Profitability analysis is one of the most effective methods to assess the potential of a stock. Using profitability analysis, we can figure out whether a company can generate enough sales revenue not only to meet all its cost and expenses but also to pass on strong returns to its investors. However, if a profitable company has weak fundamentals, it may not be able to give a satisfying stock performance.
Several studies have indicated that a company with high profitability normally offers healthy returns to its investors.
So, in order to determine the exact profitability of a company, we have used the most effective profitability metric- net income ratio.
Net Income Ratio
Profitability ratios in general are classified into gross income ratio, operating income ratio, pretax profit margin and net income ratio. Here, we have selected net income ratio in order to assess the exact level of profitability of a company.
Net income ratio is measured by dividing net income by total sales revenue. The higher the net income ratio, the better is the company’s profitability. This is because it showcases how effectively the company shells out all its business-related expenses and generates funds.
Net income ratio is not the only indicator of future winners. As such, we have added a few additional criteria to arrive at a winning strategy.
Zacks Rank equal to #1: Only Strong Buy stocks are allowed. With the Zacks Rank proving itself to be one of the best rating systems out there, this is a great way to start off.
12-Month Trailing Net Income Ratio Higher than X Industry: A higher net income ratio indicates a company’s solid profitability.
12-Month Trailing Sales and Net Income Growth Higher than X Industry: Stocks that have displayed higher sales and net income growth in the last 12 months give a better financial performance.
% Rating Strong Buy greater than 70%: This indicates that 70% of the analysts covering these stocks are optimistic.
Here are five of the 10 stocks that qualified the screening:
Amphastar Pharmaceuticals, Inc. AMPH is a specialty pharmaceutical company. This company has an average four-quarter earnings surprise of more than 100%.
Parsley Energy, Inc. PE is an independent oil and natural gas company. It has an average four-quarter earnings surprise of 97.9%.
Entegris, Inc. ENTG is a leading provider of materials management solutions to the high-technology industries, including microelectronics. The company has an average four-quarter earnings surprise of 20.7%.
State Bank Financial Corporation STBZ, through its subsidiary, provides community banking services to individuals and businesses in the middle Georgia and metropolitan Atlanta markets. It has an average four-quarter earnings surprise of 10.4%.
HollySys Automation Technologies, Ltd. HOLI is one of the leading automation systems providers in the People's Republic of China. The company has an average four-quarter earnings surprise of 6.1%.
While backtesting over a two-year timeframe (August 08, 2014 to August 05, 2016), a portfolio following this strategy provided a total return of 13.8% compared with the S&P 500’s return of 9.3%. Thus, this strategy may prove profitable for those looking to beat the markets.
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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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ENTEGRIS INC (ENTG): Free Stock Analysis Report
STATE BANK FINL (STBZ): Free Stock Analysis Report
AMPHASTAR PHARM (AMPH): Free Stock Analysis Report
HOLLYSYS AUTOMT (HOLI): Free Stock Analysis Report
PARSLEY ENGY-A (PE): Free Stock Analysis Report
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