Investing in liquid companies is considered to be profitable as liquidity is a measure of a company’s financial health. A company’s liquidity measures its ability to meet short-term debt obligations. Companies with favorable liquidity levels are not only considered to be financially strong but are also believed to provide healthy returns.
However, one should be careful before investing in securities of highly liquid companies as this may also be an indication of the company’s inefficiency to utilize its assets. This is the reason why a strategy that successfully identifies efficient companies with favorable liquidity positions is poised to provide impressive returns irrespective of market conditions.
Key Ratios to Indicate Liquidity
Current, quick and cash ratios are considered as the main indicators of the liquidity level of a company. The current ratio or working capital ratio indicates a company’s potential to meet both short- and long-term debt obligations by measuring current assets relative to current liabilities. Contrastingly, quick ratio or acid-test ratio or quick assets ratio only seeks to measure a company’s ability to pay short-term obligations. Due to this, current assets excluding inventory are considered while calculating quick ratio.
Separately, the cash ratio – the most conservative of the three ratios – indicates a company’s potential to convert its most liquid assets to pay current debt obligations. This is the reason why it only considers cash and cash equivalents relative to the company’s current liabilities. Values of all these ratios above 1 may signal that the company is in good financial shape. However, high values of these ratios may also indicate that the company has failed to utilize its assets significantly. Hence, we consider liquidity ratios between 1 and 3 for healthy choices.
In addition to favorable liquidity ratios, we have included asset utilization in our screening parameters in order to avoid screening high liquid but inefficient companies. Asset utilization, which is a ratio of total sales over the past 12 months to the last four-quarter average of total assets, is a widely used measure of a company’s efficiency. A company with high asset utilization is considered to be efficient.
Also, we have added our proprietary Growth Style Score to the screen with an objective to ensure that these liquid and efficient stocks have solid growth potential too.
Current Ratio, Quick Ratio and Cash Ratio between 1 and 3
(While liquidity ratios of greater than 1 are desirable, significantly high ratios may indicate inefficiency)
Asset utilization greater than industry average
(Higher asset utilization than the industry average indicates a company’s efficiency.)
Zacks Rank equal to #1
(Only Strong Buy rated stocks can get through. You can see the complete list of today’s Zacks #1 Rank stocks here.)
Growth Style Score less than or equal to B
(Back-tested results show that stocks with a Growth Style Score of ‘A’ or ‘B’ when combined with a Zacks Rank #1 or #2 handily beat other stocks.)
Just these few criteria have narrowed down the universe of over 7,700 stocks to only 15.
Here are five stocks from the list:
Five9, Inc. (FIVN - Snapshot Report) offers software products such as workforce management, speech recognition, predictive dialer, and voice applications. FIVN has a Growth Score of ‘A’ and an average four-quarter positive earnings surprise of 29.1%.
Vocera Communications, Inc. (VCRA - Snapshot Report) provides mobile communication solutions focused on addressing critical communication challenges facing hospitals. VCRA has a Growth Score of ‘A’ and an average four-quarter positive earnings surprise of 28.1%.
Urban Outfitters Inc. (URBN - Analyst Report) operates two business segments consisting of a lifestyle-oriented general merchandise retailing segment and a wholesale apparel business. URBN has a Growth Score of ‘A’ and an average four-quarter positive earnings surprise of 6.7%.
WellCare Health Plans, Inc. (WCG - Snapshot Report) provides managed care services targeted exclusively to government-sponsored healthcare programs. WCG has a Growth Score of ‘B’ and an average four-quarter positive earnings surprise of 29.6%.
Applied Materials, Inc. (AMAT - Analyst Report) develops, manufactures, markets and services semiconductor wafer fabrication equipment and related spare parts. AMAT has a Growth Score of ‘B’ and an average four-quarter positive earnings surprise of 5.1%.
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Disclosure: Officers, directors and/or employees of Zacks Investment Research may own or have sold short securities and/or hold long and/or short positions in options that are mentioned in this material. An affiliated investment advisory firm may own or have sold short securities and/or hold long and/or short positions in options that are mentioned in this material.
Disclosure: Performance information for Zacks’ portfolios and strategies are available at: https://www.zacks.com/performance.
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