Picking good stocks is only the first part of the formula for successful investing. The second part involves watching your portfolio for signs of trouble and culling stocks that become too risky.

Two weeks ago, I listed three metrics I use to identify risky stocks. I’m always alert for increasing share sales by corporate insiders, dividends that exceed earnings, and insufficient income to cover future interest and principal payments. Any of these warning signs are enough to make me re-evaluate a holding and possibly sell.

Here are three more red flags I also look for, including three examples of stocks in which may be wise for investors to avoid.

#-ad_banner-#Warning sign #4: Working capital deficit
Working capital is the amount of current assets that exceeds current liabilities and provides the cushion companies need to fund day-to-day business operations. China-based solar cell maker LDK Solar (NYSE: LDK) for instance, has no such cushion. The company’s June 2011 balance sheet shows current assets of roughly $2.9 billion, current liabilities of $4.1 billion and a working capital deficit of $1.2 billion. LDK Solar’s last 20-F filing explained the situation this way:

“We are operating with a significant working capital deficit; if we do not successfully execute our liquidity plan, we face the risk of not being able to continue as a going concern.”

Because the company lacks liquidity, LDK Solar executives fight a continual uphill battle to gain investor confidence. Not surprisingly, shares have been hammered this year, down 73% through early November. In addition, a major downward revision in September quarterly sales guidance has made a bad situation even worse. The company also expects to take a writedown of as much as $45 million on inventory because of falling solar cell prices.

Analysts expect LDK to post a third-quarter net loss of $0.36 per share compared with earnings of $0.72 a share one year earlier. They also predict a full-year loss of $0.33 per share, a big swing from last year’s $2.27 per-share profit.

Warning sign #5: Auditor opinion of going concern risk
Most investors don’t read a company’s annual report, and that’s a big mistake. The financial statements in the report must be accompanied by an auditor’s assessment, so a less-than-glowing opinion should be considered a major red flag.

A case in point is Chinese baby-formula maker Feihe International (NYSE: ADY). This company is struggling to survive under a huge debt load, negative cash flow and near-term payment commitments. In the 2010 annual report, the auditor cited “material weaknesses” in Feihe’s financial controls and issued the following “going concern” opinion:

“…the Company’s losses from operations and deficiency of net current assets raise substantial doubt about its ability to continue as a going concern.”

Feihe’s problems began with an expansion binge that significantly upped sales and marketing spending. During a three-year period, Feihe racked up $166 million in net capital expenditures, but generated only $7 million of cash flow (as measured by EBITDA, or earnings before interest, taxes, depreciation and amortization). At year-end 2010, Feihe had debt totaling $186 million and $48.7 million of payments due in 2011. The company raised the needed cash this year by selling assets, but Feihe needs to generate roughly $60 million in annual EBITDA to fund its operations and comfortably service debt. This is a level the company is not even close to achieving.

Warning sign #6:  Unexplained senior executive departure
The abrupt resignation of a senior corporate executive should set off alarm bells for every investor, because such departures are sometimes followed by revelations of accounting irregularities, compliance issues or a dramatic revision of expectations.
 
Shares of First Solar Inc. (Nasdaq: FSLR) plummeted 25% in October when CEO Rob Gillette left without warning. No explanation was offered, and this was the second major defection from the management team in two months. Jens Meyerhoff, who had been president of the utility systems business and First Solar’s former chief financial officer (CFO), resigned in September after five years at the company. In fact, of the six top corporate officers listed in the 2008 annual report, only one remains with the company today.

A few days after Gillette’s departure, First Solar lowered 2011 financial guidance and announced its need to restructure and cut costs. The company trimmed revenue guidance while lowering expectations for earnings per share (EPS) by 25%.

Risks to Consider: Weak industry conditions can hasten the demise of a troubled company. Right now, few industries are weaker than solar energy. For this reason, I consider the risk associated with LDK Solar and First Solar especially high.

Action to take –> Besides being leery of the two aforementioned solar-energy stocks, investors should be especially cautious of Feihe International because of its debt-laden balance sheet. But these lessons can be applied to any stock. If any of the six warning signs I’ve mentioned applies to one of your holdings, then you should seriously review it and decide whether owning the stock is worth the risk.

P.S. — Rather than owning risky stocks with the traits I mention above, wouldn’t it be a lot easier to sleep at night knowing you own “forever stocks”? That was exactly the thinking that led StreetAuthority Co-founder Paul Tracy to create an entire portfolio of “forever stocks.” Click here to view his exclusive presentation and learn more about these amazing investments.