Making Cents in Penny Stocks

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Low-priced stocks are often low-priced for a reason: They have significant problems to overcome. Yet for those that have fixed their problems, they may be ready to take off to the next level.

At Motley Fool CAPS, a "penny stock" is any stock trading under $10, and you'll find some of the best CAPS All-Stars regularly seeking out winning investments there. We identify these stocks with a penny icon. This week, we'll look at two low-priced investments the CAPS community has singled out as having the best chances of success by bestowing four- and five-star ratings on them. We just might want to turn our umbrellas upside-down to catch 'em!

Company

Recent Price

CAPS Rating (out of 5)

1-Year Return

Estimated 5-Year EPS Growth

Return on Capital

Power-One (NAS: PWER) $4.69****(44%)15%28.0%
China Digital TV (NYS: STV) $3.65****(39%)8%12.6%

Source: S&P Capital IQ, Yahoo! Finance; NA = not available.

These two companies may be low-priced, but that isn't necessarily enough to suggest they'll have an easier time recording big gains. We have to check to see what their catalysts for growth might be before diving in to the shallow end of the stock pool.

Stuck in the doldrums
Wind energy is seeing the wind sucked right out of its sails. The U.S. Senate defeated a tax credit of $0.022 cents per kilowatt-hour for the production of electricity from utility-scale wind turbines. Wind farms are killing golden eagles and migratory birds in droves. Windmills provide just 2.3% of the country's electricity, and though the Energy Department is hoping it will hit 20% by 2030, the Energy Information Administration expects closer to just 4% by 2035. With redundant backup systems necessary for when the wind isn't blowing, I see this form of renewable energy as just an ill wind that blows no one any good.

None of that is good news for Power-One, a provider of power conversion and management systems to the renewable-energy industry. The company manufactures inverters that change DC electricity produced by solar and wind into AC electricity fed into electrical grids. Like Satcon Technology, which has had even a worse go of it, Power-One has seen its shares tumble, even though it's pinning its hopes on emerging markets for succor.

I view these companies as zombies: dead but just don't know it yet. Part of the reason is that parts of the business still look strong. Carbon-fiber manufacturer Zoltek (NAS: ZOLT) , for example, enjoyed a 50% increase in revenues last quarter from wind-turbine companies. Analysts still see American Superconductor (NAS: AMSC) doubling revenues this quarter as it diversifies its client base.

But from a big-picture view, I see the industry as broken, and it is becoming readily apparent that only pricey subsidies will allow it to survive. These undead companies may shamble on for a few more quarters, but they're destined to fester and rot eventually. I've rated Power-One on CAPS to underperform the market, and while I have similarly apocalyptic views on the solar industry, CAPS member CapngainerII thinks its ties to that sector will help it prevail.

Tell us on the Power-One CAPS page or in the comments section below if you agree, then add it to your Watchlist to be notified if its stock gusts higher.

Don't touch that dial!
If you look at China Digital TV's fourth-quarter results in a vacuum, they look disastrous with revenues tumbling 11% YOY. Upon closer inspection, however, it's apparent the year-ago period's results marked a sharp spike in smart-card demand as the deadline loomed for provincial cable network consolidation. After that initial surge ebbed, China Digital has seen continued improvement, and sales were actually 13% higher in the fourth quarter than they were in the third.

Profits were also up in the quarter (annually and sequentially), and it shipped 15% more smart cards than it did last quarter. Although it's taking longer to manifest themselves than I anticipated -- my outperform rating on CAPS for China Digital TV is lagging -- the forces for change are still in motion, so that I'm confident the call will eventually pay off.

China is forcing a conversion to a digital signal by 2015, similar to the one the U.S. drove through a few years ago that drove shares of Dolby Labs and Corning (NYS: GLW) higher as demand for the technology to realize the mandate skyrocketed. China Digital makes the smart cards essential for the new standards and owns 57% of the smart-card market in the country, which is the reason for my confidence in its being a prime beneficiary of the move.

With 95% of the CAPS All-Stars also agreeing that it should outperform the broad market indexes, I'm feeling fairly safe in my CAPSCall. But tell us on the China Digital TV CAPS page if you agree, then put its stock on the Fool's free portfolio tracker to see if it will be able to channel new growth.

Make some change
From tiny valuations big profits can emerge, but economic upheaval can cause results to turn on a dime and create obstacles to retirement happiness. Read the Fool's latest special free report, where we reveal the shocking, can't-miss truth about your retirement -- and what you can do about it. Grab a copy today and find out everything you need to know.

At the time this article was published Fool contributorRich Dupreyowns shares of Dolby Laboratories, but he holds no other position in any company mentioned.Click hereto see his holdings and a short bio. The Motley Fool owns shares of Power-One and Corning.Motley Fool newsletter serviceshave recommended buying shares of China Digital TV Holding, Corning, and Dolby Labs. Try any of our Foolish newsletter servicesfree for 30 days. We Fools may not all hold the same opinions, but we all believe thatconsidering a diverse range of insightsmakes us better investors. The Motley Fool has adisclosure policy.

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