There are many useful nooks and crannies on the GuruFocus website, including screeners that help us find stocks outside the mainstream.
For example, consider the Profitable Predictable Margin Expanders screener. No description of this preset screener is provided, but we can safely divine its meaning from the name. We can also glean the details by studying its column headings:
- Financial strength rating of at least 8 out of 10.
- Profitability rating of at least 8 out of 10.
- Predictability rating of at least 3 out of 5.
- Net margin of at least 10%.
- Five-year operating margin growth rate of at least 6%.
We can assess the quality of stocks using the criteria specified in the column headings while recognizing that it provides a relatively narrow perspective. The screener gives us no information about a stock's price or valuation, what it offers in the way of dividends or share buybacks and whether the gurus are buyers or sellers.
What this screener can do is provide a shortlist of stocks that can be analyzed in more detail, a list of companies with excellent fundamentals. Among the better-known names brought up by the Profitable Predictable Margin Expanders screener on Thursday, Nov. 5 are Edwards Lifesciences Corp. (EW, Financial), Franco-Nevada Corp. (FNV, Financial) and Masimo Corp. (MASI, Financial). Most of the remaining 11 names are over-the-counter stocks.
Let's look at each of the three named stocks to see how they fare under the screener criteria. We will focus most of our attention on their expanding margins:
The company describes itself this way in its 10-K for 2019:
"Edwards Lifesciences Corporation is the global leader in patient-focused medical innovations for structural heart disease, as well as critical care and surgical monitoring. Driven by a passion to help patients, we partner with the world's leading clinicians and researchers and invest in research and development to transform care for those impacted by structural heart disease or who require hemodynamic monitoring during surgery or in intensive care."
It enjoys significant financial strength thanks to a low level of debt (the interest coverage ratio is almost 52), a high Altman Z-Score and because it earns a much higher return on its invested capital (ROIC) than it pays for it (WACC).
Profitability is high, a 9 out of 10 rating because its operating margin, net margin, return on equity and return on assets are all in the double digits.
The screener looks specifically at a company's 10-year median net margin and the five-year operating margin growth rate; Edward's median net margin comes in at 17.99% and the operating margin growth rate is 9.10%. Follow the trendlines for operating margins (blue) and net margins (red) on this 10-year chart:
As the company noted in its annual report for 2019: "Our 2019 results are underpinned by strong TAVR growth and demonstrate patient demand and the power of the triple win – innovations that extend life, improve quality of life and are proven cost effective for the healthcare system."
What is TAVR? According to the American Heart Association, "During this minimally invasive procedure a new valve is inserted without removing the old, damaged valve. The new valve is placed inside the diseased valve. The surgery may be called a transcatheter aortic valve replacement (TAVR) or transcatheter aortic valve implantation (TAVI)."
Behind the growth rate for companies serving heart issues, we find demographics; an increasingly aging population in the U.S. and many other countries means more heart disease and greater demand for products like those developed by Edwards.
Over the past decade, Edward's growing strength has created new wealth for its shareholders:
However, it does not mine or develop mines; it is a royalty and streaming company focused mainly on gold production. Royalty and streaming companies buy the rights to a portion of a mine's production.
It receives an exceptional 10 out of 10 for financial strength. Its margins are also exceptional:
- Operating margin: 51.52%
- Net margin: 21.85%
A 10-year chart shows the operating margin slipping slightly, while the net margin gains slightly:
What's behind the margin expansion? The company reported in its 2020 Annual Information Form (the equivalent of the 10-K for non-American companies), that its business model has eight advantages, including:
- No additional capital needed beyond the initial investment.
- Limited exposure to the risks undertaken by operating companies.
- "A high-margin business that can generate cash through the entire commodity cycle."
In other words, Franco-Nevada can enjoy some of the outsized rewards associated with mining businesses without being exposed to outsized risks.
It, too, has rewarded shareholders who bought and held:
The company calls itself a "global medical technology company." It develops, manufactures, and markets monitoring technologies, specifically noninvasive monitoring (the skin is not broken). The core business is in hardware that allows the measurement of blood oxygen saturation and pulse rate monitoring. Its secondary businesses include tools that allow other types of noninvasive monitoring, such as brain monitoring, anesthetic agent monitoring and remote patient monitoring.
The business has been managed well and earns a 9 out of 10 for both financial strength and profitability. It also carries a 3.5 out of 5 rating for predictability.
Its margins, return on equity and return on assets are all solidly in double-digits, another sign of strength. As for the margins, here's where they have been in the past decade:
The trendlines show us both margins rising; the net margin has risen faster than the operating margin, suggesting the company has become more efficient.
Numerous reasons for its margin expansion can be gleaned from its 10-K for 2019. In no particular order, they are:
- Ongoing research and development, especially in the area of adjacent products. In other words, extensions of existing technologies which can be sold to new and existing customers.
- International expansion, which provides opportunities to divide its fixed costs among more customers, thus allowing lower prices without lowering profits.
- Finding new customers for its core and secondary products, as well as cross-selling to existing customers.
- Like Edwards Lifesciences, it has demographic trends in its favor.
Thanks to this high performance, investors who bought and held Masimo have enjoyed significant capital gains:
The Profitable Predictable Margin Expanders screener is another excellent tool for finding investment ideas. As we've seen, it currently pulls up at least three robust companies that are worth exploring further.
Edwards Lifesciences, Franco-Nevada and Masimo all fit the bill, with exceptional financial strength, profitability and, crucially, margin expansion. Still, these selections emerge out of a narrowly focused set of criteria and more analysis is needed.
For investors seeking capital appreciation, all three are worth adding to their shortlists.
Disclosure: I do not own shares in any of the companies named in this article.
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