Earlier this month, WCI Communities succumbed to the inevitable and filed for bankruptcy protection. In a previous article, I used CAPS, the Motley Fool's investing community, to highlight seven builders that could wreck your portfolio. WCI Communities was one of the stocks that popped up on that screen. Now, some would argue that was just luck, a hole in one, something that will never happen again.

But, as the Roman philosopher Lucius Seneca once said, "Luck is what happens when opportunity meets preparation." A bit of research before you invest can give you a critical competitive advantage, and vastly improve your chances for success.

Motley Fool CAPS can help, especially when it comes to helping you avoid the worst businesses the market has to offer. Stocks like these will almost certainly become potholes, if not outright roadblocks, on your path to riches. Being able to spot them in advance will give you plenty of time to steer clear.

To find these, we'll screen for a few simple criteria:

  • We'll start by seeking stocks with CAPS' lowest one-star rating that also have at least 100 All-Star underperform picks. All-Stars are our highest-scoring members, having earned their ratings through Foolish picks that have outperformed the market.
  • Insiders of sinking ships usually couldn't care less about shareholders. One way to check this is to look for companies with very low levels of insider ownership -- in this case, below 3%. However, for really large companies, this can sometimes be difficult, so don't use this criterion by itself.
  • Finally, a return on equity of less than 5% is an indicator of a tough and potentially failing business. As the screen will show, most of these companies won't be profitable at all.

Here's what the screen came up with. Most of the names probably won't surprise you.

Company

All-Star Underperforms

Insider Ownership

Return on Equity (TTM)

Delta Air Lines (NYSE:DAL)

136

0.5%

Not Profitable

Fannie Mae (NYSE:FNM)

292

0.3%

Not Profitable

Krispy Kreme Doughnuts (NYSE:KKD)

143

1.4%

Not Profitable

MBIA (NYSE:MBI)

266

1.4%

Not Profitable

National City (NYSE:NCC)

185

1.1%

Not Profitable

Northwest Airlines (NYSE:NWA)

128

2.26%

Not Profitable

Wachovia (NYSE:WB)

298

2.82%

Not Profitable

Source: Motley Fool CAPS as of 8/18/08. TTM = trailing 12 months.

Please note that these companies could be deep values -- or value traps. As always, before you go long or short, it's important to do your own due diligence. That said, here's what a few CAPS community members have to say about these businesses.

In June, joker245 wrote this about Northwest Airlines:

With the FAA cracking down and inspecting more, you'll see many of [Northwest]'s planes grounded and/or decommissioned. On 4/24 they got a waiver from their banks when they blew the Fixed Charge Coverage Ratio covenant on their credit facility. For those that don't know, what that means in this case is that their entire cash flow for the last 12 months (EBITDAR) is less than their fixed charges. ... The way these waivers tend to go, this is a conservative estimate of when [Northwest] will get back into compliance. The banks like to keep a short leash and don't like to give defaulting companies a waiver for more than a year. 

 ww2004 made a good point about Wachovia back in May:

There is a lot of speculation that the worst of the credit crisis is over. If sub-prime were the only concern that might be true but the next wave will be prime borrowers with option ARM loans. As average house prices continue to fall and option ARM rates begin to reset, over the next year banks like [Wachovia] and [Washington Mutual] will continue to perform poorly. Golden West, now part of Wachovia, created the option arm and has billions of dollars of exposure, much of it concentrated in hard hit California.

Early in 2007, CAPS community member FoolishChemist was on record with this delicious tidbit:

The local Krispy Kreme's sign has said "Hot Doug nuts now" for the past five months. Now the sign says "Hot Doug now" Doesn't fill me with confidence.

Then, in January, he followed it up with: "The store is now closed."

Regardless of where you sit on the fence of luck, there is no denying that CAPS helped me to locate (and avoid) a seriously distressed asset like WCI Communities, and it could do the same for you! Go ahead and sign up -- it's 100% free. Our CAPS community of more than 115,000 investors -- made up of some of the brightest minds around -- would like to know what you think.

More CAPS content and general Foolishness:

  • Learn a lesson from an investing genius.
  • Don't ignore this market indicator.
  • Who let the dogs out?

Wade Michels is an active CAPS member, rated among the top 1,000 members, and doesn't own any of the stocks mentioned in this article. Wade makes sure that he doesn't need luck by disclosing the stocks that he owns here. The Fool's disclosure policy is better than a four-leaf clover.