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A company’s profitability can come from more than one source, and some are preferred over others. This is why an analysis beyond the top and bottom-line numbers is important when choosing stocks.

One way to analyze sources of profitability is with DuPont analysis of return on equity (ROE) profitability.

ROE can be broken up into three components such that increases in ROE can be attributed to those components.

ROE
= (Net Profit/Equity)
= (Net profit/Sales)*(Sales/Assets)*(Assets/Equity)
= (Net Profit margin)*(Asset turnover)*(Leverage ratio)

Analyzing the sources of returns for a company, we can focus on companies with the following characteristics: Increasing ROE along with:

  • Decreasing leverage, i.e. decreasing Asset/Equity ratio
  • Improving asset use efficiency (i.e. increasing Sales/Assets ratio) and improving net profit margin (i.e. increasing Net Income/Sales ratio)

Interactive Chart: Press Play to compare changes in analyst ratings over the last two years for the top six stocks mentioned below. Analyst ratings sourced from Zacks Investment Research.

Companies passing all requirements are thus experiencing increasing profits due to operations and not to increased use of leverage.

To illustrate this analysis, we ran DuPont on small-cap tech stocks. The screen produced 7 stocks, listed below.

We also created a price-weighted index of the stocks mentioned below, and monitored the performance of the list relative to the S&P 500 index over the last month.

(Click chart for more detail)



Do you think these companies have attractive operations? Use this list as a starting-off point for your own analysis.

List sorted by market cap.

1. Rudolph Technologies Inc. (RTEC): Scientific & Technical Instruments Industry. Market cap of $291.81M. Net profit margin has increased over the current quarter from 5.02% to 13.32%, Sales/Assets improved from 0.21 to 0.22, while Assets/Equity decreased from 1.24 to 1.17. This is a risky stock that is significantly more volatile than the overall market (beta = 2.08). The stock has performed poorly over the last month, losing 13.91%.

2. Immersion Corporation (IMMR): Computer Peripherals Industry. Market cap of $270.18M. Net profit margin has increased over the current quarter from -27.29% to 14.23%, Sales/Assets improved from 0.11 to 0.12, while Assets/Equity decreased from 1.60 to 1.47. The stock is a short squeeze candidate, with a short float at 6.13% (equivalent to 6.91 days of average volume). It's been a rough couple of days for the stock, losing 5.49% over the last week.

3. Daqo New Energy Corp. (DQ): Semiconductor Equipment & Materials Industry. Market cap of $224.90M. Net profit margin has increased over the current quarter from 19.0% to 40.08%, Sales/Assets improved from 0.06 to 0.13, while Assets/Equity decreased from 11.08 to 2.45. The stock has performed poorly over the last month, losing 15.23%.

4. AudioCodes Ltd. (AUDC): Communication Equipment Industry. Market cap of $224.54M. Net profit margin has increased over the current quarter from 5.14% to 7.38%, Sales/Assets improved from 0.2330 to 0.2254, while Assets/Equity decreased from 1.79 to 1.70. The stock has had a couple of great days, gaining 5.42% over the last week.

5. China Techfaith Wireless Communication Technology Limited (CNTF): Diversified Communication Services Industry. Market cap of $221.25M. Net profit margin has increased over the current quarter from 11.57% to 17.58%, Sales/Assets improved from 0.23 to 0.24, while Assets/Equity decreased from 1.22 to 1.15. The stock has had a good month, gaining 12.06%.

6. CalAmp Corp. (CAMP): Communication Equipment Industry. Market cap of $105.67M. Net profit margin has increased over the current quarter from -9.41% to 1.51%, Sales/Assets improved from 0.48 to 0.63, while Assets/Equity decreased from 3.22 to 2.93. The stock has had a good month, gaining 24.75%.

7. Numerex Corp. (NMRX): Communication Equipment Industry. Market cap of $104.75M. Net profit margin has increased over the current quarter from -0.23% to 1.67%, Sales/Assets improved from 0.24 to 0.27, while Assets/Equity decreased from 1.27 to 1.24. The stock is a short squeeze candidate, with a short float at 5.51% (equivalent to 9.7 days of average volume). It's been a rough couple of days for the stock, losing 25.72% over the last week.

*Accounting data sourced from Google Finance, all other data sourced from Finviz.

Source: 7 Small-Cap Tech Stocks With Strong Sources of Profitability