The Numbers Don’t Always Matter

One of the most popular methods for analyzing stocks is fundamental analysis.  In a nutshell, fundamental analysis is evaluating a company by financial, economic, and other quantitative and qualitative factors.

Of course, I’m a fundamental analyst myself.  It’s how I make all my stock picking decisions.  And it means I spend a lot of time sifting through financial numbers.  Those include financial statements, ratios, projections, percentages, correlations, and market statistics, just to name a few.

But that doesn’t mean I live and die by the numbers alone.

Here’s the thing…

The definition of fundamental analysis I gave earlier includes quantitative and qualitative factors.  You see, many investors tend to overlook the qualitative part.  And it’s a vital part to evaluating a company.

In fact, the numbers aren’t always the best way to pick a stock.  Sometimes, a company’s story is far more important than its financial statements.

Don’t get me wrong, I don’t often invest in a company without strong financials.  Usually, I’ll look for strong sales growth and expanding profits.  I typically don’t invest in a company with a ton of debt… and I definitely favor businesses sitting on piles of cash.

But there’s a lot more to it…

Let me put it this way… a company you’re researching may have the best financial statements or most compelling ratios.  But, those won’t tell you if multiple competitors are about to enter the same space as your company.  Nor will the numbers accurately reflect the risk of a major paradigm shift in the industry.

Did mobile phone makers predict the iPhone craze would occur?  Or even before that, did land-based phone companies expect mobile phones to become the standard in telecommunications?

These are exactly the sort of events you won’t discover looking at a balance sheet or P/E ratio.

Conversely, just because a company has poor numbers, doesn’t mean you shouldn’t invest in it.

For example, take just about any startup oil exploration company.  They’ll have no revenue and a ton of debt to start with.  But if the company strikes oil, the stock will skyrocket.  If you only invest in companies with great numbers, you miss out on higher profit making opportunities like this one.

Here’s the bottom line…

Picking stocks with the potential to soar is something we all can do… but you have to do your homework and evaluate all the factors.

Research the product.  Study the market for that product.  Learn about competitors.  Think about anything internal or external which could significantly impact the profitability of the business you’re researching.

This is particularly true for penny stocks, who often don’t have the benefit of product diversification.  Smaller firms have limited resources and they typically focus on a small range of products or services.

But fewer products can also mean small companies fly under the radar.  So, penny stocks are often where the best opportunities are for big profits.

If you take the time and do your due diligence, you can find solid small cap companies with bright futures.  The numbers are important, but they don’t always tell the whole story.  Analyze the qualitative side of the company as well.  And if the numbers and the story both point to a good company, you may have just found yourself a big winner.

Yours in profit,

Gordon Lewis

Tags: analyzing stocks, penny stock research, qualitative factors

Category: Investing in Penny Stocks, Penny Stock Tips