brokerage fees. None of these scenarios would be especially attractive to new investors.
6. Lack of Diversification and Innovation – Successful companies need to achieve growth over time and it is important for a company to consider new products and to encourage innovation, especially in a fast-moving business environment where new products may take a long time to introduce. Comapanies that do not embrace innovation run the risk of becoming irrelevant, especially if new technology or an improved and superior product hits the marketplace. Whilst there are exceptions to the rule be wary of companies not considering building on their business through diversification with new or improved offerings.
7. Industry Trends – Companies operating in the same industry may experience similar trends. Investors should be on the lookout for signals of how a company may be doing compared with others in the same industry, if one is declining others may also, or if one is declining and others are doing well. Look at verious industry trends as this could also signal economic trends on a larger scale.
8. The Bottom Line – In addition to the traditional valuations and measures there are several indicators that may signal trouble to come for a company. It is necessary for an investor to do research to avoid making incorrect decisions leading to losses in income or capital.
By using a financial advisor for investment, who does the research for you and then makes recommendations specifically for your needs, you are limiting your risk factors.
Our Newcastle Financial Advisors are located on King Street, Newcastle, NSW 2300, Australia
Call T: 02 4926 2300