GARP Screening Criteria

Quick definition: GARP screening combines multiple filters—valuation metrics like PEG, growth forecasts, profitability measures, and quality indicators—to identify companies that offer both earnings expansion and reasonable prices in a systematic, repeatable process.

Key Takeaways

• Effective GARP screens layer multiple criteria rather than relying on single metrics
• Valuation filters (PEG, P/E, PEG relative to sector) eliminate obvious overpriced situations
• Growth filters ensure the business is expanding revenues and earnings at meaningful rates
• Quality filters verify that growth comes from competitive advantages rather than accounting or cyclical benefits
• Profitability filters confirm that growth translates to cash generation and margin expansion

The Screening Hierarchy

A disciplined GARP screen follows a hierarchy, successively narrowing the universe from all tradable stocks to actionable candidates. This approach manages information flow: early screens eliminate clear mismatches; later screens extract true opportunity from remaining candidates.

Valuation Screen: The First Gate

The valuation screen eliminates obvious overpriced situations and establishes the reasonable price requirement central to GARP.

PEG ratio limits: Most GARP practitioners set PEG thresholds, typically accepting PEG ratios below 1.5 and preferring below 1.2. Some add sophistication by adjusting thresholds by growth rate: companies growing 8 percent must have PEG below 1.0, while those growing 25 percent might justify PEG to 1.5.

Absolute P/E constraints: Many GARP screens set absolute P/E limits—perhaps excluding any stock with P/E above 40, regardless of growth rate. This prevents outliers where single metrics distort. A company with P/E 200 and growth of 200 percent has PEG of 1.0 but is extremely risky due to leverage in the valuation structure.

Price-to-book limits: Quality GARP companies often trade at elevated price-to-book multiples given their superior returns on equity, but excessive multiples (P/B above 5) might indicate overvaluation. Some screens include P/B constraints.

Price-to-sales ratios: For volatile or cyclically-earnings companies, price-to-sales (P/S) provides stability. GARP screens often set P/S limits, perhaps excluding stocks with P/S above 3 to 4 depending on industry.

Sector relative valuation: A stock's valuation must be considered relative to its peer group. A 25× P/E might be cheap within software (where average P/E is 35) but expensive within financial services (where average is 12). Some screens compare each candidate's PEG to sector median PEG, selecting candidates trading below sector average.

A typical valuation screen might eliminate 70 to 80 percent of stocks, leaving candidates whose prices have not gotten away from fundamentals.

Growth Screen: Confirming Expansion

The growth screen verifies that selected candidates are actually experiencing earnings expansion, not just trading cheaply.

Revenue growth rate: Companies should grow revenues faster than GDP or sector average—typically 5 to 10 percent annually at minimum for large-cap GARP. A mature company with 3 percent revenue growth at a cheap multiple might represent a value trap rather than opportunity.

Earnings per share growth: This must exceed revenue growth, indicating margin expansion or reduced share count from buybacks. A company growing revenue 10 percent but earnings only 5 percent might be losing pricing power or facing margin pressure.

Earnings growth visibility: Forward estimates matter. Does the company have announced products, contract wins, or market share gains supporting growth forecasts? Or is growth assumption based purely on analyst hope? GARP investors prefer visible catalysts.

Growth trend trajectory: Is growth accelerating, stable, or decelerating? Companies with accelerating growth offer better opportunity than those with stable growth, all else equal. Declining growth raises concerns about sustainability.

Guidance consistency: Has management historically met or beaten earnings guidance? Or do they consistently miss and lower expectations? Reliable management improves confidence in forward growth estimates.

A typical growth screen might require earnings growth exceeding 8 to 15 percent annually (depending on market conditions and company stage), eliminating slow-growth businesses regardless of valuation attractiveness.

Profitability Screen: Validating Quality

The profitability screen confirms that growth is genuine and sustainable, not accounting illusions or cyclical benefits.

Operating margin trajectory: Margins should be stable or expanding as revenues grow. A company growing earnings 20 percent while operating margins decline is generating growth through leverage or temporary cost benefits, not structural improvement. GARP prefers margin expansion or stability.

