As an experienced investor, my advice for new investors is always to invest in companies that are down but not out. This is important because if you invest in companies that are down, you may gain a lot of money, but if you invest in companies that are out, you will lose all your money. It is really hard for new investors to understand between down and out. Oftentimes, these two types of companies are trading near or at their 52-week low. Here are the differences between them.
The companies that are Down
These companies have problems and the problems seem temporary. They just need time to right the ship and get back on track. How can we be certain that these companies can weather the storm? The ultimate guideline is to look at the companies’ balance sheets and income statements. Do the companies have positive net cash? are the companies expected to post a profit? If the answer is yes to both questions, then these companies in question are most likely just down, but not out.
The companies that are out
These companies still have problems but their future existence might be in doubt. It might right the ship but by then it might be too late. As a result, shareholders will be wiped out and lose 100% of their investment. How can we be certain for the company that is out? Again, we have to check the ultimate guideline, which is the balance sheet and income statement of the company. Does the company have negative net cash? Is the company expected to post a loss for the foreseeable future? If the answer is yes to both questions, then the company in question has a high probability of being out of business.
Using analogy without illustrations is confusing, in my opinion. Therefore, I will choose one company for each situation. Please do not treat this as a buy or sell recommendation. This is merely my observation as someone who had watched these companies for a while.
To consistently make money, investors need to be able to differentiate between a company that is down and a company that is out. Weed out the company that is out and your investment return will be so much better.