Top-Rated Stocks That Get Low Grades

Motley Fool Stock Advisor

Since 2002, David and Tom Gardner have returned 26.63% while the S&P 500 returned -12.56%. Try Stock Advisor free for 30 days.

• Try it Free

The flipside to shareholder-friendly stocks expected to underperform the market? Highfliers that pay little heed to their owners' interests.

We've already looked at low-rated stocks that may deserve investor support, having earned high Corporate Governance Quotients (CGQ) from Institutional Shareholder Services -- the big name in corporate proxies. But today we'll look at otherwise top-notch firms that may do their shareholders a disservice.

ISS measures how well a company performs in as many as 63 categories, covering four broad areas. Moreover, each company is scored relative to its market index and its industry group. Some evidence supports the notion that companies with weaker governance have higher risk, decreased profitability, and lower valuations. We'll be looking at stocks that Motley Fool CAPS investors have marked to outperform the market, but which sport below-average CGQ scores, either in their Index group or among industry peers.

Company	CAPS Rating	Index CGQ Ranking*	Industry CGQ Ranking*
Avanex (Nasdaq: AVNX)	****	31.8%	44.9%
China Direct (NYSE: CDS)	****	42.3%	26.5%
RF Micro Devices (Nasdaq: RFMD)	****	45.1%	81.3%
Sigma Designs (Nasdaq: SIGM)	*****	36.3%	48.6%
Tengasco (AMEX: TGC)	*****	49.1%	28.9%

Source: Yahoo! Finance, Motley Fool CAPS.
*Relative placement when compared to companies in index or industry. Higher is better.

Investors should consider many factors before buying or selling a stock, including how well that company treats shareholders. Consider these rankings a way to gauge how these businesses stack up against one another, relative to their shareholder policies.

Moving on up
High-definition Blu-ray discs are the next generation in home video quality. Or not. Several manufacturers are hedging their bets with a tweener technology called "upscaling," which supposedly displays inexpensive regular DVDs at near-Blu-ray quality. Toshiba, which backed the now-defunct HD-DVD high-definition format, will be unveiling one such model by year's end. In addition, privately held high-end home theater company Kaleidescape has come out with two pricey players which it claims give Blu-ray quality to DVDs. The latter has worked with chipmaker Sigma Designs, whose technology is currently used in Blu-ray players and other consumer applications that process digital video and audio content.

The breadth of offerings has investors still bullish about the chipmaker's prospects, with CAPS players such as FAOFool believing that the sell-off in share prices is overdone, even in the face of stiff competition from the likes of Broadcom (Nasdaq: BRCM):

While the company has not executed its optimistic and aggressive strategy, it seems oversold at these prices. Sector is cyclical, and BRCM is a formiddable competitor, but there may be enough room for more than one player. Demand for SIGM chips will recover as the economy does...and the consumer electronics products using these chips are in too many 'must-have' items, so we will likely see SIGM recover more quickly than other companies. This is especially true given SIGM's smaller size.

Hot sauce
Although it sounds like a certain pepper-flavored hot sauce, only been the shares of oil and gas exploration company Tengasco have been on fire. Their surge has carried the company from true penny-stock land to far more than $2 a share over the past year. That still makes it a very risky play, since lots of similar companies look like gushers but end up being dry wells.

Investor speculation has run high with Tengasco, though. The company has expanded its credit facility and closed on purchases of new wells, fortifying investor's belief that its growth trajectory will continue. While CAPS player likesmoney notes that Tengasco was listed as the 12th-fastest-growing oil and gas company by one industry journal, much of that growth may have been fueled simply by higher oil prices:

The Company is in the business of exploring for, producing and transporting oil and natural gas in Kansas and ... The May 2008 issue of the publication Oil & Gas Financial Journal reporting on the performance of public oil and gas companies, lists Tengasco as the 12th fastest growing oil and gas company, 5th best in percentage return on total assets, and 6th best in return on total revenue percentage based upon the measures used by the magazine

With a P/E of 18, this baby has room to grow.

A Foolish quotient
Many factors go into whether a stock is a buy or sell, but do corporate governance policies enter into your equation? Head over to CAPS today, and share your thoughts with other investor analysts on whether you think these stocks make the grade.