Smart investors opt for a plan that is likely to yield high returns irrespective of market conditions. Efficiency level, which measures a company’s capability to transform available input into output, is often considered an important parameter used to gauge a company’s potential to make profits.
A company with a favorable efficiency level is expected to provide stellar returns as it is believed to be positively correlated with price performance.
Key Ratios to Identify Efficiency
Sometimes it becomes difficult to measure the efficiency level of a company. This is the reason why one must consider popular efficiency ratios while selecting stocks. These efficiency ratios are:
Inventory Turnover: The ratio of 12-month cost of goods sold (COGS) to a four-quarter average inventory is considered one of the most popular efficiency ratios. It indicates a company’s ability to maintain a suitable inventory position. While a high value indicates that the company has a relatively low level of inventory compared to COGS, a low value shows that the company is facing declining sales, which resulted in excess inventory.
Receivables Turnover: This is the ratio of 12-month sales to four-quarter average receivables. It shows a company’s potential to extend its credit and collect debt in terms of that credit. A high receivables turnover ratio or the “accounts receivable turnover ratio” or “debtor’s turnover ratio” is desirable as it shows that the company is capable of collecting its accounts receivables or that it has quality customers.
Asset Utilization: This ratio indicates a company’s capability to convert assets into output and is thus a widely known measure of efficiency level. It is calculated by dividing total sales over the past 12 months by the last four-quarter average of total assets. Like the above ratios, high asset utilization may indicate that a company is efficient.
Operating Margin: This efficiency measure is the ratio of operating income over the past 12 months to sales over the same period. It measures a company’s ability to control operating expenses. Hence, a high value of the ratio may indicate that the company manages its operating expenses more efficiently than its peers.
Screening Parameters
In addition to the above-mentioned ratios, we have added a favorable Zacks Rank #1 (Strong Buy) or 2 (Buy) to the screen with an objective to make this strategy more profitable.
Inventory Turnover, Receivables Turnover, Asset Utilization and Operating Margin greater than industry average
(Values of these ratios higher than industry averages may indicate that the efficiency level of the company is higher than its peers.)
The use of these few criteria has narrowed down the universe of over 7,906 stocks to only 15.
Here are four stocks from the 15:
The Buckle, Inc. BKE operates as a retailer of casual apparel, footwear, and accessories for young men and women in the United States. The company holds a Zacks Rank #2 (Buy). It has an average four-quarter positive earnings surprise of 8.2%.
Illumina, Inc. ILMN provides sequencing and array-based solutions for genetic analysis. The company, with a Zacks Rank #1 (Strong Buy), has an average four-quarter positive earnings surprise of 25.2%.
Surmodics, Inc. SRDX provides medical devices and in vitro diagnostic technologies to the healthcare industry in the United States and Ireland. This Zacks Rank #1 company has an average four-quarter positive earnings surprise of 859.4%. You can see the complete list of today’s Zacks #1 Rank stocks here.
Huntington Ingalls Industries, Inc. HII engages in the designing, building, overhauling, and repairing military ships in the United States. The company carries a Zacks Rank #2. It has an average four-quarter positive earnings surprise of 9.5%.
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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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