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Why Cadence Design Systems Inc (NSQ:CDNS) will appeal to moat investors

Ben Hobson
·2-min read

There's an exclusive group of companies in the stock market that stand out because they've got what billionaire investor Warren Buffett calls economic moats. Like medieval castles, their profits are fortified by impregnable business models... and there are signs that Cadence Design Systems Inc (NSQ:CDNS) might be one of them.

Given the present disruption and volatility in the stock market, it is more important than ever to identify high-quality stocks for your portfolio - and finding companies with moats is one way to do it.

Moats come in different forms, but they mostly consist of:

  • Intangible Assets - Such as brands that customers love, valuable patents or regulatory approvals

  • High 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

Here's a quick guide to finding the clues to economic moats - using Cadence Design Systems Inc (NSQ:CDNS) as an example...

GET MORE DATA-DRIVEN INSIGHTS INTO NSQ:CDNS »

Cadence Design Systems Inc (NSQ:CDNS)'s impressive metrics

Some of the biggest indicators of a moat involve persistent strong margins and high levels of cash generation – cash being especially important given the recent shocks to the worldwide economy. Here are a few ways of gauging these characteristics - and how Cadence Design Systems Inc compares:

  1. 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 Cadence Design Systems Inc, the figure is an impressive 31.7%.

  2. 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 Cadence Design Systems Inc, the figure is an eye-catching 18.2%.

  3. High Return on Equity (compared to peers) - the measure of a company making good profits from its assets.
    - Cadence Design Systems Inc has a 5-year average ROE of 27.8%.

  4. High Operating Margins (compared to peers) - the measure of a company with pricing power
    - Cadence Design Systems Inc has a 5-year average operating margin of 17.3%.

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 Cadence Design Systems Inc that you can find out about here.

Alternatively, if you'd like to find more shares that have some of the characteristics of promising economic moats, you should take a look at this Economic Moats screen.