There is always more to a company’s story than its bottom line. Although the bottom line, or net income, is the headline number analysts watch and journalists report, companies can earn these profits in different ways – some more preferred than others. This is why it is always a good idea to study the source of a company's profits.
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:
= (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)
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 stocks that appear to be candidates for a short-squeeze, with short floats above 15%.
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.
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. (To access a complete analysis of this list's recent performance, click here.)
Do you think these stocks are likely to experience short covering? Use this list as a starting-off point for your own analysis.
List sorted by short float.
1. Bio-Reference Laboratories Inc. (NASDAQ:BRLI): Medical Laboratories & Research Industry. Market cap of $531.61M. Short float at 26.70%. MRQ Net Profit Margin increased to 5.68% from 5.24% from the previous year, Sales/Assets increased to 0.51 from 0.50, while Assets/Equity decreased to 1.59 from 1.64. The stock has lost 3.4% over the last year.
2. Life Time Fitness Inc. (NYSE:LTM): Sporting Activities Industry. Market cap of $1.51B. Short float at 20.91%. MRQ Net Profit Margin increased to 9.72% from 9.47% from the previous year, Sales/Assets increased to 0.15 from 0.14, while Assets/Equity decreased to 1.96 from 2.13. This is a risky stock that is significantly more volatile than the overall market (beta = 2.25). The stock has had a couple of great days, gaining 5.61% over the last week. The stock has performed poorly over the last month, losing 14.75%.
3. Greenhill & Co., Inc. (NYSE:GHL): Investment Brokerage Industry. Market cap of $1.05B. Short float at 20.28%. MRQ Net Profit Margin increased to 23.66% from 21.01% from the previous year, Sales/Assets increased to 0.19 from 0.18, while Assets/Equity decreased to 1.30 from 1.32. The stock has performed poorly over the last month, losing 20.95%.
4. Portfolio Recovery Associates Inc. (NASDAQ:PRAA): Business Services Industry. Market cap of $1.24B. Short float at 19.18%. MRQ Net Profit Margin increased to 22.27% from 20.99% from the previous year, Sales/Assets increased to 0.11 from 0.10, while Assets/Equity decreased to 1.88 from 2.04. Might be undervalued at current levels, with a PEG ratio at 0.88, and P/FCF ratio at 8.03. The stock has had a couple of great days, gaining 7.31% over the last week.
5. Peet's Coffee & Tea Inc. (NASDAQ:PEET): Processed & Packaged Goods Industry. Market cap of $724.77M. Short float at 17.89%. MRQ Net Profit Margin increased to 5.64% from 5.26% from the previous year, Sales/Assets increased to 0.46 from 0.40, while Assets/Equity decreased to 1.20 from 1.21. The stock has had a couple of great days, gaining 7.1% over the last week.
6. The Cheesecake Factory Incorporated (NASDAQ:CAKE): Restaurants Industry. Market cap of $1.52B. Short float at 15.88%. MRQ Net Profit Margin increased to 5.75% from 4.59% from the previous year, Sales/Assets increased to 0.43 from 0.41, while Assets/Equity decreased to 1.79 from 1.89. The stock has gained 16.33% over the last year.
Accounting data sourced from Google Finance; all other data sourced from Finviz.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.