Cisco And Four Other Fat-Margin Buys

The point of business is not revenue or growth. It’s profit. If oil sells for $80 a barrel, and you can extract it from the ground for $50, you have a good business. If your oil is a mile underwater and costs $120 to extract, you have a bad business.

That’s why I like companies with fat profit margins. Obscene profits? Fine, in my book.

Once a year in this column, I feature companies that stand out for their profit margins (profits as a percent of sales). I consider an 18% margin after taxes as a shining result. Here are five stocks that I believe fit the bill.

Cisco SystemsCSCO
has achieved an after-tax profit margin of more than 20% for nine years in a row. It is the largest computer networking company in the world, and is also active in cybersecurity and video conferencing (WebEx).

Cisco used to be an investors’ darling. It went public in 1990, soared more than a hundred-fold in value, and had the highest market value of any company in the world in early 2000.

After the dot-com bubble burst in March 2000, Cisco plunged more than 80% in about two years. Since then, it’s been a long slow climb back.

Today, the stock sells for 16 times earnings—historically, a typical multiple, but below average these days. (The market multiple is about 25.)

I like a ton of oil and gas stocks at the moment, since I believe the industry’s revival will continue to gain momentum. Like most of its industry, ConocoPhillipsCOP
posted losses in 2015-2017 and in 2020. But lately it boasts an after-tax margin of about 19%.

While many oil and gas companies sank into debt during the industry slump, ConocoPhillips managed to maintain a reasonable balance sheet. Presently, debt is about 34% of the company’s equity. And its stock price seems quite reasonable to me, at nine times earnings.

Applied MaterialsAMAT
, based in Santa Clara, California, is the world’s largest maker of equipment used to manufacture semiconductors. It has been more stable than most competitors in its industry, with profits in 14 of the past 15 years.

The company is headed for a sixth straight year with after-tax margins above 18%.

The bear case on the semiconductor industry is that personal-computer sales have fallen recently, and the shortage of chips used in cars is beginning to be worked off. I believe, however, that the long-term trend is still for chip use to increase.

Technology stocks have been socked in the teeth this year, and semiconductor stocks especially so. Yet I am including three tech stocks in my five recommendations today. I believe the carnage in the sector has been overdone, and that the tech sector is where much of the growth an innovation in the U.S. economy reside.

Texas InstrumentsTXN
, based in Dallas, is the world’s largest maker of analog chips. It also makes microcontrollers and calculators. The company has steadily expanded its margins since 2012, and had nearly a 44% after-tax profit margin last year.

Another stock that has taken it on the chin is BiogenBIIB
, a biotech pharmaceutical firm. It has fallen about 40% in the past year.

For a while, investors got very excited about Biogen’s drug for Alzheimer’s disease, aducanumab. Data from clinical trials wasn’t strong enough to lead an advisory panel of the Food and Drug Administration to recommend approval. But the FDA approved the drug anyway, in a controversial decision.

My feeling is that investors are focusing excessively on that drug, and not giving Biogen enough credit for the rest of its pharmaceutical lineup.

The Record

Before today, I’d written 12 columns on this theme. The average 12-month return on my recommendations has been 18.2%, versus 14.8% for the Standard & Poor’s 500 Total Return Index. Eight of the 12 columns have shown a profit but only three beat the index.

Bear in mind that my column results are hypothetical and shouldn’t be confused with results I obtain for clients. Also, past performance doesn’t predict the future.

My fat-margin recommendations from a year ago suffered a 13.7% loss, slightly worse than the 12.2% loss for the Standard & Poor’s 500. Magnolia Oil & Gas (MGY) performed well, but Quidel Ortho QDEL
and T. Rowe Price Group (TROW) had large losses.

Disclosure: I own Texas Instruments personally and for almost all of my clients. I hold ConocoPhillips and Applied Materials for one or more clients. A hedge fund I manage owns call options on Cisco Systems.