What You Need to Know about Management Before You Invest in Penny Stocks - dummies

What You Need to Know about Management Before You Invest in Penny Stocks

By Peter Leeds

An incompetent leader can bankrupt even a wonderful penny stock company. Conversely, a great leader can take an awful company to much higher levels. Because penny stocks are generally smaller, newer, and more speculative, management can have an even greater impact on them than on larger companies.

Management roles in penny stock companies

A company’s executives and management can be made up of various job titles. For example, a Chief Technology Officer (CTO) may be of paramount importance to an Internet company while a coal penny stock may not have or need one at all. In general most penny stocks have people in the following positions:

  • Chief Executive Officer: This is the person in charge of all the other officers. The CEO is usually the person responsible for the vision for the company and who makes many of the major decisions.

  • President: This individual is in charge of most of the operations and supervises the vice-presidents. In smaller companies, the CEO often takes on the role of the President as well.

  • Chief Financial Officer (CFO): The CFO is in charge of the financial reporting of the company, is heavily involved any fundraising efforts, and oversees anything to do with a corporation’s money flows.

  • Chief Operations Officer (COO): The COO is responsible for all the operations of a business, such as product production and delivery, systems development, employee policies, and day-to-day business activities. Often the COO helps the CEO achieve her vision.

  • Vice-President (VP): Typically a VP leads each business division. Depending on the company, there may be a VP of marketing, a VP of inventory management, and a VP of operations.

  • Chief Technology Officer (CTO): This is usually the individual in charge of all the company’s technologies. The CTO answers to the CEO.

  • Chief Information Officer (CIO): Corporations with a heavy degree of information technology (IT) typically assign one person to the role of a full-time CIO.

In addition to these roles mentioned, you may see Chief Creative Officers (CCO), Chief Diversity Officer (CDO), and Chief Business Officer (CBO), among others. The breakdown of leadership is less important than their overall effectiveness.

What have these penny stock managers done before?

The best indicator of future success is previous success. Companies generally announce new executives by way of a press release, and that announcement usually mentions or highlights the previous experience of the individual. They also tend to post career highlights of the key managers on their websites. If you can’t find the information on a press release or website, you can always call the company and ask for details.

Pay attention to the time when the manager or executive was with that corporation and check to see how well the shares performed over that time period.

Keep in mind that you can’t always pin the previous company’s total success or failure on the executive.

The corporate commitment level

If the CEO and most other executives are financially invested in the company, it stands to reason that it’s in their best interests for their stock to do well.

The term insider can cause confusion among investors because it describes two different types of people associated with a company. Any person or organization that owns 10 percent of a company is considered an insider. They must report their position and trades as soon as they hit that threshold.

The other type of insider refers to any individual in a position to have specialized or material knowledge of the operations of a company — for example, the president of marketing, or the chief financial officer, or the CEO. When you hear about insider trading on the news, it is generally based on the latter type.

When insiders trade shares, they’re required to report their activities. Those buys and sells become public record and are generally displayed on any websites or services that provide financial information.

While more insider ownership is generally better than less, people often put too much stake in it. They assume that significant insider buying implies upcoming positive events for the company. On the other hand, many investors see heavy insider selling as a sign of lower share prices to come. Many investors rely heavily on insider trades to give them potential direction of future share prices.

Most investors assess insider ownership as a part of our analysis. They are simply looking to see management’s level of involvement and commitment and don’t consider insider trading as at all indicative of future price direction. To help you understand why, consider that managers are

  • Generally not good investors: Top managers may be great at what they do, but they typically aren’t good investors. If you gauge when to trade shares based on their moves, you’ll get the same lackluster results that they’re getting.

  • Biased: Typically, top executives are very optimistic about the prospects of their company. Insiders buy shares in penny stocks that are nose-diving toward zero just as often as they purchase shares on the upswing.

  • Real people: Sometimes a purchase or sale is just about an individual doing what they need to for their nonbusiness life. They may have extra money to invest from other sources, or they may need to raise cash by selling shares so they can pay down their mortgage.

  • Sometimes new to the company: Often when new players join the ranks of a corporation, they pick up shares to increase their ownership from zero.

You should hope to see some insider ownership, and usually the greater position by the management, the better. An insider position of 10 to 20 percent is typically a good sign, but be cautious of significantly larger ownership levels.

If the top managers hold control over more than 50 percent of the shares, then they can do whatever they want.