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What are we looking for?

U.S. companies that are showing an improving ability to produce gushers of cash – and put that cash to good use. Such firms are often attractive investments.

How we did it

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Last week, our friend Craig McGee, senior consultant at CPMS Morningstar Canada, searched the Canadian stock market for companies that appeared to be boosting their operational efficiency. Today, he performs a similar search using the CPMS U.S. database.

He looked for firms that met four key criteria:

-high and increasing returns on invested capital (Mr. McGee measured this by looking at each firm's earnings before interest and taxes, and dividing this figure by the total amount of the company's debt and equity);

-high free-cash-flow yields;

-high free cash flow margins;

-a tendency over the past three months for analysts to increase their earnings estimates for the company.

To avoid the risk of investing in smaller firms, Mr. McGee required each company to have a market capitalization of more than $500-million (U.S.).

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He then searched for the 20 companies with the best combination of the above factors, as well as reasonable valuations.

More about Morningstar

Morningstar Inc. provides independent investment research in North America, Europe, Australia and Asia. Its investment research tool, Morningstar CPMS, provides quantitative North American equity research and portfolio analysis to institutional clients and financial advisers. CPMS data cover more than 95 per cent of the investable North American stock market.

What we found

The 20 stocks highlighted by Mr. McGee come from many different industries.

They have generally produced strong returns so far this year and for good reason – they are improving their operating efficiency and analysts expect further growth ahead.

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Bargain hunters should take a close look at these companies. But, as always, remember that any stock screen is just a starting point. Do your own research before buying any of the names listed here.

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