Recently, we decided to shed a bit of light on the stock screening process and how it helps our research. This way, you can learn even more about the investment strategy we employ to enable a successful track record.
While most of our best ideas do not necessarily come from utilizing stock screens, we prefer to have several tools at our disposal. By doing this, we can ensure we are never out of stocks to research.
This week, we will look at a screen that can lead to a basket of stocks that fit into a favorite category of ours – turnarounds. These are companies that are unloved or ignored because they are going through a tough period of adjusting the business.
I need to caution you that we never use automated stock screeners blindy because they often use 3rd party data sources not so well suited for stocks in the microcap space, and can be full of errors. You can read more about this in two articles I wrote on this subject:
Our goal when searching for turnarounds is to look for companies to buy that are near or starting to show a profit that can hopefully turn into multi-baggers, such as Zynex, Inc. (OTC:ZYXI), a pain management medical device company. On June 6, 2017, we turned bullish on ZYXI at $0.40, taking a position and adding it to our RunToOne Model Portfolio :
“While focusing on stocks that trade over $1.00 has been our bread and butter for years, we also research stocks that trade under $1.00 to try to identify the next potential multi-bagger. We view these stocks as long-term lottery tickets. Many of them have “hair,” but that is why they trade under $1.00. So, if you are a long-term investor with an appetite for risk, this screen may appeal to you. One thing that differentiates us from other newsletters and microcap sites is that we are looking for penny stocks with real revenues and management teams with favorable capital structures, not one trick pump and dump ponies.”
It appeared that multi-year turnaround initiatives were taking hold when the company reported its first decent quarterly profit in a while, a fact that investors were ignoring, on top of other bullish developments. Well, the stock went on to hit a high of $29.73 on July 6, 2020.
An example of a company that we believe is about to inflect on its multi-year turnaround is Smart Employee Benefits Inc (OTC:SMEYF) (SEB.V), whose management addressed the Geoinvesting community via a live Zoom presentation in late April of this year.
Many times, investors initially miss out on turnaround opportunities. In the beginning, they see a money-losing business with an uncertain future and give it a pass. We take notice and try to determine whether there is an underlying trend of improvements.
Since we are almost at the end of the Q1 2021 financial results spree, today’s screen will be specifically aimed at companies losing money. I actually started a thread on twitter talking about this screen
Once in a while, when using automated screeners to look for stock ideas, take the less obvious path & screen for companies that look bad on paper. Then, identify candidates that are on the brink of a turnaround. Also use this approach when scanning press releases. #AvoidTheCrowd
— Maj Soueidan (@majgeoinvesting) May 22, 2021
Here are some ways we use “turnaround screens”
1. GAAP Loss combined with turn to profitability on non-GAAP basis.
2. Losses combined with clear improvement in gross margin
3. Losses combined with flattening of opex
— Maj Soueidan (@majgeoinvesting) May 23, 2021
For the current screen, we addressed point 2 above:
companies that are losing money which have experienced significant improvements in their gross margins.
The Q1 quarterly results gave us a good number of companies to look at that have recently improved their operations that might be a path to turning a profit.
The screener we are using is from Sentieo, but there are other options at your disposal, such as screener.co or others.
The core metrics of the screener are:
- Improving gross margins over the last quarter, and
- A net income loss in the last twelve months.
We limited the selection universe to stocks with a market-cap of no more than $500 million to narrow things down, since we are targeting microcap stocks. We also selected US-only and excluded certain sectors which we don’t focus much on at Geoinvesting, such as biotechs, banks and resource companies. To ensure we find meaningful businesses, we are looking for companies with at least $1 million in revenue.
The result pumped out 99 stocks. The first ten (in order of the gross margin change) are showcased below:
While the top of the list might be ranked high due to abnormal one time factors, such as accounting changes, the bottom of the top 10 start to seem interesting. You can also see we left the “state of the headquarters” on the screen as well as the “stock price performance” since the start of the year (given we are comparing Q4 2020 vs Q1 2021).
The stock performance is there to give us an idea of whether the market might already have noticed some of the changes in the business. The “state” is left in the screener as we highly recommend selecting companies which might be in your area. This way, it will be easier for you to conduct on-site visits or generally get in touch with the management.
I hope you found this information useful. Stay tuned for more screening strategies we use to find companies to include in our universe of coverage. In the meantime, our team has some work to do rummaging through 99 turnarounds!
Have a great week!
GeoInvesting Weekly Premium Email and Call To Action Updates (May 17 – May 21)
Weekly Wrap Up Summary…
Log in below with your Premium Account to continue reading.