Bulletproof
Stocks
Stocks
That Won't Go Broke
Rumors that one of your stocks is teetering on bankruptcy could ruin your
day. Thus, it’s best to stick with stocks unlikely to suffer that fate.
Here’s how to find them.
Companies usually fail because they’ve run out of cash. Avoiding
bankruptcy candidates involves developing a set of requirements that
cash-starved companies can’t possibly meet.
That’s the goal of my “bulletproof stocks” screen. It finds debt-free,
profitable companies with plenty of cash in the bank. Screening involves
using programs available on financial websites that allow you to pinpoint
stocks that meet your specific requirements.
I’ll use the free Custom Stock Screener offered by Zacks Investment
Research to demonstrate the process. Get there by selecting “Screening”
from Zacks homepage (www.zacks.com)
and then click on
Custom
Stock Screener.
The screener is easy to use once you get the hang of it. The available
search terms (parameters) are divided into categories such as Ownership,
Balance Sheet, Return on Investment, etc.
Start by selecting a category containing a search terms of interest, fill
in the required information for that parameter, and then click “Add.” To
help you find the search parameters, I’ve listed the corresponding
category name in parenthesis after each search term description. If you’re
rusty on your math terms, you need to know that “>=” translates to “equal
to or greater than,” and “<=” means “equal to or less than.”
Here are the details.
No Debt – No Problem
We’ll start by limiting our list to debt-free firms. The debt to equity
ratio compares long-term debt to shareholders equity (book value). Zero
values reflect no long-term debt and the higher the ratio, the higher the
debt. Although we want zero debt, setting the maximum allowable D/E at 0.1
allows companies carrying incidental debt such as long-term leases to
pass. Debt/Equity Ratio <= 0.1 (Liquidity & Coverage)
Have Cash
Next, we’ll isolate stocks with plenty of cash on hand to cover current
bills. The quick ratio compares the total of cash in the bank plus
accounts receivables (cash due from customers) to current bills (current
liabilities). Specifying a minimum quick ratio of 2.0 means that cash plus
receivables must be at least double the current liabilities. Quick Ratio
>= 2.0 (Liquidity & Coverage)
More Cash Coming
Cash in the bank isn’t enough. We need to know that those bank balances
aren’t going to disappear. Operating cash flow measures cash that flowed
into or out of a firm’s bank accounts from its operations. Unlike
earnings, which can be manipulated, cash flow must match real bank
balances. We only need to know is that cash flowed in, not out. We don’t
care about the numbers. Cash flow (millions) >= 0.001 (Income Statement &
Growth).
Trust But Verify
The cash flow requirement should be all we need to assure that passing
firms are profitable. But you can’t underestimate the creativity of
motivated accountants. Checking for positive net income helps to assure
that the firm is profitable. Net Income (millions) >= 0.001 (Income
Statement & Growth).
Don’t Be a Cheapskate
Cheap stocks get that way when investor see serious problems. Requiring a
minimum $5 trading price rules out stocks facing issues that we may have
missed. Current Price >= 5 (Price & Price Changes)
Real Company
Most stocks rack up annual sales well in excess of $100 million. Requiring
$50 million rules out companies that aren’t real businesses. Annual Sales
>= 50 (Income Statement & Growth)
The screen should turn up at least 300 bulletproof stocks. Passing these
tests only means that a stock isn’t a bankruptcy candidate, not that
you’ll make money owning it.
published 5/24/09 |
