At all times above now, it is important to find shares with strong fundamentals. This means profitable, safe companies with strong balance sheets.
What makes these elite stocks so appealing is their ability to resist competitive threats and generate breathtaking profits. They compound investment returns at consistently above-average rates over the long term.
These stocks are different because they've got what billionaire investor Warren Buffett, calls economic moats. Like medieval castles, their profits are fortified by impregnable business models.
In this article, I'm going to tell you what makes these stocks so special - and I'm going to use Polyus Pao (LON:PLZA) as an example. Polyus Pao is an adventurous, large cap. The principal activities of the Company are the extraction, refining and sale of gold.
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How can you tell whether a company has a moat?
Moats are desirable because they often guarantee a sustainable competitive advantage. But there are several ways that companies can get them. For example, they might have:
- Intangible Assets - Such as brands that customers love, valuable patents or regulatory approvals
- Switching Costs - It might be too costly, complicated or unnecessary for customers to look elsewhere
- Network Effects - When customers become part of a product it creates tremendously powerful businesses
- Cost Advantages - Superior processes and unique locations and assets make it hard for others to compete
- Great Scale - Large infrastructure and distribution networks are powerful barriers to entry in many industries
Has Polyus Pao (LON:PLZA) got a moat?
When it comes to searching for companies with moats, some of the biggest clues actually lie in their financial statements. By looking at a small number of important ratios you can get an idea about the competitive strength and profit power in a business.
Here's what they are and why they are important - and how Polyus Pao stacks up against them:
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High rates of Free Cash Flow - the measure of a thriving company.
- A high ratio of free cash flow to sales can be a very positive sign. For Polyus Pao, the figure is an impressive 35.0%. -
High Return on Capital Employed - the measure of a company growing efficiently and profitably.
- A 5-year average ROCE of more than 12 percent is a pointer to strong efficiency. For Polyus Pao, the figure is an eye-catching 26.7%. -
High Return on Equity (compared to peers) - the measure of a company making good profits from its assets.
- Polyus Pao has a 5-year average ROE of 1,880%. -
High Operating Margins (compared to peers) - the measure of a company with pricing power
- Polyus Pao has a 5-year average operating margin of 54.0%.
What does this mean for potential investors?
Some of the best quality stocks in the market have defensible models that can deliver high levels of shareholder returns over the long term. But there are no guarantees and it's important to do your own research. Indeed, we've identified some areas of concern with Polyus Pao that you can find out about here.