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We often get people asking, how can I spot a dud from a really great stock? Here are three things to look out for when picking stocks from Fool.com that we completely agree with:
"Hare" revenues vs. "tortoise" earnings: It's OK for revenues to outgrow earnings as a young company emerges, but if earnings don't catch up soon, you should skidadle. That's a sign that the company looks good on the surface but isn't making money in spite of all of its revenue. Those businesses don't last long and neither will your profits.
Accounts receivable growing faster than sales: When companies sell goods on account, they'll show an "accounts receivable" balance. This figure should keep pace with sales; much faster growth means a company is recording revenue, but the cash isn't flowing in; aka they aren't getting paid what they should. This happens more often in recessions where people buy what they can't pay for.
Unsustainable dividends: Studies show that dividend stocks outperform, but high payout ratios mean the company is stretching to pay those dividends and might be in danger of cutting or suspending them. Here's a trick: When you calculate payout ratios, don't use earnings -- swap in free cash flow instead, and you'll have a much better grasp on a company's true dividend credibility. Can they support those types of dividends permenantly? Look out for more tips daily as we feed you information you can actually use.
Published: Wednesday 27th of August 2008 08:42:05 AM
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