Liquidity indicates a company’s capability of meeting its debt obligations by converting its assets into liquid cash and equivalents. Companies with a favorable liquidity position have always been in demand as they are believed to have the potential to boost portfolio returns.
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.
Therefore, one may consider the efficiency level of a company in addition to its liquidity for recognizing prospective 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 higher than 1 may point to sound financials, a high 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 Score to the screen.
Current Raio, 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.)
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:
Domiciled in Baltimore, MD, Medifast (MED - Free Report) is one of the major providers of healthy living products. The Zacks Consensus Estimate for 2019 earnings per share has been stable at $6.52 in the last 30 days. The company has an attractive Growth Score of A and delivered average four-quarter positive surprise of 10.45%.
Based in Vancouver, Canada, lululemon athletica inc. (LULU - Free Report) is a yoga-inspired athletic apparel company, creating lifestyle components. The company has a favorable Growth Score of A and came up with average four-quarter earnings surprise of 19.87%.The Zacks Consensus Estimate for fiscal 2018 earnings is pegged at $4.62, up 5% over the last 30 days.
Headquartered in Sunnyvale, CA, Fortinet Inc. (FTNT - Free Report) is a provider of network security appliances and Unified Threat Management (UTM) network security solutions to enterprises, service providers and government entities worldwide. The company has a Growth Score of B and delivered average four-quarter positive surprise of 18.77%. The Zacks Consensus Estimate for 2019 earnings has been retained at $2.07 in the last 30 days.
Headquartered in Toronto, Canada, Kirkland Lake Gold Ltd. (KL - Free Report) engages in the provision of mining and mineral exploration. The company has a Growth Score of B and pulled off average four-quarter beat of 6.45%. The Zacks Consensus Estimate for fiscal 2018 earnings of $2 has been unchanged over 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.