The Next Million-Dollar Penny Stock

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Penny stocks can make you rich. Need proof? Every one of these multibaggers was once a penny stock:

Company	Recent Price	CAPS Stars (out of 5)	5-Year Return
Titanium Metals (NYSE: TIE)	$8.24	*****	300.0%
Health Grades (Nasdaq: HGRD)	$3.71	*****	185.4%
AsiaInfo Holdings (Nasdaq: ASIA)	$17.05	***	247.2%
AK Steel (NYSE: AKS)	$13.07	***	218.8%
MasTec (NYSE: MTZ)	$13.35	***	214.1%

Sources: Motley Fool CAPS, Yahoo! Finance.

The promise of outrageous returns has periodically made even the world's best stock pickers into penny stock investors. Peter Lynch has enjoyed the stock market's super-cheap seats in the past, and still does on occasion. The Royce Low-Priced Stock fund has beaten the market for a decade by betting on stocks trading near or below $10 a share, including Corinthian Colleges (Nasdaq: COCO).

Even the All-Stars in our 130,000-plus Motley Fool CAPS community take to penny stocks. More than a few have been richly rewarded.

Pennies from heaven
So why not invest in penny stocks? Well, the warning the SEC issued about them provides one excellent reason to steer clear. But what if we take the agency's definition literally, and limit our choices to stocks trading between $1.50 and $5 a share? And what if we further seek only four- and five-star stocks with a market cap between $250 million and $2 billion? Surely our CAPS screener would return some winners, right?

This week when I ran that screen, 49 stocks made the cut -- not including our last topper, National Bank of Greece. 

My favorite penny stock this week is one I also find loathsome: Advance America, Cash Advance Centers (NYSE: AEA). Why loathsome? Call it the curse of having suffered through an unsustainable debt load. Payday lenders like Advance America, whether they intend to or not, prey on those who have no other choice.

Nevertheless, most of those who follow Advance America in our CAPS community wax bullish about the stock:

Metric	Advance America
CAPS stars (out of 5)	****
Total ratings	283
Percent bulls	91.2%
Percent bears	8.8%
Bullish pitches	40 out of 46

Data as of May 12, 2009.

CAPS All-Star marketbadger pins the case for Advance America on a rotten economy and human nature. Capitalism at its corruptive best, you might say.

Fellow All-Star G8BigBoom offers further insights:

Very smart company that knows how and where to make money. If the situation changes in an area [Advance America] will not stay put but will move to better greener pastures. Exspecially with credit tightening and many loosing jobs this becomes a last chance for many people to make it. Very scary but as the way things are turning seems to be a very good logic to invest. When credit does loosen in the coming YEARS this stock will suffer as a result.

Perhaps. A dispassionate view of the numbers shows that desperation pays. Advance America has enjoyed a better-than-70% gross margin on its lending business since 2005. Returns on capital and equity remain greater than 16% and 19%, respectively.

If there's a problem with Advance America, it's that growth has gone missing. Capital IQ shows that net margin has been backsliding since 2007. Still, with the stock trading for about six times normalized earnings -- well below historic norms -- the risks appear to be muted.

But that's my take. I'm more interested to know what you think. Would you buy Advance America at today's prices? Let us know by signing up for CAPS today. It's 100% free to participate.

See you back here next week with another penny stock from heaven. Fool on!