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PRAGATI: PROGRESS TOWARDS PROFITS IN THE STOCK MARKET April 1993 /Volume 2 CONTENTS Introduction Summary of Recommendations Recommendations for the Month CML Group Decorator Industries Andrea Electronics Global Industries Reflectone Huffman Koos Inc Basics of Stocks Chapter 5: Entering the Stock Market and understanding parameters for picking stocks Disclaimer Introduction Welcome to the first anniversary issue of PRAGATI. PRAGATI was born on the Internet in April 1992. Thank you for helping PRAGATI grow and evolve over the past year. Special thanks to all those who congratulated us on making PRAGATI a real venture. We are overwhelmed by your enthusiastic support. Our mailing list seems to be filled with some really nice people (with big ambitions for themselves too!). In the March issue of PRAGATI we recommended two telecommunication companies- Centigram and CCOR Electronics. Both are leading companies in their group Recently all the high tech. stocks got a beating in the market. And with them both Centigram and CCOR went down before reaching the Stop Buy price! Centigram struggled its way up and again pulled back a little. CCOR remains at the bottom. We continue to recommend Centigram at the stop-buy mentioned in the March issue. We would like to withdraw our recommendation on CCOR for now. Its earnings are expected and we would like to wait till then. HEI Inc, recommended in the March issue for 9-7/8 got pulled down on Friday along with all the stocks in the Wall Street. However, our stop-loss was not touched. We recommended a stop-loss of $7.63. It fell all the way to $7.75 and started rising again. So $7.63 appears to be a good stop-loss to hold on to for now. New Image Industries was again recommended in the march issue. New Image Industries is spinning off a company called Styles On Video, Inc. This company will be taking charge of marketing New Image's systems in the Beauty Industry. This spin-off will enable New Image to concentrate on its products for the dental industry. Styles On Video is likely to trade on the American Stock Exchange with the symbol SOV. If it does not get accepted by AMEX it will trade on NASDAQ with the symbol STYL. On March 10, 1993 New Image distributed to all its stockholders of record on the record date of February 8 1993, one share of Styles On Video for every five shares of New Image Industries. So, if you bought New Image stock and sold it after February 1 1993, for every five shares of New Image, you should have received 1 share of Styles On Video. Also, for every share of Styles On Video received they are providing a right to buy another share of Styles On Video at $6 each. Summary of Recommendations Note that we have started updating STOP-LOSS for our earlier recommendations. Company Name Date Rec. Rec. Price HiSince %Chg. Stop at Hi Loss Coachman COA(N) 11/92 10 18.75 87.5 AudioVox VOX(A) 11/92 5.13 9 75.4 Sunward Tech. SUNT(O) 12/92 1.94 3.25 67.5 Seagate SGAT(O) 12/92 21.88 22.38 -10 Devon Group DEVN(O) 1/93 12.88 19 47.51 New Image NIIS(O) 1/93 19.13 22.25 16.3 Western Beef BEEF(O) 1/93 6.38 8.5 33.22 Callaway Golf ELY(N) 2/93 24.63 32.63 28.42 27.88 CCOR Elec. CCBL(O) 3/93 18.63 Withdrawn Centigram Comm.* CGRM(O) 3/93 19.63 16.88 GrossMan's GROS(O) 3/93 3.88 4.13 6 3.63 HEI Inc. HEII(O) 3/93 9.88 10.25 3.7 7.63 NewImage* NIIS(O) 3/93 19.25 16.88 CML Group CML(N) 4/93 38.5 34.88 Decorator Indus. DII(A) 4/93 23.13 19.88 Andrea Radio AND(A) 4/93 37.88 32.63 Global Indus. GLBL(O) 4/93 18.38 16.13 Reflectone RFTN(O) 4/93 11.63 10.38 Huffman Koos HUKF(O) 4/93 8.38 6.88 *Note that Centigram and New Image did not reach our recommended price yet. We however continue to recommend these stocks. Recommendations for the Month We have six new recommendations for this month: CML Group, Decorator Industries, Andrea Electronics, Global Industries, Reflectone, and Huffman Koos Inc. Name of the Company: CML Group Symbol: CML Exchange: NYSE Can be followed in: IBD, WSJ, Barron's. Phone: (508)-264-4155 Address: 524 Main St., Acton, MA 01720 52 wk. Hi LO: 38-3/8, 17-3/4 Recent Price: 37-5/8 Recommended Price: 38-1/2 Stop Loss: 34-7/8 Description: CML is a speciality retailer whose businesses are conducted through retail store chains and through mail order. Some of the companies it operates are Nordic Track, Nature Company, Britches of Georgetown retail and catalog stores. Nordic Track designs, manufactures and markets high-quality aerobic and anaerobic exercise equipment to customers through direct response advertising in print and on TV. Products include eight models of cross country ski exercisers, which range in price from $299 to $1,299. Nordic Track accounted for over 40% of sales in 1992. Nature Company