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Margaret Moran
Margaret Moran
Articles (258) 

3 ‘Magic Formula’ Stocks With High Financial Strength

These companies ranked highly on Greenblatt’s Magic Formula stock screener

March 20, 2020 | About:

Joel Greenblatt (Trades, Portfolio) introduced the individual investing world to the “Magic Formula” when he published his 2005 book, “The Little Book That Beats the Market.” The idea behind the Magic Formula is to apply a simple mathematical formula to find good businesses trading at bargain prices.

The formula ranks companies based on the combination of two metrics: earnings yield and return on capital. As the formula works best when applied to U.S. companies and companies with market caps of at least $100 million, I have eliminated companies that do not meet these criteria from my search. Small-cap and non-U.S. businesses are often structured differently, so being ranked highly by the “Magic Formula” would not indicate that they are good investments. For the same reason, utilities and financial companies are also not considered.

Below are three companies that are financially strong, have a GuruFocus business predictability rating of 3 or more and rank highly on the GuruFucus Magic Formula Screener, a Premium feature based on Greenblatt’s formula. With U.S. markets continuing their downtrend, financial strength is particularly important in order to keep the lights on and avoid getting squeezed out of the competitive space when earnings take a hit.

Usana Health Sciences

One company that ranked highly on the Magic Formula Screener was Usana Health Sciences Inc. (NYSE:USNA), a Salt Lake City-based network marketing company that sells nutritional, dietary and skincare products in more than 24 countries.

Usana has an earnings yield of 19.25%, a return on capital of 139.69% and a business predictability rating of 4 out of 5 stars.

On March 20, shares of the company traded around $46.83 for a market cap of $1.01 billion and a price-earnings ratio of 10.6. GuruFocus gives it a financial strength rating of 9 out of 10 and a profitability rating of 9 out of 10. According to the Peter Lynch chart, the stock is trading below its intrinsic value.

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Usana’s cash-debt ratio of 28.22 is higher than 87.25% of competitors. The current ratio of 2.42 indicates the company can meet its short-term financial obligations, while the Altman Z-Score of 8.18 shows long-term financial stability.

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The three-year revenue growth rate for Usana was 5%. Its growth had already experienced a stumble in 2019 due to China’s 100-day review of network marketing companies earlier in the year. China is Usana’s most profitable market. The novel coronavirus will also impact earnings because, like other multilevel marketing companies, a large chuck of Usana’s sales depend on large-scale meetings with distributors, which are increasingly unlikely to take place as usual due to quarantines.

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Booking Holdings

Another company that ranked highly on the screener was Booking Holdings Inc. (NASDAQ:BKNG). Based in Norwalk, Connecticut, Booking Holdings is a world leader in online travel services, providing booking services for everything from flights and cars to hotels and vacation packages.

Booking Holdings has an earnings yield of 12.04%, a return on capital of 517.37% and a business predictability rating of 3.5 out of 5 stars.

On March 20, shares of the company traded around $1,177.43 for a market cap of $48.35 billion and a price-earnings ratio of 10.46. GuruFocus has assigned Booking Holdings a financial strength rating of 6 out of 10 and a profitability rating of 10 out of 10. According to the Peter Lynch chart, it is trading at a discount to intrinsic value.

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Booking Holdings has a cash-debt ratio of 0.8, which is average for the industry, but the interest coverage of 22.09 times is outperforming 68.77% of competitors. The current ratio of 1.83 suggests short-term financial stability, while the Altman Z-Score of 5.33 promises low bankruptcy risk in the long term.

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Booking Holdings has enjoyed a three-year revenue growth rate of 17.3%. Going forward, the company has released negative guidance tied to Covid-19. According to CEO Glenn Fogel, the company expects a “significant and negative impact” on its first quarter of 2020. Room nights are expected to be down as much as 10%, while the company estimates that total gross travel bookings will decline 15% or more.

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Cisco Systems

Cisco Systems Inc. (NASDAQ:CSCO) also ranked highly on the Magic Formula Screener. Based in San Jose, California, this networking hardware company develops, manufactures and sells high-tech products and services for a variety of industries, including cybersecurity, internet of things (IoT) and health care.

Cisco has an earnings yield of 10.83%, a return on capital of 552.22% and a business predictability rating of 4.5 out of 5 stars.

On March 20, shares of the company traded around $35.58 for a market cap of $152.29 billion and a price-earnings ratio of 14.03. GuruFocus gives it a financial strength rating of 6 out of 10 and a profitability rating of 10 out of 10. The Peter Lynch Chart suggests that the stock is trading below its intrinsic value.

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Cisco has a cash-debt ratio of 1.69, a current ratio of 1.81 and an Altman Z-Score of 3.08, indicating above-average financial strength in the short term and long term.

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The three-year revenue growth rate for Cisco was 6.7%. As a health care technology leader, “Cisco has well-established processes to coordinate our efforts during outbreaks like Covid-19, including our Global Business Resiliency (GBR) and Supply Chain Incident Management (SCIM) Processes,” according to a supply chain FAQ that the company released on March 12. Though the company expects a dent in revenue, it already had preparations in place for just such a scenario and conducted business with the possibility in mind.

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Disclosure: Author owns no shares in any of the stocks mentioned. The mention of stocks in this article does not at any point constitute an investment recommendation. Investors should always conduct their own careful research or consult registered investment advisors before taking action in the stock market.

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