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After almost a decade as a public company, a chain of sandwich restaurants was still struggling with profitability. This small company, headquartered in St. Louis, just couldn't quite find the winning formula it needed to attract customers to its shops. Despite strong U.S. economic growth from 1995 through 1999, the chain lost money in all but one year in the late 1990s. Hardly sounds like the sort of company any investor would give a second thought. But business started to change for the better in late 1999. That year, the company changed its name from Au Bon Pain to Panera Bread Company (Nasdaq: PNRA). But the chain did more than just change its name -- it remodeled its restaurants to encourage customers to linger in its cafes longer. Unprofitable locations were shuttered. And finally, management re-shuffled the menu to include a wider variety of items and more modern dishes. The result: consumers liked the new concept. In 2000, the company posted its highest annual profits since 1994. And in 2001, despite a weak global economy, Panera managed to double its net income. But what is really impressive are the returns Panera generated for shareholders as it turned from a serial money-loser into a dynamic, profitable firm. Check out our chart.  If you'd had the foresight to buy $10,000 worth of Panera just as it turned the corner to profitability at the end of 2000, you'd now be sitting on more than $48,000. And even if you'd waited a full year, until after Panera's net income doubled from 2000 levels, you'd still have been able to turn $10,000 into more than $21,000. By comparison, over the period from late 2000 to late 2006, the S&P 500 is basically a breakeven proposition. Sound like an isolated example? Well, it isn't. Companies often post losses in their first few years in business. After all, firms can take time to establish their niche and build market share. Expanding to fill a market can mean large up-font costs that cut into profitability. And for restaurants and other consumer-oriented businesses, it takes time to build a brand and reputation that consumers will recognize and start to seek out. In fact, many great companies started as marginally profitable firms, or even downright money losers -- Yahoo! (Nasdaq: YHOO) and Genentech (NYSE: DNA) are just two classic examples. These companies went on to generate tremendous wealth for shareholders despite those early growing pains. But while losses are tolerable early in a company's lifecycle, every company must eventually turn a profit to survive. That magic moment when a company's business model starts to gain traction and losses turn to positive net income is one of the most profitable times to invest. The reason is simple. Many investors and mutual funds won't even look at a stock until the underlying company reaches profitability. Companies that were ignored for years because they were money losers suddenly show up on investors' radar screens when the ink begins to flow black instead of red. Of course, not all firms that go from money losers to moneymakers are great investments. It's also important to look for a few other hallmarks of potential winners. First, most money-losing companies are still likely to have some revenues. Companies with solid revenues can become profitable in two basic ways -- by boosting sales faster than costs, or by cutting costs. The big winners highlighted above became profitable by growing their businesses, not by slashing costs. Once these firms achieved a certain critical scale, they were able to cover costs and turn profitable. While there's nothing wrong with cost-cutting, underlying growth and expansion tends to be much more sustainable over the long haul. With this in mind, in today's screen we looked for companies with three-year annualized sales growth above +25%. Secondly, once companies turn the corner to profitability, they typically start to get investors' attention. One sure-fire measure of investor interest is stock performance -- stocks that are moving strongly higher in price are clearly attracting some buying interest. Therefore, we also limited our search to companies with trailing one-year returns of at least +10%. With these points in mind, my staff and I recently searched through our database of thousands of stocks for companies that met the following criteria: -- Negative net income in each of the past three fiscal years. -- Positive trailing 12-month net income. -- Three-year annualized revenue growth of +25% or higher. -- 12-month share price returns of at least +10%. -- Market capitalization of greater than $100 million. After running these criteria through StreetAuthority's advanced screening software, we came up with the following list of companies . . . Important Note: Throughout the remainder of this article, editor Paul Tracy provides a detailed list of ten companies that meet the guidelines listed above. However, in order to view the remainder of this article, you'll need to subscribe to our premium newsletter -- Market Advisor. After you subscribe you'll receive immediate access to this full article, as well as our monthly Market Advisor newsletter and a host of additional premium content. Please visit one of the following links to continue... Good investing!
Paul Tracy founded StreetAuthority and became Chief Investment Strategist in 2001. Prior to that he spent several years as Managing Editor at a multi-million dollar financial publishing firm with over 150,000 subscribers. In addition to his role as managing editor and lead financial writer, he was also responsible for equity research and managing a team of seasoned professional financial writers, researchers and market commentators. Paul's previous experience includes a position at Robert W. Baird & Co.'s full-service brokerage operations as well as economic research work on a Money and Banking project funded by the National Bureau of Economic Research. He has also spent time doing outside consulting and research for the University of Virginia, has appeared as a guest expert on several prominent financial radio shows, and has been a featured speaker at various investment conferences across the U.S. Paul graduated with a B.S.
in Finance and Management from the McIntire School of Commerce at the
University of Virginia.
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