sells nature-related merchandise including books, gifts, children's educational toys, music, clothing, accessories, backyard and garden items, sculptures, posters, optics, paper products, and nature tapes. The Nature company accounted for 26% of CML's income. Birtches of Georgetown sells men's casual and sports wear, business suits and women's casual wear through about 70 stores in the Mid-Atlantic and Southeastern states. This year CML agreed in principle to acquire the Smith & Hawken Inc., a gardening supply catalog business. CML group being a fairly large company may take a little longer time to move up. With continued increase in earnings, we believe that the stock price will go up steadily. This is an excellent long term stock. Reasons: NordicTrack is the strongest company of CML group. Their cross country ski exercise equipment is a very unique product and is gaining a lot of popularity. The company has about 34 million shares outstanding and management owns about 8% of the stock. The company's Long Term Debt is about 5 million compared to its revenues of 495 million. The company's earnings for the quarter ending Dec 25 1992 are: 3 mos to 3mos to Jan 1993 Jan 1992 Sales 236 M 171 M Income 32.5 M 18.5 M EPS 0.94 .64 Avg . Shares 34.7 M 34.2 M Name of the Company: Decorator Industries Symbol: DII Exchange: AMEX Phone: (305)-436-8909 Address: 10011 Pines Blvd, Pembroke Pines, FL-33024. 52 wk Hi Lo: 23, 4.5 Recent Price: 21-5/8-22 Recommended Price: 23-1/8 or 11-9/16 (split adjusted) Stop Loss: 19-7/8 or 9-15/16 (Split adjusted) Description: This company manufactures and sells draperies and bedspreads to the mobile/ manufactured home industry, the recreational vehicle industry and hotel/motel industry. The Haleyville manufacturing division produces products primarily for the mobile/ manufacturing home industry while the Liberia manufacturing division produces products for the hospitality, and health care industries. Reasons: Following two years of declines, earnings increased very sharply in the first 39 weeks of 1992. The company has announced a 2-for-1 stock split. The company has a low long term debt of only $849,074. Management investment in the company is about 24% Institutional interest is about 22% The company's stock price has hit an all time high of $23 this past week. The textile home furnishing industry group has gone up by 21.1% since January 1993. The company's earnings for the quarter ending Jan 02, 1993 are as follows: 3 mos 3 mos 12 mos 12 mos Jan Jan 1992 1991 1993 1992 Revenues 6.3 M 4.1 M 23 M 18 M Income .484 M .048 M 1.52 M -.125 M EPS 0.52 0.05 1.68 0.13 Name of the Company: Andrea Electronics Symbol: AND Exchange: ASE Phone: (718)-729-8500 Address: 11-40 45th Rd., Long Island City, NY 11101. 52 wk Hi Lo: 37.75, 4.75 Recent Price: 37.75 Recommended Price: 37-7/8 Stop Loss: 32-5/8 Description: The company manufactures intercommunication and other electronic products for military and industrial use. Results for the first 9 months of fiscal year 1992 were hurt significantly due to higher operating costs incurred in the development of Andrea's noise and vibration cancellation division. 57% of sales are to industry, 42% sales to the governments and 1% to commercial. Some of its major customers are lockheed, General Dynamics and Textron. Reasons: This stock is moving up in anticipation. The company hasn't shown any profits in the first 9 months of last year. It is conducting negotiations with several major telecommunications companies with regard to its active noise cancellation product. Over 50% of shares are owned by the management. Andrea has a long term debt of $79,000. Twice the company hit a new high and pulled back. Again on Friday the stock price went up to new high grounds. The company's new product promises to be a very useful tool in the telecommunications industry to reduce noise levels. Name of the Company: Global Industries Symbol: GLBL Exchange: NASDAQ (NMS) Phone: (318)-989-0000 Address: 107 Teledyne Dr, Lafayette, IA 70503 52 wk Hi Lo: 18.25, 14.25 Recent Price: 16.25 Recommended Price: 18-3/8 Stop Loss: 16-1/8 Description: This company's Initial Public Offering was on Feb. 10 1993 at $14.5 per share. The company, a provider of pipeline construction, derrick and diving services to the offshore oil and gas industry primarily in the Gulf of Mexico was incorporated in Louisiana in May 1990. Reasons: The company has 7 million shares outstanding , of which 60% of the shares are owned by the management. A tight hold on the company's shares by the management indicates a large interest in the companies growth. Since Jan. 1993, the Oil and Gas field industry's market value has increased about 13.8%. The company's earnings announced on March 22 1993 showed over 100% increase as given below. 