Profit From Healthy Profit Margins

These companies find ways to flourish even in tough times

- NELLIE S. HUANG

Picking good stocks is challenging at any time. But these days, inves-tors must be wary of companies that are vulnerable to higher-for-longer inflation, as well as lingering supply-chain disruptions, rising interest rates and the scary geopolitical situation in eastern Europe.

Some companies hold up better than others in tough times. Firms that lead their market or industry, for example, typically have strong pricing power— think Apple or Nike. These types of companies can pass on higher wages and material costs to customers by raising prices for goods or services without seeing much slip in demand. Other firms fortify their results by controlling costs (Johnson & Johnson has proved adept at this in years past). Still others have businesses that are simply less sensitive to rising material and labor costs, or even supply-chain issues, because of the services or goods they sell (Netflix, say, or Airbnb).

One way to find companies with those attributes is to scrutinize profit margins. Why not profits alone? A company’s bottom line—its net income or profit—matters, of course. But profit margins can show how efficiently a company manages its operations and costs over time, in good and bad periods. Well-managed firms can maintain or expand profit margins through changing economic and market conditions. Often, these companies also have strong balance sheets and a steady stream of free cash flow (cash profits left after expenses to maintain or expand the business). “These companies are well placed to do well in different economic environments,” says Ian Mortimer, portfolio manager of SmartETFs Dividend Builder ETF.