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Monday, February 12, 2007

Red Flags & Green Flags: How Interactions with Publicly Traded Companies Can Make You Money [or Keep You From Losing Money]

Red flags and green flags refer to the wakeup calls an investor gets with regards to the negative or positive experience that is encountered when dealing with a publicly traded company as a customer. When you get three of these flags in a row, it can be a sign to buy or sell the company’s stock. Here are a couple of real life examples where these flags were raised.

A few months ago, Jim Cramer made a recommendation on his show regarding Coldwater Creek (CWTR). I looked into it and decided to buy some shares in it and paid between 28 and 29 per share on November 22. A week later, after the stock had drifted downward, a catalog from Coldwater Creek arrived in the mail. When I saw that catalog, I started thumbing through it and mentioned to my wife that I just bought shares in the company. My wife said to me “You won’t find anything for yourself in there. It’s all women’s clothing.” So I said, “You mean there’s no women’s section, men’s section, and children’s section like in the Land’s End and L.L. Bean catalogs?” And she said “No, just women’s clothes.” [Red flag number 1.] So I kept flipping through the catalog and said to my wife “Well maybe I can find a present for you in here,” and she replied “Maybe for your mother.” Uh oh. [Red flag number 2.] So I said “So what’s wrong with the clothes?” and she said “Just look at them. There’s no style to them. They look frumpy.” And I thought “I wonder if potential customers and investors all across the United States who are receiving this catalog are thinking the same thing.” [Red flag number 3.] The next day, on November 30, I sold out my position at 24.87, and the stock kept slipping downward. It dropped below $20 per share on January 23, and has stayed below 20 ever since. These three red flags saved me from losing another 22% on this stock.

By the way, I didn’t write this about Coldwater to slam Cramer. As a matter of fact, most of Cramer’s recommendations that I’ve acted upon have turned out well. [Thanks Jim for Level 3 (LVLT).] Now let’s get to some positive flags.

Many years ago, when I worked as a stockbroker/financial planner, I put a lot of my clients’ money into the Franklin Government Securities Fund and the Franklin California Tax Free Fund. The firm I was working for also put a ton of their clients’ money into Franklin funds. I decided to make a due diligence trip to Franklin Resources (BEN) in San Mateo to check out this investment management company. This was back in the early 1980’s, back before Franklin was traded on the New York Stock Exchange and was still an over-the-counter stock, before it had the stock symbol BEN, before they merged with Templeton, and before they had built their new headquarters building.

I arrived at the old building the company was still operating out of and met the woman who was the broker liaison. She offered to give me a tour of the place and told me to excuse all the noise and mess of the construction going on because they were expanding so much. [Green flag number 1.] We got upstairs to her office and she wasn’t kidding, Construction workers were literally knocking down walls into newly leased space and phone company workers were rolling phone cables down the hallways, adding to the half a dozen cables already in the hall. [Green flag number 2.] So we started on the tour, I saw a lot of worker crammed together in all their limited office space, but the most interesting thing I saw that the end of the tour was the mail room. I will never forget the rows and rows of card tables, and dozens of workers, temp workers I was told, opening envelopes of incoming orders. What was most amazing wasn’t the six inch high stacks and stacks of checks, but the stacks and stacks of cash! [Green, the color of money, flag number 3.] It looked like a drug dealer’s money counting den. I said to the broker liaison, “Cash?” and she said “Were not supposed to accept cash but we go ahead and accept it as a service to our clients.” Remember, this was way before the anti-terrorist and anti-drug money laundering laws.

At the time, I already knew that Franklin was a publicly traded company, but the stock was relatively unknown at that time in the investment world. The stock market had already closed for the day, but the next morning, I called a trader at the stock clearing firm that my firm cleared their stock trades through and placed a market order for about $1500 worth of stock, all I could afford at the time. The trader informed me that it was a thinly traded stock. I said, “That’s fine. Just buy the stock at the market.” The stock was trading for around $7 per share at the time, or 21 cents per share on a split adjusted basis. The stock now trades for over $120 per share, so the rest is history – almost. There is a sad follow-up to this story, which I will cover in an article tomorrow.

In the mean time, keep your eyes open for red flags and green flags.

Author does not own BEN [unfortunately] or CWTR at this time.

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