3 mos 3 mos 9mos. 9 mos Dec Dec 1992 1991 1992 1991 Revenues 28.7 M 18.0 M 57.08 M 44.19 M Income 6.39 M 2.93 M 10.66 M 6.26 M EPS 1.09 0.5 1.82 1.07 Name of the Company: Reflectone Symbol: RFTN Exchange: NASDAQ NMS Can be followed in: IBD, WSJ, Barron's. Phone: (813) 885 7481 Address: 4908 Tampa West Blvd., Tampa, FL 33634-2481 52 wk. Hi LO: 7, 11.5 Recent Price: 11-1/2 Stop Buy: 11-5/8 Stop Loss: 10-3/8 Description: Reflectone, an affiliate of the British Aerospace PLC produces flight simulators and provides flight and ground school instructions for the military and commercial aerospace markets. It designs and manufactures flight simulators, weapon system trainers, maintenance trainers, and so on. The company's training devices simulate the exact controls and instrumentation present in the cockpit and train the personnel interactively. In addition they develop training systems or instructional training services that can support training services at both commercial and government locations. Reasons: Reflectone returned to profitability, after 5 years of losses, in 1991. In 1991 it had a profit of 7 cents per share. In 1992 the earnings surged to 53 cents per share. For the quarter ending December 1992, earnings were 17 cents per share up from 6 cents per share for the prior year same quarter. In October 1992 the company was awarded a $26 million contract to manufacture a weapon system trainer, to be delivered in 1994, for the Sikorsky SH-60 Helicopter. Reflectone will provide maintenance and operational support for at least two years. There are a little over 2 million shares outstanding. The fact that the company could turn out and become so profitable in a period that was generally bad for the aircraft segment of the industry makes it likely that it can profit substantially from the forthcoming turnaround for the industry segment. Name of the Company: Huffman Koos Inc Symbol: HUFK Exchange: NASDAQ NMS Phone: (201) 343-4300 Address: Rt. 4 and Main Street, River Edge, NJ 07661 52 wk Hi Lo: 1.5, 9.5 Recent Price: 8 Stop Buy: 8.38 Stop Loss: 6.88 Description: Huffman Koos is a full-service retailer of furniture and accessories operating seven stores and a warehouse/clearance center in New Jersey and two stores in New York. Huffman targets middle and upper-middle income customers by offering brand name furniture at competitive prices. Reasons: The company plans to expand by opening a new store in Farmingdale, Long Island, in mid-1993. For the quarter ending October 1992, the company posted a profit of 15 cents a share up 1400% from 1 cent for the previous year. The stock quadrupled after that. Fiscal fourth quarter, ending January 1993, showed a profit of 72 cents per share. Same store sales rose 24% during this quarter. 3 mos to 3 mos to 12 mos 12 mos Jan 1993 Jan 1992 Jan 1993 Jan 1992 Revenues 30.8 M 23.8 M 91.5 M 82.8 M Income 2.8 M .73 M 2.8 M .347 M EPS 0.72 0.18 .72 0.09 Basics of Stocks CHAPTER 5: ENTERING THE STOCK MARKET AND UNDERSTANDING PARAMETERS FOR PICKING STOCKS There are zillions of strategies for buying stocks. And there are several that work. Which ones to choose depends completely on the investor: his goals, his personality, his time, his ambitions, and so on. There is nothing like a single best strategy. In fact, there cannot be a single best strategy. If there was, everyone would follow it and it would no longer work! You can imagine playing in the stock market to be like playing a game. If every player is following the same strategy clearly it will not work. Someone has to win and someone has to lose. So the strategy has worked for some and has not worked for others. If there is no single best strategy what strategy do I follow? While there is no single best strategy for everybody, there are several good strategies for each person individually. What works for one person may not work or may not work as well for another person. Why? Because each of us is unique and we behave differently. This implies that we react differently to the same behaviors of stocks. For example, some steady, patient people can handle fluctuations in volatile stocks well. Suppose some stock that they have bought at $10 went up to $20 and fell in a day to $17, they might wait patiently to see its further behavior. There might be others who might panic and sell off. If the stock subsequently takes off to $30, the patient person has won. On the other had, if the stock plummets to $15 the next day, the panic sellers have won (assuming the stock simply lies low for the next several years) and the patient investors have lost. This is clearly an exaggerated scenario, but illustrates quite clearly why stock strategies that are best for some may not be the best for