Identify some of the best ASX stocks to buy using Financial Health

Throughout Australia’s Stock Exchange (ASX) history, there have been hundreds of corporate failures, both big and small. More prominent examples include household names like Alan Bond’s Bond Corporation (1989), James Packer and Lachlan Murdoch’s One.Tel (2001), consumer electronics brand Dick Smith (2016), and most recently, Virgin Australia (2020).

Through each corporate failure, many shareholders have lost everything – not because of complacency but because they lacked awareness of the actual quality of these businesses.

However, the reality is that corporate failures will continue to occur in the future.

So how do investors identify some of the best stocks to buy and protect themselves from the risk of significant loss?

The answer lies with two words – Financial Health.

This fundamental investment principle encapsulates the thorough due diligence that investors need to undertake on a business’s financial accounts before deciding to invest in a stock that could provide a high return investment.

Put simply, Financial Health assesses a company’s risk of insolvency by determining whether the quality of its cash flow and profits can service its balance-sheet debt.

The concept was first developed in Australia in 1984 by Dr Merv Lincoln, Lincoln Indicators’ Founder and renowned academic, business leader, and Olympic athlete.

Later, in the 1990s, the process was computerised and commercialised, and to this day, it remains Lincoln Indicator’s first and foremost Golden Rule of Investing.

Our Financial Health Model assesses a company’s underlying quality, investment worthiness and insolvency risk.

It calculates and combines 14 key accounting ratios extracted from a company’s public financial statements – including debt ratios, cash flow ratios, and profit ratios.

The outcome, a Financial Health Score, given to the stock, based on our pioneering quantitative methodology algorithm. It enables investors to focus on quality companies with:

• A history of profitability
• Manageable debt levels
• Strong cash flows

It also enables investors to screen out the hundreds of companies that are financially unhealthy, high risk, and therefore highly speculative because of:

• Weak or negative profits
• High debt and/or intangibles
• Poor cash flow

Without Financial Health to measure the risk of corporate failure, investors are walking into a minefield. As demonstrated by our Financial Health of the Market graphic, some 72% – or more than two in three companies listed on the ASX – have Early Warning or worse Financial Health and are therefore at risk of failure.

And this is why it’s so important. Ultimately, the Financial Health Model enables investors to instantly understand the solvency risk of a company. It acts similarly to insurance for their investments, allowing investors to make confident and informed investment decisions when identifying their best return on investment, while mitigating the risk of loss.

Financial Health has proven its worth. Since it was established, it has enabled Stock Doctor members and our Managed Fund investors to withstand economic shocks and, importantly, avoid the significant financial collapses that have littered the Australian corporate landscape and destroyed billions of dollars of shareholder wealth.

And, since inception, our Stock Doctor Star Stocks have significantly outperformed the market – providing investments with high long-term returns.

We strongly encourage investors to incorporate Financial Health into their investment process and stock selection decisions. Those who do will go a long way to protecting their portfolios and wealth and significantly increasing the chance of achieving financial success in the stock market and doing so with confidence and peace of mind.

To learn more about how the Financial Health Model works and understand how it is used in practice, get a free copy of our Financial Health white paper.

If you would like to see Financial Health in action to help you determine quality ASX stocks, take a FREE trial to Stock Doctor today.