In a nutshell, my balance sheet approach to investing emphasizes the matters of financial flexibility and substantive equity, both of which are primarily defined by a company’s present balance sheet. I say “primarily” because future performance indeed will change the existing balance sheet in terms of its financial flexibility and its quantity and composition of equity. How a company manages that future performance will impact the future balance sheet.

As stated in my book, “Choose Stocks Wisely,” I have veered from the discipline of my balance sheet methodology on a very limited number of occasions over the years since I first implemented the approach and, as a rule, these occasions have proved costly. In those settings, the balance sheet may have had financial flexibility or substantive equity, but not both. For instance, there were a few times where I was attracted by a very significant apparent growth prospect for a company where the company possessed the financial flexibility (sufficient liquidity to service debt and conduct operations) but lacked the amount of tangible quality equity to support my buying price should the growth prospect flop; and there were some flops when those growth prospects failed to materialize.

Without a balance sheet reflecting financial flexibility, a company is not in a position to take advantage of business opportunities without some financier(s) providing capital. Negotiating from a position of a weak balance sheet puts the company in need of financing and at the mercy of the lender/investor. So, compromising an investment via looking past a balance sheet that lacks financial flexibility is taking on considerable risk of losing serious money.

Without a balance sheet reflecting sufficient equity to substantively support the present stock price, an investor is again at the mercy of a growth story to pan out because if the story flops, the stock price can have a long way down before it has officially “flopped.”

I revisit this balance sheet theme today in this post to start 2017 because it is so important if one intends to invest based on a solid financial foundation. That foundation is expressed primarily by the balance sheet. The better you understand the balance sheet and its components, the better decisions will result.

While there is no investing approach that can assure success with stock investments because success depends on a company’s future performance, a great balance sheet supportive of a current stock price plus a positive outlook for company growth stands the best chance of a favorable investing outcome. My book, “Choose Stocks Wisely” represents my efforts to communicate the premises of financial flexibility and substantive equity. Without sufficient equity, I can easily overpay; without financial flexibility, a great potential company future may be unattainable without the company paying a steep price to realize that future.