others. It also illustrates that stock strategies that are good in some situations may not be good in others. But usually a strategy good for me will help me pick stocks well and sell stocks well. For instance, the hypothetical patient investor above can pick somewhat volatile stocks with excellent fundamentals and long-term growth potential and live through the daily fluctuations peacefully. The impatient investor, on the other hand, might do well with low volatility stocks that doesn't excite his jumpy nerves too much. Here is one strategy for finding a strategy for trading in stocks (there might be others!): Do not reinvent the wheel. There are several strategies that have been well researched and for which there is a lot of empirical evidence. Study those strategies. There might already be one that suits your purposes very well. Or pick a strategy that is close to your interests and tailor it to make it better for you. But do it. Read the strategies others have used. Be wise and use others' experience. State your investment goals. I have heard tons of different goals from different investors: I want my investments to make more than the paltry 5 or 6% interest that the banks are willing to offer. I want to make a million dollars in the stock market (Do not laugh!) There are people who had such goals and who made it. Nicolas Darvas is one such person who has clearly documented how he did it). I want my savings to grow steadily over time for my retirement, for my children's education, for the down payment on my house/car, and so on. I want to have enough profits on my savings to help me buy the small things I want without worrying about the money: a car, a stereo, a 27" television, a home theater system, new bedroom furniture, ... the list is endless. Different investment goals need different strategies for their attainment. So it is important to state concretely and in writing exactly what your goals are. State your investment time. How much time do you have to devote to your investments? No time A few hours a year A few hours a month A few hours a week A few hours a day Again the kind of investment strategy you choose depends upon how much time you have for your investing activities for different strategies place differing demands on your time. Your answers to the above two questions must be compatible. Pick a strategy that is compatible with your goal and time. Now start your experiments. Give yourself 6 months of study time. YES! Resolve that you will not invest a penny until this 6 months of study has been satisfactorily completed. Ignore what others say and what other temptations may come along your way. "This is the biggest bull market in the history." That is alright. There will be another one soon. "This is a fantastic stock. It will shoot up." Good I will watch it shoot up, learn from it and figure out how to pick such winners in the future. Start a book for your own personal investment research. Write down your strategies in that book and follow them, over time, "fine tune" them to your liking. At the end of your experiments put down very clearly your strategies. Make them as detailed as possible and try to cover as many situations as you can think of. What should I do if the stock shoots up? What should I do if it plummets? What should I do if it stays flat for a few months? What should I do if I find some other great stock when I am fully invested? How many shares do I buy? How many companies do I invest in at a time? Once you are ready to step in make another crucial decision. How much do I put in? There is no need to make this an all or nothing decision. This can be a series of small, well thought-out decisions. Start small and think big. As we build our confidence and expertise we can start adding to our principal. Before answering this question, it might help to answer a related question: How much can I risk losing? This brings out the worst case scenario in stocks. If I lose the $5000 (or whatever your number is) I put into stocks, can I survive that? Will it kill me? If such a loss is tolerable then I am ready to invest that $5000. I am mentally prepared for the worst case and any money that I can make or that remains out of the $5000 is a bonus! Action! Start investing. Simply follow the written strategy and consult it before taking any action on your portfolio. It is best to keep the heart out of investing completely. This is usually very hard. So minimize it to the extent possible. That is, think with your head and minimize the effect of what you feel. Stick to your rules. Periodically evaluate. Every few months, go over your successes and mistakes. Modify your strategy based on this evaluation. This process of application, evaluation, and modification can help