There is always more to a company’s story than their bottom line. Although the bottom line, or net income, is the headline number that 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 profits for a company.
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 due to increased use of leverage.
To illustrate this analysis, we ran DuPont on stocks that have underperformed over the last quarter, with -20% return or worse. These stocks are also technically oversold, with RSI(14) below 40.
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.
click on image to enlarge
Do you think these companies have strong profitability? Use this list as a starting-off point for your own analysis.
List sorted by RSI(14):
- 1. OmniVision Technologies Inc. (OVTI): Semiconductor industry. Market cap of $1.11 billion. RSI(14) at 33.88. The stock has lost 45.22% over the past quarter. MRQ net profit margin increased to 15.20% from 8.77% year-over-year, sales/assets increased to 0.25 from 0.23, while assets/equity decreased to 1.36 from 1.47. It's been a rough couple of days for the stock, losing 28.45% over the last week.
- Rofin-Sinar Technologies Inc. (RSTI): Scientific and technical instruments industry. Market cap of $653.67 million. RSI(14) at 37.73. The stock has lost 33.76% over the past quarter. MRQ net profit margin increased to 9.84% from 8.77% year-over-year, sales/assets increased to 0.24 from 0.21, while assets/equity decreased to 1.37 from 1.38. The stock has performed poorly over the last month, losing 26.53%.
- Sapient Corp. (SAPE): Business software and services industry. Market cap of $1.47 billion. RSI(14) at 39.13. The stock has lost 24.25% over the past quarter. MRQ net profit margin increased to 5.73% from 3.61% year-over-year, sales/assets increased to 0.39 from 0.37, while assets/equity decreased to 1.37 from 1.41. The stock is a short squeeze candidate, with a short float at 7.67% (equivalent to 5.99 days of average volume). The stock has performed poorly over the last month, losing 21.56%.
- MF Global Holdings Ltd. (MF): Investment Brokerage industry. Market cap of $892.05 million. RSI(14) at 39.58. The stock has lost 28.15% over the past quarter. MRQ net profit margin increased to 2.18% from 1.55% year-over-year, sales/assets increased to 0.0133 from 0.0119, while assets/equity decreased to 30.59 from 31.07. The stock is a short squeeze candidate, with a short float at 14.42% (equivalent to 6.79 days of average volume). The stock has performed poorly over the last month, losing 26.69%.
*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.