There is always more to a company’s story than its 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 sources 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 to increased use of leverage.
To illustrate this analysis, we ran DuPont on stocks that are recently technically oversold, with RSI(14) below 40.
Interactive Chart: Press Play to compare changes in analyst ratings over the last two years for the 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 companies have strong profitability? Use this list as a starting point for your own analysis.
List sorted by increase in ROE.
1. Alico Inc. (ALCO): Operates as a land management company in central and southwest Florida. Market cap of $131.86M. RSI(14) at 30.86. MRQ Net Profit Margin increased to 15.18% from 8.05% year-over-year, Sales/Assets increased to 0.21 from 0.14, while Assets/Equity decreased to 1.68 from 1.87. The stock is currently stuck in a downtrend, trading 13.9% below its SMA20, 14.29% below its SMA50, and 23.51% below its SMA200. The stock has performed poorly over the last month, losing 21.21%.
2. Quality Systems Inc. (QSII): Develop and market health-care information systems. Market cap of $2.08B. RSI(14) at 39.87. MRQ Net Profit Margin increased to 19.05% from 16.49% year-over-year, Sales/Assets increased to 0.26 from 0.25, while Assets/Equity decreased to 1.55 from 1.63. The stock is a short squeeze candidate, with a short float at 15.56% (equivalent to 8.73 days of average volume). The stock has gained 9.07% over the last year.
3. Tiffany & Co. (TIF): Engages in the design, manufacture, and retail of fine jewelry worldwide. Market cap of $8.53B. RSI(14) at 38.09. MRQ Net Profit Margin increased to 10.32% from 10.12% year-over-year, Sales/Assets increased to 0.22 from 0.19, while Assets/Equity decreased to 1.67 from 1.75. It's been a rough couple of days for the stock, losing 6.84% over the last week.
4. Bio-Reference Laboratories Inc. (BRLI): Provides clinical laboratory testing services for the detection, diagnosis, evaluation, monitoring, and treatment of diseases primarily in the greater New York metropolitan area. Market cap of $346.58M. RSI(14) at 29.36. MRQ Net Profit Margin increased to 6.81% from 6.58% year-over-year, Sales/Assets increased to 0.53 from 0.52, while Assets/Equity decreased to 1.56 from 1.63. The stock is a short squeeze candidate, with a short float at 27.38% (equivalent to 14.38 days of average volume). The stock has performed poorly over the last month, losing 38.12%.
*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.