one evolve into a very good investor over time. Persistence pays. In spite of many precautions, we all get burned one time or the other. Everything seems to be working against us. But it is when the outlook is so bleak that we need to have the courage to persist. Like in any other endeavor, persistence and experimentation pays. What Thomas Alva Edison said seems appropriate: Genius is 99% perspiration and 1% inspiration. Running away from investments after the failure, like a rabbit with the tail between its legs, does not help. The best investors have all got singed badly at times. But they never gave up. That is the secret of their success. William O'Neal is another such. His book. "How to Make Money In Stocks" is an excellent reading. Here we will briefly look at some possible strategies. Obviously the list is far from complete in any sense. It is meant to give a flavor of the widely differing strategies available for buying stocks and get you started on figuring out what strategies to study. Browsing through books on stocks in your library might be a good idea. Simply pick a few that seem interesting and get going. There are several features of stocks. Such features are useful in formulating strategies or stating them compactly and precisely. Here is an incomplete list of features about stocks: Price: current price, daily high, daily low, weekly high, weekly low, yearly high, yearly low, historical high, historical low. Volume: daily, weekly, average Price variation: Daily price variation, moving averages (100 day, 200 day, etc.). Industry group: What group is it in? Furniture, Real Estate, Local Area Networks, ...? Is the group hot today? Is it a slow and steady group (e.g., utilities)? Products/Services: Does the company offer any new services or products? For example, Dell Computer's mail order strategy worked wonders, at least temporarily, against its competitors. This is an example of a unique service. New Image has a unique imaging system for helping a dentist scan a patient's mouth and design dental devices. This product escalated the company's earnings and its stock price shot from about a dollar to over $20 in a year. Earnings: Latest quarter earnings, earnings for this fiscal year, annual earnings. Shares: How many shares are outstanding? Is it a small number of shares or Large number of shares? William O'Neal says that stock market is like any other market. There is the perennial question of supply and demand. A company with say 3 million shares is likely to move (up or down) much faster than a company with 300 million shares. The greater the number of shares outstanding for a company, the greater its inertia in general. Per share figures: As each share represents ownership of a piece of the company it makes sense to figure out various items on a per share basis. For example, earnings per share for a quarter (EPS) for a quarter can be obtained by dividing the income for the quarter by the number of shares outstanding. The price earnings ratio (PE ratio) is one of the most popular of such figures. It is obtained by dividing the current price of the stock by EPS for the past year (income for the past year divided by the average number of outstanding shares). Long-Term debt: This is another very important measure of the health of a company. Too much long term debt is not good. In fact, most companies that seek bankruptcy protection (file for Chapter 11) do so because they are unable to meet the debt payment obligations. A low long-term debt is usually an indication of a healthy, well-controlled company. A high long-term debt may or may not be an indication of ill health. There are several companies that need to keep high level of inventories, etc. and may need a large cash supply. Such companies may have a large long-term debt by the nature of their business. So far as they can comfortably meet the demands of repayment, it is fine. A fall in interest rates, for example, might dramatically increase the net income of a company with a large long term debt because their loan repayments may be dramatically reduced. Acquisitions: Acquisitions are a common way for companies to grow. They usually acquire companies that can complement or strengthen their main businesses. Companies may spin-off or sell parts of their organization to focus on their main products or to get rid of poorly performing parts. For example, New Image is spinning off its beauty segment so that it can concentrate on its core business: dental imaging. For some companies, acquisitions work out very well. They blend fast and start producing miraculous results immediately; for example Tandycrafts bought some leather manufacturing businesses and started churning out huge profits. On the other hand, acquisitions