Watchlist Wednesday: Magic Formula

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Includes: AAPL, CA, DGX, GILD, VIA, VIAB
by: Mitchell Mauer

In this edition of Watchlist Wednesday, we highlight five of the top stocks qualifying for the Magic Formula screen. The screen is inspired by the investment strategy outlined by Joel Greenblatt in the book The Little Book That Still Beats the Market.

Description

The Magic Formula® is Joel Greenblatt's successful attempt to quantify Warren Buffett's principle of buying good companies at bargain prices. This strategy equally ranks companies based on return on capital and earnings yield.

By combining the top-ranked stocks based on both metrics, the screen finds stocks that are highly profitable yet trading at low prices.

Greenblatt defines earnings yield and return on capital in the following ways:

Earnings Yield = EBIT / Enterprise Value

Return on Capital = EBIT / (Net Property, Plant, & Equipment + Net Working Capital)

The stocks are then sorted by the best combined rankings for both metrics. Here is a breakdown of five stocks with the best ratings as found on TheStockMarketBlueprint.com:

Gilead Sciences, Inc. (NASDAQ:GILD) - Gilead Sciences, Inc., a research-based biopharmaceutical company, discovers, develops, and commercializes medicines in areas of unmet medical needs in North America, South America, Europe, and the Asia-Pacific. The company's products treat conditions such as human immunodeficiency virus (HIV), liver disease, certain blood cancers, hypertension, chronic angina, respiratory systems in cystic fibrosis patients, and influenza A and B. The company markets its products through its commercial teams and/or in conjunction with third-party distributors and corporate partners. Gilead has collaboration agreements with Bristol-Myers Squibb Company (NYSE:BMY), Janssen (NYSE:JNJ) R&D Ireland, Japan Tobacco Inc. (OTCPK:JAPAY), and Galapagos NV (OTCPK:GLPYY). The company was founded in 1987 and is headquartered in Foster City, California.

  • EBIT: $22.2 Billion
  • Enterprise Value: $148.8 Billion
  • Net Property, Plant, & Equipment: $2.3 Billion
  • Net Working Capital: $14.9 Billion
  • Earnings Yield: 14.9%
  • Return on Capital: 129.4%
  • Combined Rank: 25

Apple, Inc. (NASDAQ:AAPL) - Apple designs, manufactures, and markets mobile communication and media devices, personal computers, and portable digital music players to consumers, small and mid-sized businesses, education, and enterprise and government customers worldwide. The company also sells related software, services, accessories, networking solutions, and third-party digital content and applications. The company sells and delivers digital content and applications through the iTunes Store, App Store, iBooks Store, Mac App Store, and Apple Music. It also sells its products through its retail and online stores, and direct sales force, as well as through third-party cellular network carriers, wholesalers, retailers, and value-added resellers. Apple was founded in 1977 and is headquartered in Cupertino, California.

  • EBIT: $71.2 Billion
  • Enterprise Value: $613.3 Billion
  • Net Property, Plant, & Equipment: $22.3 Billion
  • Net Working Capital: $127 Million
  • Earnings Yield: 11.6%
  • Return on Capital: 317.3%
  • Combined Rank: 29

Viacom, Inc. (NYSE:VIA) (NASDAQ:VIAB) - Viacom operates as an entertainment content company in the United States and internationally. The company creates television programs, motion pictures, short-form content, applications, games, consumer products, social media, and other entertainment content. It operates through two segments, Media Networks and Filmed Entertainment. The company releases its content through download-to-own, download-to-rent, DVDs, Blu-ray discs, transactional video-on-demand, pay television, subscription video-on-demand, basic cable television, free television, and free video-on-demand, as well as airlines and hotels. Viacom is headquartered in New York, New York. Viacom operates as a subsidiary of National Amusements, Inc.

  • EBIT: $3.0 Billion
  • Enterprise Value: $30.1 Billion
  • Net Property, Plant, & Equipment: $903 Million
  • Net Working Capital: $231 Million
  • Earnings Yield: 10.0%
  • Return on Capital: 266.0%
  • Combined Rank: 37

Quest Diagnostics, Inc. (NYSE:DGX) - Quest Diagnostics provides diagnostic testing information and services in the United States and internationally. The company offers clinical testing services, such as routine testing, gene-based and esoteric testing, and drugs-of-abuse testing, as well as anatomic pathology services and related services and insights; risk assessment services for life insurers, healthcare providers, and others; and central laboratory testing for clinical trials. It also develops, manufactures, and markets diagnostic products. The company provides its diagnostic information services primarily under the Quest Diagnostics brand, as well as under the AmeriPath, Dermpath Diagnostics, Focus Diagnostics, Athena Diagnostics, ExamOne, Solstas, and Summit Health brands. Quest Diagnostics was founded in 1967 and is headquartered in Madison, New Jersey.

  • EBIT: $1.4 Billion
  • Enterprise Value: $13.8 Billion
  • Net Property, Plant, & Equipment: $925 Million
  • Net Working Capital: $328 Million
  • Earnings Yield: 10.1%
  • Return on Capital: 111.7%
  • Combined Rank: 50

CA, Inc. (NASDAQ:CA) - CA, Inc. provides information technology (IT) management software and solutions that help organizations plan, develop, manage, and secure applications and IT infrastructure in the United States and internationally. The company operates through three segments: Mainframe Solutions, Enterprise Solutions, and Services. It serves banks, insurance companies, other financial services providers, government agencies, global service providers, telecommunication providers, manufacturers, technology companies, retailers, educational organizations, and healthcare institutions. It sells its solutions through direct sales force, as well as indirectly through its partners. The company was formerly known as CA Technologies and changed its name to CA, Inc. in 2006. It was founded in 1974 and is headquartered in New York, New York.

  • EBIT: $1.1 Billion
  • Enterprise Value: $12.5 Billion
  • Net Property, Plant, & Equipment: $249 Million
  • Net Working Capital: $755 Million
  • Earnings Yield: 8.5%
  • Return on Capital: 106.3%
  • Combined Rank: 68

Implementation

Greenblatt recommends buying the top 20-30 stocks and holding for one year before rebalancing the portfolio. Another approach is to build a 20-30 stock portfolio over time and rebalance stocks individually after owning for a year.