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Given widespread disruption and uncertainty in the stock market, it is more important than ever to identify high quality stocks for your portfolio. This means safe, profitable companies with strong balance sheets.
We all like the idea of finding the best quality companies possible. These multi-bagger stocks resist competitive threats and generate breathtaking profits, especially when the competition collapses. They compound investment returns at consistently above-average rates over the long term because they've got what billionaire investor Warren Buffett calls economic moats.
In this article, I'm going to tell you what makes these stocks stand out - take Safestore Holdings (LON:SAFE), for example. Safestore Holdings is a balanced, mid cap in the Specialized REITs industry.
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 approval
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
So, has Safestore Holdings (LON:SAFE) got a moat?
When it comes to finding 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 Safestore Holdings stacks up against them:
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 Safestore Holdings, the figure is an impressive 43.3%.
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 Safestore Holdings, the figure is an eye-catching 12.5%.
High Return on Equity (compared to peers) - the measure of a company making good profits from its assets.
- Safestore Holdings has a 5-year average ROE of 18.8%.
High Operating Margins (compared to peers) - the measure of a company with pricing power
- Safestore Holdings has a 5-year average operating margin of 107.9%.
Some of the best quality stocks in the market have defensible models that can deliver high levels of shareholder returns over the long term. By analysing some key medium-term profitability and efficiency metrics, it's possible to start tracking them down. On this basis, it certainly appears that Safestore Holdings has some of the financial traits of an economic moat.
To find out more you might want to take a look at the LON:SAFE StockReport from the award-winning research platform, Stockopedia. StockReports contain a goldmine of information in a single page and can help to inform your investment decisions.
To find more stocks like Safestore Holdings, you'll need to equip yourself with professional-grade data and screening tools. This kind of information has traditionally been closely guarded by professional fund managers. But our team of financial analysts have carefully constructed this screen - Stockopedia’s Moats of the FTSE 350 - which gives you everything you need. So why not come and take a look?