may not work for some companies. For example, Sports and Leisure made some acquisitions and started a long run-up of miserable earnings (this was one of our early failures that led to the adoption of the stop-loss strategy). Patents, Alliances, Agreements: Holding patents is like holding the trump card: patents can make slaves out of some of the strongest leaders in the industry. Companies pay huge royalties to get patent rights and those that infringe on them pay even bigger penalties (for example, all major camera companies paid Honeywell over $150 Million for patent infringement. Right now Fonar Corporation, a small company on NASDAQ, is suing companies such as Hitachi and GE for over a billion for patent right infringement. Although the outcome cannot be predicted, the company sure is worth watching! Alliances with giants can have a very beneficial effect. For example, the recent alliance between Stratacom, Cisco, and AT&T for networking sent Stratacom's stock skyrocketing (it has pulled back since). Expansion: A company might expand by opening new branches in other locations in the same country or even abroad. Best Buy has been expanding at a breakneck speed, at the same time controlling its expansion so well that it has been able to turn new ventures to profitability in a very short time. Result? The stock price has shot up. Rapid, uncontrolled expansions can result in tremendous debt increases and ultimate bankruptcies (this list is very long, Hills Departmental stores, Carter Hawley Hale, ToysRUs, Ames, Highland, Child World, and so on). Book value: Book value is the net worth of the company per share. This figures is obtained by subtracting debt and other obligations from the company's net assets and dividing by the number of outstanding shares. For some companies, book value gives some sort of a lower bound on how much the stock price can fall to (This rule fails quite often though). Cyclical: There are several (especially small) companies that are cyclical. Fonar (FONR: NASDAQ), for example, has fluctuated in the past between $1 and $2. Some other cyclicals are TJ Systems (TJSY:NASDAQ), MHI Inc (MH: NYSE). There are several seasonal companies that are cyclicals (for example, winter clothing retailers, ski resorts, residential builders, and so on). Growth: These are small companies that are growing rapidly by one or more of the following strategies: acquisitions, expansions, increasing market share, alliances, new products, and so on. Legal proceedings: Legal proceedings is another major item to which a careful investor should pay attention. When Intel won the lawsuit against Advanced Micro Devices(AMD: NYSE), the stock price plummeted by about $10 to around $7. Of course, in this case, the bargain hunters minted money because the stock has since moved up (in less than a year) to over $20. Similarly, if a company is winning lawsuits against others, its stock price can shoot up. So legal proceedings can sometimes make or break a company. Insider holdings: If the insiders hold a lot of the company's stock, they have great interest in seeing the share price soar. Therefore, they are likely to be highly motivated to work toward increasing the share value. It might work the other way around if the insiders do not own much stake in their own company. Then the situation would be one of shareholders paying for the insiders' opulent lifestyle! Institutional holdings: Institutions are the largest investors in the stock market and their actions can make big waves in the market. So it helps to keep an eye on their actions. Charts: For most technical analysts, charts are useful if not essential. They show the historic price and volume variation of the stock. With experience, a technical analyst can often make successful predictions about the future behavior of stocks based on certain well-defined patterns that can be discerned by the trained eye. In the next issue, we will examine briefly a few strategies and how they can be designed and expressed based on the above features. Disclaimer There is no guarantee that stocks recommended here will do well. There is no guarantee that the information on which this article was based is correct. There is no guarantee that the information in this article is correct. Also, the companies where we work have nothing whatsoever to do with this newsletter. The readers should not assume that recommendations in future will be as profitable as previous recommendations mentioned here. The security portfolio of Miriyalas may include those mentioned in this issue and may from time to time increase or decrease interest in such positions. Any opinions expressed here are statements of our judgment as of the date of issue and are subject to change without notice.