Free cash flow growth: This is the ultimate test. Companies must convert earnings growth to cash. A company showing 25 percent earnings growth but free cash flow growth of 5 percent is disguising capital intensity or working capital management in the income statement. FCF growth should approximate or exceed earnings growth.

Return on equity: High-quality businesses achieve elevated returns on incremental capital. GARP screens often require ROE above 12 to 15 percent and prefer accelerating ROE (showing returns on new capital exceed returns on existing capital).

Cash conversion: Operating cash flow should equal or exceed net income. If they diverge significantly, investigate whether growth is sustainable or reflects accounting benefits. A year or two of divergence might be temporary; systematic divergence suggests growth quality questions.

Debt levels: Excessive leverage can amplify growth metrics artificially. GARP screens typically require debt-to-equity ratios below 0.5 to 1.0 depending on industry. A company achieving impressive growth through aggressive leverage is riskier than one achieving similar growth while deleveraging.

A typical profitability screen eliminates companies where growth appears unsustainable—those with declining margins, weak FCF conversion, or high leverage despite earnings expansion.

Quality Screen: Identifying Competitive Advantages

The quality screen verifies that selected companies have genuine competitive advantages, not just temporary market conditions supporting growth.

Competitive moat indicators: Does the company have sustainable competitive advantages? Screening for these is art more than science, but proxies include:

• Brand strength (pricing power evident in gross margins)
• Network effects (user bases creating switching costs)
• Switching costs (customers locked into proprietary systems)
• Proprietary technology (differentiated products supporting pricing)
• Scale economics (cost advantages from size)

Industry structure: Is the company in a favorable industry—growing, consolidating around quality leaders, or protected from disruption? GARP investors prefer secular growth industries over cyclical or disruption-threatened ones.

Market share trends: Is the company gaining or losing share? Market share gains combined with profitable growth suggest competitive strength. Share losses despite company growth might indicate industry tailwinds rather than competitive advantage.

Customer concentration: Does the company depend on a handful of customers, creating risk if customers defect? Diversified customer bases provide safety. Similarly, customer retention rates matter—high retention suggests switching costs or satisfaction.

Management quality: This is subjective but important. Strong management teams with investment experience, aligned incentives, and track records of capital allocation skill increase confidence in execution. Some screens exclude stocks with recent management upheaval or activist situations.

A quality screen might eliminate companies with deteriorating competitive positions, high customer concentration, or unfavorable industry dynamics—leaving candidates with durable advantages supporting growth.

A Practical Screening Example

A simplified GARP screen might look like:

Valuation filters:

• PEG ratio < 1.3
• P/E < 35
• Price-to-sales < 3.5

Growth filters:

• Earnings growth (forward 2-year) > 12%
• Revenue growth > 8%
• Earnings growth > revenue growth (margin expansion)

Quality filters:

• Return on equity > 15%
• Free cash flow growth > 8%
• Debt-to-equity < 0.6
• Market cap > $1 billion (eliminates micro-caps)

Running this screen across the S&P 500 might yield 30 to 50 candidates—companies with reasonable valuations, documented earnings growth, and quality metrics suggesting competitive advantage.

From Screening to Selection

The candidates emerging from screening are not automatic buys. Rather, they merit deeper analysis. GARP investors examine:

• Industry positioning and secular growth tailwinds
• Management's capital allocation track record
• Catalysts for re-rating (new products, market expansion, etc.)
• Valuation relative to longer-term earnings power
• Risk factors that might impair growth (competitive threats, regulatory risks, etc.)

The screen reduces information overwhelm and identifies promising candidates. Human judgment determines which become portfolio positions.

Mermaid Caption: Portfolio Candidate Funnel

The screening hierarchy above shows how multiple filters progressively narrow the candidate universe, with each subsequent filter requiring passage of previous criteria. This funnel structure ensures that only companies meeting all GARP requirements advance to active consideration.

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Read Common GARP Mistakes to understand the pitfalls in applying GARP and how experienced investors avoid them.