6 stocks immune to the credit crunch

By Harry Domash

Editor's note: To view the stock screens mentioned in this column, download the free MSN Money Investment Toolbox.

With most stocks well off their highs, there are probably bargains galore out there. But as the Bear Stearns (BSC, news, msgs) meltdown illustrates, any company that owes anybody any money could crash and burn.

One group of stocks, however, is immune to the credit crisis: cash-rich stocks. These are companies that have plenty of cash in the bank and don't owe anybody anything.

I've devised a screen for finding these gems. It starts by defining a universe of candidates with no debt and way more in the bank than they need for current operations. Also, they must be profitable, so that they're adding to their cash hoard every quarter, not burning it. From that group, I pick the stocks with the best combination of price-appreciation prospects and low risk. Here's how it works.

Stocks rolling in dough

I start by looking for companies with lots of surplus cash on hand. For that, I use the quick ratio, which compares a company's liquid current assets, namely cash in the bank and accounts receivables (money owed by customers), to short-term debt (money owed to suppliers and consultants, for rent, etc.).

A quick ratio of 1 means current liquid assets equal short-term liabilities. However, I set my minimum at 2.5, meaning current liquid assets must be at least 250% of current liabilities. That may sound extreme, but in this economy, cash really is king. Don't even think about lowering that requirement.

Screening parameter: Quick ratio >= 2.5

Note: Don't confuse quick ratio with the more common current ratio, which is similar but adds inventories to the current assets total. In this economy, it's doubtful that all inventories could be converted to cash anytime soon.

No debt, no problem

Next, I use the debt-equity ratio, which compares debt to shareholders' equity to pinpoint debt-free companies. A zero ratio indicates no debt; the higher the ratio, the higher the debt.

The debt-equity ratios you see on many Web sites consider only long-term debt. MSN Money's ratio is a better indicator because it counts both short- and long-term debt. That's important because in recent years some companies have shifted long-term debt to continually renewed short-term loans.

Screening parameter: Debt/equity ratio = 0

Cash-rich staying power

Now, armed with a list of companies with plenty of cash and no debt, I identify those most likely to stay that way by checking profitability. For that, I use return on assets, or ROA, and check cash flow to ensure that passing companies aren't using creative accounting to appear profitable when they are, in fact, burning cash.

Return on assets, which compares net income to total assets, is a standard profitability measure. Any positive value means the company reported positive earnings over the past 12 months. In my experience, ROAs of 5 are acceptable, so I set my minimum at 5. However, the higher, the better, so consider raising your minimum to 10 if you want to see only the most profitable stocks.

Screening parameter: Return on assets >= 5

Cash flow measures the cash that moved into, or out of, a company's bank accounts during a reporting period. As mentioned earlier, a company can be losing money on a cash basis even though it reported positive earnings.

Cash flow measures the cash that moved into, or out of, a company's bank account during a reporting period. Cash flow is positive when more cash flowed in than out, which is what we want.

We can't screen for cash flow directly, but we can require a positive price-to-cash-flow ratio. That ratio can be positive only if cash flow is positive.

Screening parameter: Price/cash flow ratio >= 1

Continued: Earnings growth drives share prices

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