The Penny Stock That Could Break You

Penny stocks can either make or break your portfolio. I'm talking about the heartbreakers, the hypesters, the stocks destined to disappoint. Stocks such as Omni Reliant Holdings.

Pinched by pennies
More on this stock in a minute. First, let's talk about why you want to avoid most penny stocks. Last year at this time, 3,422 stocks listed on U.S. exchanges were trading for $5 or less, and worth between $5 million and $1 billion in market cap, according to Capital IQ. Of those, 1,823 declined in value over the past year -- while the overall market rose nearly 2%.

It shouldn't surprise you that pink-sheet issues are some of the biggest losers, or that the companies behind these thinly traded stocks are stock promoters' most frequent clients. They pay these hypesters a fee to produce "research" intended to encourage you, the sucker -- I mean investor -- to buy shares.

We don't want you to fall for these shenanigans. To help, we're deconstructing one potential scam per week with help from Motley Fool Hidden Gems co-advisor Seth Jayson and Motley Fool CAPS majordomo John Keeling and their TMFStockSpam CAPS portfolio.

Now, let's look at what Omni Reliant is pitching and why you should avoid this stock. We'll then close by profiling three stocks that are actually worthy of your consideration.

Direct to the trash bin, if you please
Like our last "featured" stock, Resources Exchange, Omni Reliant seems to be promising what it can't deliver. Here's how promoter Shamrock Stocks positions the business:

"Omni Reliant Holdings Corp. is a gem of a company that is paving the way for a brand new business model that is proven very effective in the arena of direct response marketing. As an incubator, [Omni Reliant] has several products that they are taking to the international market with this fully integrated direct marketing approach. "

Talk about obtuse. It's almost a perfect clone of the Underpants Gnome pitch:

  • Phase 1: Collect Underpants
  • Phase 2: ?
  • Phase 3: Profit!

Now, apply this same cadence to the Omni Reliant pitch:

  • Phase 1: New, undefined direct response business model
  • Phase 2: ?
  • Phase 3: Go international!

It'd be silly if it weren't so sad. According to Yahoo! Finance, Omni Reliant is worth nearly $16 million in market cap. Several thousand shares trade hands daily. I'm baffled by whatever it is these so-called investors see in this stock.

Shamrock Stocks is trying to help, but even the details of its pitch get lost in a confusing tangle of generic words and phrases: "Omni Reliant Holdings is a holding company with subsidiaries that utilize DRTV, live shopping, and Internet to build brands. The Company, through its subsidiaries, engages in the creation, design, distribution, and sale of affordable products available to U.S. and international consumers."

Um, what's so unique about that? Didn't IAC/InterActive (Nasdaq: IACI  ) build a direct marketing empire before spinning off the Home Shopping Network as HSN (Nasdaq: HSNI  ) ? What about Liberty Media's (Nasdaq: LINTA  ) QVC? These are the giants of the infomercial business, and they aren't growing too fast anymore. HSN's revenue is up less than 5% over the past 12 months.

Digging deeper into Capital IQ's records yields an interesting tidbit. Omni Reliant creates, designs, distributes and sells "luxury products," including a series of beauty and spa products. Again, this doesn't seem unique to me.

Inside the head-fake
The numbers also present a problem. Receivables have grown faster than revenue in the past year, and free cash flow is nowhere to be found. Gross margin has also declined -- from a peak of 70.3% in 2008 to 38.4% over the past 12 months.

Finally, there's the matter of Shamrock Stocks, the promoter. Omni Reliant has paid the company $52,000 for touting its stock twice. (Details in this disclaimer.) As the pitch to the TMFStockSpam account puts it: "THIS IS A REPEAT EMAIL! "

In that sense, Omni Reliant is almost the perfect stock to short. There's so little holding it up, the promoters have to take a second shot at getting you to buy shares. Plus, Underpants Gnomes aren't that cute.

Is there a story here?
But I promised you more detail about more promising purveyors of luxury goods. There aren't many worth liking in the present economy, where threats of a double-dip recession loom. Sure, luxury retailer Saks (NYSE: SKS  ) could be sold to a private equity group, but that's because the business has suffered years of losses.

That said, these three luxury goods makers appear to be as well-positioned as they ever have been:

  • Apple (Nasdaq: AAPL  ) , which can't seem to make enough iPhones and iPads.
  • Coach (NYSE: COH  ) , which sits at a lower price than a month ago despite a strong quarter in which revenue rose 22%, net income surged 34%, and gross margins improved.
  • Lululemon Athletica (Nasdaq: LULU  ) , whose fitness gear has a following among affluent women. Returns on capital are up nearly 3 percentage points since the company's 2008-2009 fiscal year.

Knowing I'm an Apple guy, you might expect me to go with the Mac maker. You'd be wrong. I like Coach for the same reasons my Foolish colleague Dayana Yochim does: brand loyalty here in the U.S. combined with a growing presence abroad. The stock's 1.6% dividend yield is a bonus, like a free gift at the checkout register.

Now it's your turn to weigh in. How would you invest in the luxury goods industry right now? Discuss in the comments box below.

Apple and Coach are Motley Fool Stock Advisor selections. Try any of our Foolish newsletters free for 30 days.

Fool contributor Tim Beyers is also a member of the Motley Fool Rule Breakers stock-picking team. He had stock and options positions in Apple at the time of publication. Check out Tim's portfolio holdings and Foolish writings, or connect with him on Twitter as @milehighfool. You can also get his insights delivered directly to your RSS reader. The Motley Fool owns shares of Coach and is also on Twitter as @TheMotleyFool. Its disclosure policy wishes the scammers would cram it.


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