Investors seeking strong returns may allocate their assets in stocks with favorable liquidity positions. Liquidity is an important yardstick that indicates a company’s capability to meet debt obligations by converting assets into cash.
A company with a favorable liquidity position has the potential to provide higher returns as liquidity drives growth. However, one should exercise caution before investing in such stocks. While a high liquidity level may imply that the company is meeting its obligations at a faster rate than its peers, it may also indicate that the company is failing to use its assets efficiently.
Hence, one may consider the efficiency level of a company in addition to its liquidity to identify potential winners.
Measures to Identify Liquid Stocks
Current Ratio: It measures current assets relative to current liabilities. This ratio is used for measuring a company’s potential to meet both short- and long-term debt obligations. Thus, a current ratio — also known as working capital ratio — below 1 indicates that the company has more liabilities than assets. However, a high current ratio does not always indicate that the company is in good financial shape. It may also mean that the company has failed to utilize its assets significantly. Hence, a range of 1 to 3 is considered ideal.
Quick Ratio: Unlike current ratio, quick ratio — also called “acid-test ratio" or "quick assets ratio" — indicates a company’s ability to pay short-term obligations. It considers inventory excluding current assets relative to current liabilities. Like the current ratio, a quick ratio of greater than 1 is desirable.
Cash Ratio: This is the most conservative ratio among the three, as it takes into account only cash and cash equivalents, and invested funds relative to current liabilities. It measures a company’s ability to meet its current debt obligations using the most liquid of assets. Though a cash ratio of more than 1 may point to sound financials, a higher number may indicate inefficiency in cash utilization.
So, a ratio greater than 1 is desirable at all times but may not always appropriately represent a company’s financial condition.
In order to pick the best of the lot, we have added asset utilization, which is a widely used measure of a company’s efficiency, as one of the screening criteria. Asset utilization is the ratio of total sales over the past 12 months to the last four-quarter average of total assets. Though this ratio varies across industries, companies with a ratio higher than their respective industries can be considered efficient.
In order to ensure that these liquid and efficient stocks have solid growth potential, we have added our proprietary Growth Style Scoreto the screen.
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 Score less than or equal to B (Back-tested results show that stocks with a Growth Score of A or B when combined with a Zacks Rank #1 or 2 handily beat other stocks.)
These criteria have narrowed down the universe of over 7,700 stocks to only five.
Here are four of the five stocks that qualified the screen:
Columbus, OH-based DSW Inc. (DSW - Free Report) is a leading branded footwear and accessories retailer that offers a wide selection of brand name and designer dress, casual and athletic footwear and accessories for women, men and kids. The company has a Growth Score of A and delivered an average four-quarter positive earnings surprise of 17%. The Zacks Consensus Estimate for fiscal 2019 earnings per share remained stable at $1.74 over the last 30 days.
Headquartered in Irvine, CA, Tilly's, Inc. (TLYS - Free Report) is a specialty retailer in the action sports industry selling clothing, shoes and accessories. The company has a Growth Score of A and delivered an average four-quarter positive earnings surprise of 87.6%.The Zacks Consensus Estimate for fiscal 2019 earnings per share remained unchanged at 90 cents over the last 30 days.
Urban Outfitters, Inc. (URBN - Free Report) , headquartered in Philadelphia, PA, is engaged in the retail and wholesale of general consumer products. The company has a Growth Score of A and delivered an average four-quarter positive earnings surprise of 17.7%.The Zacks Consensus Estimate for fiscal 2019 earnings per share increased by a penny to $2.67 over the last 30 days.
Israel-based Ituran Location and Control Ltd. (ITRN - Free Report) provides location-based services, consisting predominantly of stolen vehicle recovery and tracking services, as well as wireless communications products used in connection with its location-based services and various other applications. The company has a Growth Score of B and delivered an average four-quarter positive earnings surprise of 16.33%. The Zacks Consensus Estimate for fiscal 2018 earnings of $2.08 remained unchanged in the last 30 days.
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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.