Kent Lucas, Editor of Taipan’s Safe Haven Investor, shares some of his keys for skillful value investing, as written for Taipan Daily.

Kent Lucas (Taipan Daily):

I’m sure many of you know all too well about the problem of insomnia. It affects four in 10 adults, according to the European Journal of Psychiatry. And a 2009 National Sleep Foundation study indicated that 67% of those surveyed experienced a sleeping problem at least a few days a week compared to only 13% in 1991.

I’m sure the wildly swinging stock market – down 50%, up 60% from the lows, etc. – hasn’t helped. Even as times get increasingly hectic, though, you want to make sure you’re getting enough quality sleep. It’s proven to help you function better during the day (and live longer).

The tie-in is that, when it comes to long-term investing at least, I’m here to help you sleep better at night. So today we’ll look at the importance of financial strength when searching for high-quality investment ideas.

The Financial Fortress

To that end, my game plan is investing in Financial Fortresses – rock-solid companies that can withstand economic fallout (and occasional serious beat downs from Mr. Market. (Picture a Sherman tank that can withstand serious artillery attack.)

There are many high-quality companies in outstanding financial position because of the many reasons, including having a “very wide economic moat,” that I previously discussed.

From my perspective, a Financial Fortress is typically an investment-grade company that either has

a) a great balance sheet

b) large cash flow generating capabilities, and/or

c) impressive asset efficiency

To give you some idea of what I mean, here is a sample list of companies that are cash-rich or otherwise don’t carry any long-term debt.

Fiscal Prudence

Companies with great balance sheets have low long-term debt levels or even no debt at all (with actual net cash on their books). This creates a solid cushion, enabling such companies to weather tough economic times or temporary challenges to the underlying business. Operating with cash on hand and little or no debt also allows for tremendous financial, strategic and operational flexibility to fuel growth and generate solid shareholder returns. And for our purposes of protecting and creating wealth, a company with a superior financial position increases the odds of generating above-market returns.

Some companies are just very conservative and refuse to take on significant amounts of debt. Among corporate financial theorists, there is plenty of research and debate in regard to potential optimal levels of debt, equity and so on.

For many if not most companies, taking on a certain amount of debt makes sense. Companies can manage what is known as their “capital structure” by issuing debt or raising new funds through equity offerings (issuing more stock) during a strong market period. Or, companies can be so profitable that they generate ample “free cash flow” from their day-to-day operations.

Click here for the rest of Mr. Lucas’ article on Taipan Daily.