Weekly Lesson Wednesday📝

Green flag stock screeners 🟢

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Simple Stock Screening

Welcome to the world of stock screeners.
A few weeks back I did a lesson on some of the red flags you could come across while checking the balance sheet or screening a stock (here). So today I’ve decided to do the converse, the green flags for a potential stock pick.

There are countless of websites and tools to filter stocks, and there are so many indicators and ratios out there to use. However, I’m going to give you a crash course with the help of certain key ratios. To defer the absolute poo, to a potential 10xer.

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The Green Flags

Before I dive into the proper ratios and balance sheet figures, there is one concept that many investors consider the biggest green flag of them all. That is “understanding”. Filter out the stocks and industries you don’t understand.

Now I do agree with this, hence why I added it. However, it doesn’t mean you can’t do your research on an industry and gain the knowledge to understand your investment. Now with that behind us lets crack on with the screeners.

✅Profitability

RETURN ON INVESTED CAPITAL > 15%
Return on Invested Capital (ROIC) is a measure used to assess how efficiently a company is using its capital to generate profits. It's a way to see how good a company is at turning the money it invests into more money.

A ROIC greater than 15% typically indicates that the company is performing well. It means the company is generating strong returns on its investments, which is a sign of efficient management and a profitable business model. However, this is just an indicator. There are good businesses that operate in the 10 - 14% range, but if you see 15 or higher. You know it’s a top performer.

GROSS MARGIN > 50%
Gross Margin shows the percentage of revenue that exceeds the cost of goods sold (COGS). It measures how much money a company keeps after paying for the direct costs of producing its goods or services

A gross margin above 50% means that the company retains more than half of its revenue after covering the cost of production. This suggests the company has a healthy profit margin, which is a sign of good financial health.

✅Innovation

FUTURE SALES GROWTH > 10-15%
Future Sales Growth refers to the expected increase in a company's sales revenue over a certain period. It predicts how much more a company will sell in the future compared to its current sales. This growth is often projected based on past performance, market conditions, and the company's plans for expansion

Why it should be > 10-15% ?
1) Indicator of Demand: A future sales growth rate of over 10-15% suggests that there is increasing demand for the company's products.
2) Resource Allocation: Companies with higher growth rates are often better positioned to allocate resources towards innovation, marketing, and expansion
3)Competitive Edge: Sustained sales growth at this rate can indicate that a company is outpacing its competitors.
4) Revenue Expansion: Consistent sales growth of this magnitude helps a company to increase its revenue significantly over time.

R&D SALES > 5-10%
The R&D to Sales Ratio compares a company's research and development (R&D) spending to its total sales revenue.

Investing 5-10% of sales in R&D ensures that the company is consistently working on developing new products or improving existing ones. This is vital for staying ahead of competitors and meeting changing market demands.

✅SOLIDITY

FREE CASH FLOW MARGIN > 10%
Free Cash Flow (FCF) Margin measures the percentage of revenue that is left as free cash flow after accounting for operating expenses and capital expenditures. Free cash flow is the money a company has left over after paying all its bills and making necessary investments in its business. It is an indicator of a company's financial health.

With an FCF margin of over 10%, the company has more liquidity. This means it has more flexibility to invest in growth opportunities. A 10% FCF margin is often used as a benchmark for just general financial health of a company.

DEBT TO EBITDA < 3-5
Debt to EBITDA is a metric which compares a companies liabilities in the form of debt to its cash flow in the form of an EBITDA ( earnings before interest, tax, depreciation and amortization).

A low ratio (below 3) is favorable, indicating a company's capacity to repay debts and potentially better credit ratings. Conversely, a high ratio (4 to 6+) raises red flags, indicating a company has a debt load that might be too high.

✅VALUATION

FORWARD P/E < 25-35
The forward PE ratio uses the forecasted earnings per share of the company over the next 12 months for calculating the price-earnings ratio. The forward P/E ratio, like the P/E ratio, is also a great measure of whether a company is financially healthy.

A good forward PE ratio falls in the range between 10 and 25, which is also considered a significant PE ratio for stocks in the market. Anything below 10 creates doubt among investors as that implies not a very good financial state of any company. On the other hand, above 25 is too expensive a ratio to go for and it is considered an unreasonable growth.

ENTERPRISE VALUE TO FREE CASH FLOW (FCF) < 25
The EV/FCF ratio helps investors assess the valuation of a company relative to its cash flow generation.

A lower ratio might suggest that a company is undervalued, providing an attractive investment opportunity. Companies with an EV/FCF Ratio under 25 are often seen as having a balanced growth and risk profile. However, if the ratio is too low, you may what to check the financial health of the company or what your risk tolerance is.

⭐ SUMMARY ⭐

Like always these metrics should be used together to make an informed decision. They are quick and easy tools to screen your picks, but always the more research you do the better informed you will be.

^_NEWS
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That’s All Folks

Thank you for reading. Like usual. Not financial advice.

Full disclaimer here

Cheers,