When you’re looking for stock market investments with the potential for strong gains, it pays to be skeptical of companies that mainly grow through acquisitions.

That’s because the buyer of something rarely knows as much about it as the seller. So it follows that if a company makes enough acquisitions, it might eventually buy something that has hidden problems. At some point, those problems will come out into the open and hurt the buyer’s earnings.

How bad acquisitions can hurt a stock market investment’s prospects

Acquisitions, particularly big ones, can also push up debt, which leaves the buyer vulnerable to failure if it can’t meet the payments. They can also load the buyer’s balance sheet with goodwill, an intangible asset whose value can drop overnight if it turns out that the company made a bad acquisition. In that case the company has to write off all or part of the acquisition’s cost against current earnings. This can wipe out a year’s earnings, and devastate the company’s share price.

We keep all of these factors in mind when we’re looking for stock market investments to recommend in our investment services and newsletters, including Stock Pickers Digest, our advisory for aggressive investing.

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In the June 3, 2011 Stock Pickers Digest Email/Telephone Hotline, we updated our buy/sell/hold advice on a company that recently made a big acquisition: Intact Financial Corp. (symbol IFC on Toronto).

Stock market investments: Intact looks to extend its reach with AXA Canada purchase

Intact is Canada’s largest provider of property and casualty insurance, based on premiums. Its brands include Intact Insurance, Canada BrokerLink, belairdirect and Grey Power. Intact has two product lines, personal and commercial: Its personal products contribute 70% of its premiums, and include automobile and property insurance that Intact sells to individuals.

Intact recently agreed to buy AXA Canada from Paris-based ASX Group for $2.6 billion. AXA Canada is Canada’s sixth-largest home, auto and commercial insurer.

AXA Canada will increase Intact’s premium revenue by about 40%, to $6.5 billion a year. It will also cut Intact’s reliance on personal auto insurance, which now accounts for 49% of its revenue. As well, the purchase will let Intact expand into Quebec, B.C. and Atlantic Canada.

Our Hotlines keep you up to date with Intact and other fast-moving stock market investments 50 — or more — times a year

As I mentioned, in the June 3, 2011, Stock Pickers Digest Email/telephone Hotline (which you can immediately view when you take a one-month free trial to Stock Pickers Digest), we’ve taken a close look at Intact’s purchase of AXA Canada, and updated our advice on the stock, based on its financial position and the company’s growth strategy, particularly the risks it faces by growing through acquisition.

We’ve concluded our analysis with clear advice on whether you should buy, hold — or sell — the shares. (Note: If you are a current Stock Pickers Digest subscriber, please click here to view Pat’s recommendation. Be sure to log in first.)

Our Hotlines are one of the many ways you benefit when you subscribe to our newsletters, including Stock Pickers Digest. We send out new Hotline messages to our subscribers 50 times a year (or more if circumstances warrant).

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