Answers to reader questions
The day after St. Patrick's Day likely has a few Small Cap Investor Daily readers nursing a hangover. Of course the best cure is time, helped along by liberal doses of water and rest. Anyone who tells you otherwise is selling something.
And hey, I sell investment newsletters, but I know you're not likely to give one a try unless I can show you the value of my research in this free daily letter. That's also why I offer a 100% money-back guarantee. If you're not making money with my research, then you're not going to be happy. And unhappy readers aren't likely to continue reading, so I'd rather part company civilly by giving you all your money back. After all, this business is based on trust.
To that end, I recently received a very nice letter from a reader named Helen. I love getting reader correspondence, and Helen asks some very tough questions.
Before I get into it, I want to encourage you to send me questions, concerns and general comments here. I can't promise that I will respond to every letter, but I definitely read them all. You can reach me at editorial@smallcapinvestor.com.
Just read your latest [Tuesday's] article, "Are the books cooked." Personally, I don't think Enron has been beat enough, keep using those analogies.
What can you tell me about HQ Sustainable Maritime Industries based on an article that appeared in the Houston Business Journal on March 16th which I've pasted below.
"In the latest quarter, the company (AMEX: HQS) reported a one-time, $2.9 million charge for increases in doubtful accounts and $1.8 million for an increase in marketing and advertising expenses."
How do you justify a 50% expenditure of the monies already expensed as "doubtful"? Doesn't the $2.9 [million] in possible uncollectible accounts warrant something that might help you reclaim your investments, like legal expenses perhaps?
Would appreciate your thoughts.
Helen brings up a good point with regard to the often confusing accounting standards that companies have to follow.
The short answer is that legal expenses and doubtful accounts are different piles of money, and they're calculated differently according to the law of the land: the Generally Accepted Accounting Principles (GAAP).
According to HQS's March 15th 10-K filing with the SEC, they chalked up these "doubtful accounts" as an expense. They're allowed to call certain items "expenses" even though you and I might call them "losses."
If you can't collect on billing, at some point it becomes a loss. This accounting rule lets the company lodge it as an expense until such a point when they can collect it as income or call it a definite loss.
Corporate accounting rules calculate losses differently than expenses.
Is it a bad thing for this company? I can't be sure. In cases like this one, it helps to put yourself in the shoes of the company's directors.
HQS booked $2.9 million of these "potential losses" last year – and $8.1 million of net income. That makes sense if you look at their net income in 2008 of $10 million. Without this expense, their income would be a bit higher than last year's.
In the absolute worst case scenario, HQS doesn't collect a single dime of the $2.9 million and it becomes an actualized loss. It would certainly hurt their business, but in many ways, that loss is already built in to the stock price – which lost 20+ percent since they published their annual report on March 15. The selloff seems fair: HQS lost 20-some-percent of its income, and the stock responded accordingly with a 20-some-percent drop.
To literally put myself in the shoes of the company's directors, I've looked at recent SEC filings with this company that would tell me when and if any insiders bought or sold company shares recently. The most recent transaction was almost two years ago, so no one on the inside is piling into or out of shares as far as we know.
Yesterday, you might remember, I discussed what's known as the PEG ratio – which essentially divides a company's PE by its growth. As I noted, the lower the PEG ratio, the better.
Right now HQS has a staggeringly low PEG of .25. The company looks like a buy – but to be cautious, I'd wait for signs of an uptrend before building a position in a company like this.
As with hangovers and trust – only time will tell
