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I searched for small-cap stocks with strong growth prospects-- stable financial conditions and the ability to generate significant free cash flow. However, in order to find the proper moment for an opening position, a technical analysis with a momentum indicator can be of great assistance for investors.

I have elaborated a screening method, which shows stock candidates following these lines. Nonetheless, the screening method should only serve as a basis for further research.

The screen's formula requires all stocks to comply with all following demands:

1. The stock is included in the Russell 2000 index. Russell Investment explanation:

"The Russell 2000 Index measures the performance of the small-cap segment of the U.S. equity universe. The Russell 2000 is a subset of the Russell 3000® Index representing approximately 10% of the total market capitalization of that index. It includes approximately 2000 of the smallest securities based on a combination of their market cap and current index membership. The Russell 2000 Index is constructed to provide a comprehensive and unbiased small-cap barometer and is completely reconstituted annually to ensure larger stocks do not distort the performance and characteristics of the true small-cap opportunity set."

2. Earnings growth estimates for the next 5 years (per annum) is greater than 11%.

3. Long term debt to equity is less than 1.

4. Price to free cash flow is less than 14, (many investors prefer using free cash flow instead of net income to measure a company's financial performance, because free cash flow is more difficult to manipulate. Free cash flow is the operating cash flow minus capital expenditure).

5. The 10-day moving average is above 20-day moving average, and the crossover happened 2 days or less prior to the start of the screen (Short term momentum indicator).

I used Portfolio123's powerful free screener to perform the search. After running this screen on October 14, 2012, I obtained the 3 following stocks:

CompanySymbolLast priceMarket Cap ($millions)Trailing P/EForward P/EPEG Ratio
CBIZ, Inc.CBZ6.0230010.569.410.62
PharMerica CorporationPMC13.2139015.1810.081.36
TeleTech Holdings Inc.TTEC17.0693015.6511.611.30

Data: finviz.com

CBIZ, Inc.

CBIZ, Inc., a diversified services company, provides professional business services, products, and solutions to businesses, individuals, governmental entities, and not-for-profit enterprises in the United States and Canada.

CBIZ has a very low forward P/E of 9.41 and a very low PEG ratio of 0.62. The average annual earnings growth estimates for the next 5 years is quite high at 17%. The price to free cash flow for the trailing 12 months is very low at 5.40 and the price to sales is also very low at 0.40. During the first half of 2012 the company uses $3.8 million to repurchase 634 thousand shares of its outstanding stock. All these factors make the stock quite attractive.

(click to enlarge)

Chart: finviz.com

PharMerica Corporation

Pharmerica Corporation operates as an institutional pharmacy services company in the United States. It offers services to healthcare facilities and provides management pharmacy services to hospitals.

PharMerica has a very low forward P/E of 10.08 and a PEG ratio of 1.36. The average annual earnings growth estimates for the next 5 years is 11.15%. The price to free cash flow for the trailing 12 months is very low at 6.06 and the price to sales is also very low at 0.20. During the last six months, insiders have been net buyers of 55,000 shares. The PMC stock seems to be a good investment right now.

(click to enlarge)

Chart: finviz.com

TeleTech Holdings Inc.

TeleTech Holdings, Inc., together with its subsidiaries, provides customer experience strategy, technology, and business process outsourcing solutions worldwide.

TeleTech has a low forward P/E of 11.41 and a PEG ratio of 1.30. The average annual earnings growth estimates for the next 5 years is 12%. The price to free cash flow for the trailing 12 months is quite low at 13.50 and the price to sales is very low at 0.78. On August 20, 2012, TeleTech announced that its Board of Directors has approved an additional authorization of $25 million for share repurchases. The company said that during the first six months of 2012, TeleTech's strong cash flow from operations and cash position enabled the repurchase of 2.6 million shares of common stock for a total cost of approximately $41 million. All these factors make the stock quite attractive.

(click to enlarge)

Chart: finviz.com

I searched for small-cap stocks with strong growth prospects. Those stocks would have to show stable financial conditions and generate significant free cash flow. However, in order to find the proper moment for an opening position, a technical analysis with a momentum indicator can be of great assistance for investors.

Source: 3 Small Cap Growth Stocks With Positive Momentum