A fat profit margin can signify one of several things.
A company may have a big margin for two reasons. It may have first-mover advantage in a new field. Or it may provide something that people strongly want, whether that be a smartphone or a tasty chicken sandwich.
Either say, companies with fat profit margins are worth looking at, especially if the margins are expanding.
The profit margin is the percentage of a firm’s total revenue that it keeps after all expenses. Profits can be reinvested in the business, used to pay dividends, or used to buy back stock.
Here are five fat-margin stocks I believe are worth looking at.
Pfizer
There’s a reason why politicians such as Bernie Sanders and Elizabeth Warren rail against the allegedly obscene profits earned by big pharmaceutical companies. This has been a highly profitable industry over the years, making products that people not only want, but need.
Pfizer Inc. (PFE, Financial) has a profit margin of 29% before taxes and more than 23% after taxes. It has a broad product line and worldwide geographic diversity. At about $36, the stock sells for 16 times earnings, which seems reasonable to me.
Norfolk Southern
Although it’s only the fourth-largest U.S. railroad company, Norfolk Southern Corp. (NSC, Financial) stands out for its profitability, with margins of 35% pretax and 24% after tax.
The company operates on some 19,000 miles of track in the East and Southeast parts of the U.S. Traditionally, coal was a major cargo. As the coal industry gradually declines, Norfolk Southern has been able to increase other types of freight such as cars, chemicals, steel and lumber.
Since the end of the Great Recession in 2009, the stock has quintupled. It sells for 17 times earnings.
Gentex
Gentex Corp. (GNTX, Financial) boasts margins of 27% pretax, 23% after tax. It makes self-dimming mirrors for cars and self-dimming windows for airplanes. The company has no debt and it has increased its earnings consistently, but more slowly in recent years than a few years ago.
Several famed hedge-fund managers are in this stock (or were, according to the most recent filings). They include Jim Simons (Trades, Portfolio), Ray Dalio (Trades, Portfolio), Paul Tudor Jones (Trades, Portfolio), and most recently Steven Cohen (Trades, Portfolio).
Corcept
More speculative and more expensive is Corcept Therapeutics (CORT, Financial), a Menlo Park, California pharmaceutical company. Its focus is regulating the level of cortisol, a hormone, in the body. It has a diabetes drug on the market, and clinical trials underway for several other drugs, including cancer drugs.
After more than a decade of operating in the red, Corcept turned profitable in 2016. The stock fetches 19 times earnings, which is more than I usually would pay but less than the market’s prevailing multiple of 22.
Corcept’s margins are very high, at 34% before tax and 29% after tax.
Occidental
Considerably cheaper is Occidental Petroleum Co. (OXY, Financial) of Houston, Texas, the sixth-largest U.S. oil and gas company by market value. Once famous for drilling in Libya, Occidental now has core assets in the Permian Basin in Texas. It still has operations in several Middle East countries and Latin America.
The market is treating all oil companies as poison. Occidental shares go for just eight times earnings. But there’s a 7% dividend yield, a pretax margin of about 25% and an after-tax margin of about 20%.
Last month, Occidental acquired Anadarko Petroleum Corp. (APC, Financial), using financing provided by Warren Buffett (Trades, Portfolio)’s Berkshire Hathaway. It’s a high-risk move, but now does seem like the time to snatch oil-patch companies while their stock prices are down.
Past Record
This is the 10th column I’ve written on companies with fat profit margins, beginning in 2009. The average one-year return on my picks in this series has been 17.2%, versus 14.7% for the Standard & Poor’s 500 Index.
Seven of the nine columns have shown a profit. But only two of the nine have beaten the S&P 500. The strong average return reflects big returns from my 2009 and 2014 selections.
Bear in mind that my column recommendations are theoretical and don’t reflect actual trades, trading costs or taxes. Their results shouldn’t be confused with the performance of portfolios I manage for clients. And past performance doesn’t predict future results.
My picks from a year ago were the worst in my nine outings. Four of my five selections fell, with an average loss of 18.4%, versus a gain of 3.0% for the S&P 500. The worst offender was United Therapeutics Corp (UTHR, Financial), down 31%.
Disclosure: I own Pfizer for a few clients and Occidental Petroleum for one client.
John Dorfman is chairman of Dorfman Value Investments LLC in Newton Upper Falls, Massachusetts, and a syndicated columnist. His firm or clients may own or trade securities discussed in this column. He can be reached at [email protected].
