A leading real estate developer in Louisville, Ky., J.D. Nichols, tells me the smartest way to purchase a house is to buy one that requires repairs or even looks like a dump. His premise is pretty simple. You buy cheaply because of the need for repairs. You then fix the place up and when you sell, you do so at a handsome profit.

One sharp stock-picking analyst, Charles Carlson, an editor of the Dow Theory Forecasts, a well-regarded weekly newsletter out of Hammond, Ind., applies the same thinking to the stock market. Looking to 2005, he’s gung-ho on a trio of Big Board companies with temporary problems, each of which was a deadbeat during the November rally. He figures his three nuggets – Citigroup ($45.91), Eli Lilly ($55.04) and medical device maker Guidant ($71.55) – all have the potential for 15%-20% stock appreciation over the next 12 months.

In other words, for those investors willing to take a shot on laggards with problems, Mr. Carlson thinks some brave souls will strike gold in the investor’s doghouse.

Here are some brief comments on the three companies, a look at their most pressing problems and why our bull favors their purchase.

Citigroup: The stock, hurt by concerns of an earnings slowdown, has pulled back more than 15% from its 52-week high of $52.88. While Citigroup’s per-share earnings are expected to rise nearly 18% this year, growth is seen slowing to less than 9% in 2005. Likewise, the threat of further interest rate increases is giving investors pause.

Nevertheless, observes Mr. Carlson, with the stock trading at just slightly above 10 times the consensus 2005 earnings estimate of $4.38 a share, much of the expected earnings slowdown appears to be factored into the stock price. Further the 3.6% yield should provide some downside support.

Eli Lilly: Not immune to the selling pressures that have hit virtually all pharmaceutical stocks, its shares, down from their 52-week high of $76.95, are currently trading around their 52-week lows.

Despite a number of new products, including Cymbalta, a depression treatment, and Alimta, a treatment for lung cancer, and a well-stacked product pipeline, investors are fixated on the problems surrounding the firm’s Zyprexa schizophrenia drug. This $4 billion drug has been losing market share to new entrants, and a pending court decision could allow generics to invade the market, which, in turn, is scaring investors. Their concerns have driven the stock’s valuation to less than 19 times consensus 2004 earnings estimates, which is at the extremely low end of its five-year price-to-earnings multiple range.

Still, notes Mr. Carlson, when investors return to the drug sector, Lilly should be among the leaders coming off the bottom. One important enticement: a 2.7% yield, which is quite high relative to its historical levels.

Guidant: It’s trading at a slight discount to its 52-week high established in March. That discount was much greater in July, when the stock fell to near $50 before rebounding in recent months. The big concern continues to be Guidant’s ability to compensate for continued erosion in the company’s coronary-stent business. New drug coated stents have been taking market share away from Guidant’s bare metal stents. Guidant is not expected to have a coated stent on the market before 2006.

The firm, though, has done a credible job of replacing lost stent sales. For example, its total third-quarter sales rose 0.5% despite a 38% decline in stent sales. Taking up the slack were cardiac surgery products, which rose 41%, and implantable-defibrillator systems, which increased 16%.

Guidant’s consensus earnings estimate for 2004 has crept up over the past 90 days to $2.42 a share, down 0.2 cents from 2003’s results. The 2005 consensus estimate, which has also moved higher in the past 90 days, is $2.61. The company also offers a speculative kicker as a possible takeover candidate by Johnson & Johnson, an oft-rumored suitor, which explains why its stock is trading close to its 52-week high of $74.20.