When profit margins are fat, it indicates the company is doing something special, perhaps even unique. Fat margins, however, can attract competitors who want to muscle in on the action.
To make sure a company still has an edge, I look for profit margins that are not only large, but growing. That probably means it will take competitors a while to jump over the moat.
Here are five stocks with wide profit margins that have gotten wider in recent years:
■ JP Morgan Chase & Co. is a beleaguered bank. In July, it agreed to pay $410 million to settle a federal case alleging it manipulated the market for electricity. It is still licking its wounds from the $6 billion “London whale” trading loss of 2012. Now, the Justice Department and Securities and Exchange Commission are probing its hiring practices in Asia, to see if bribery has been involved. Because of all this, the stock is cheap. It sells for only 8 times earnings.
Despite the headlines, I view Morgan as an excellent bank. It needs to fine-tune its risk controls and compliance procedures. Operating profit margin last year was close to 40 percent.
■ Cirrus Logic Inc. designs and sells semiconductors, especially audio chips. The knock against Cirrus is that it’s too dependent on selling to Apple and Avnet, a big distributor. I might stand that argument on its head and say it is hard to imagine two higher quality customers. Cirrus had an operating margin of 25 percent last fiscal year and is debt-free. The stock sells for only 10 times earnings.
■ Sturm Ruger & Co. posted record earnings last year, with an operating margin of about 23 percent. The perennial threat to the firearms maker is the prospect of stricter gun control laws. I favor such laws, but think it unlikely that big changes will pass.
Sturm Ruger has been profitable in each of the past 10 years. It achieved record earnings last year and is expected to break that record this year. It, too, is debt-free.
■ Marathon Oil Corp. achieved a 39 percent operating margin last year. It is an exploration and production company, having spun off refining in 2011. It has posted profits for 17 years in a row. The stock sells for 15 times earnings.
■ Schweitzer-Mauduit makes papers for cigarettes, battery wrappers, vacuum cleaner bags, and other specialty uses. It has profited nine of the past 10 years and had an operating margin of just above 20 percent last year. The stock isn’t cheap, but isn’t terribly expensive at 16 times earnings.
This is the fourth column I’ve written on stocks with wide and expanding profit margins. On average, my picks have risen 14 percent, compared to 17.1 percent for the Standard & Poor’s 500 index. Still, I have faith high and widening margins are a useful metric.
John Dorfman is chairman of Thunderstorm Capital in Boston.