3 High Margin Companies Worth Buying
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When a company has a high-profit margin, this can be a sign of a strong business model, pricing power, a competitive advantage, or all of the above. It can also translate into excellent earnings growth and above-market returns for shareholders.
While big gains can result from rolling the dice on unprofitable, early-stage growth companies, these stocks typically carry a lot more risk. That is why some investors prefer to focus on more mature growth companies that have sustainable competitive advantages.
Here we look at three large-cap stocks that have exhibited a high net profit margin over the trailing 12-month period. They are each likely to do the same for the next 12 months pushing their stock price higher.
Why is Texas Instruments' Margin Increasing?
Texas Instruments (NASDAQ:TXN) has recorded a 38.7% net margin over the last four quarters making it one of the most profitable S&P 500 companies. This is because the semiconductor giant makes high-quality chips that are in high demand from a range of automotive, communications, and industrial customers. The company can charge a premium price for their premium products and a major chunk of that revenue falls to the bottom line.
Quarterly results have improved significantly of late largely because demand has recovered nicely without the burdens of trade wars, tariffs, and a weak pandemic economy. This has especially been the case in the automotive industry where Texas Instruments' blue-chip customers are ramping production and increasing orders for integral TI technology.
Texas Instruments is in a better position to deliver strong profits these days due to its reduced dependence on the computer, mobile phone, and consumer electronics markets. These are the more competitive areas of the semiconductor industry and pricing competition has made the chips virtual commodities. Focusing on the more specialized, faster-growing corners of the semiconductor world has helped Texas Instruments carve out more of a niche business and command higher pricing. Look for this formula to continue and Texas Instruments stock to outperform.
Will NVIDIA's Stock Keep Going Up?
Speaking of highly profitable chip makers NVIDIA's (NASDAQ:NVDA) 26.0% net margin is nothing to sneeze at. It has come down from the 30%-plus levels seen in previous years but still allows the company to produce some big-time earnings.
NVIDIA's strength lies in the gaming market where it supplies high-end graphic processors. The pandemic has been a major boom to video game console demand and NVIDIA has therefore been a major beneficiary. The data center business is also seeing record sales volumes as more enterprises build out their cloud computing capabilities for remote workforces and more retailers pivot to e-commerce. As the newly acquired Mellanox becomes integrated, NVIDIA's data center business will only get stronger.
In addition to having a high margin, NVIDIA's revenue growth has accelerated in each of the last four quarters. This has led to earnings per share growth of 29% over the past year which is more than twice its peer group average.
Although the gaming business is likely to experience a slowdown as the economy reopens, NVIDIA has plenty more growth opportunities up its sleeve. It is quickly establishing itself as a leader in developing technology for a range of artificial intelligence (AI) applications. Its AI computing solutions tailored to specific sectors like energy, financials, health care, telecom, education, and self-driving cars will power the company's future growth.
The valuation isn't cheap at a PEG ratio of nearly 4x. But given NVIDIA's above industry growth metrics and exposure to some of the fastest growing technology areas, it's a price worth paying.
Is Charles Schwab the Biggest Brokerage Company?
A financial sector stock may seem like a surprising addition to a high margin list, but Charles Schwab (NYSE:SCHW) certainly fits the bill. The broker's 25.1% margin over the last 12 months puts it in an elite company among the S&P 500's high earners.
Following the takeover of TD Ameritrade, Schwab has millions of more brokerage accounts and trillions more assets, but most importantly stands to benefit from increased operating efficiencies. It is still in the early stages of integrating TD Ameritrade, but when it is all said and done, the cost synergies are forecast to reach up to $2 billion. Redundant back-office functions and the elimination of repetitive vendor costs should add up fast and improve Schwab's already high margin. Management expects earnings accretion of 15% to 20% within the next few years.
Prior to last year, the company was consistently generating net margins around 33%. Schwab's bold move to reduce trading commissions to zero certainly has had much to do with the recent margin decline. But as the industry follows suit, Schwab should get a large chunk of the brigade of retail investors opening brokerage accounts for the first time. Low-cost ETFs and other unique product offerings will likely continue to drive hordes of new customers and higher asset management revenue. Gradually increasing interest rates would also help boost profitability.
Schwab's stock has had a nice run since October 2020 and the a pullback to the 50-day moving average would be preferred. This would be a good chance to 'chuck' some money on the clear brokerage industry leader whose innovations and profit growth may have only just begun.
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