Net profit margin is the most important entry in an income statement, as it demonstrates the affluence of a company. It determines the efficiency of a company in deploying its resources, making it the best metric to measure a company’s profitability.
Net Profit Margin = Net profit /Sales * 100.
In simple terms, net profit is the amount a company retains after deducting all costs, interest, depreciation, taxes and other expenses. In fact, net profit margin can turn out to be a potent point of reference to gauge the strength in a company operations and cost-control measures.
Higher net profit is indispensable for rewarding stakeholders. Also, strength in the metric not only attracts new investors but also draws well-skilled employees that eventually add to the value of the business.
Moreover, a higher net profit margin as compared to peers lends a competitive edge.
Pros and Cons
Net profit margin helps investors gain clarity on a company’s business model in terms of pricing policy, cost structure and manufacturing efficiency. Hence, a strong net profit margin is preferred by all classes of investors.
However, net profit margin as an investment criterion has its own share of pitfalls. The metric varies widely from industry to industry. While net income is a key metric for investment measurement in traditional industries, it is not that important for technology companies.
Moreover, the difference in accounting treatment of various items — especially non-cash expenses like depreciation and stock-based compensation — makes comparison a daunting task.
Further, for companies preferring to grow with debt instead of equity funding, higher interest expenses usually weigh on net profit. In such cases, the measure is rendered ineffective to analyze a company’s performance.
The Winning Strategy
A healthy net profit margin and solid EPS growth are the two most sought-after elements in a business model.
Apart from these, we have added a few criteria to ensure maximum returns from this strategy.
Net Margin 12 months – Most Recent (%) greater than equal to 0: High net profit margin indicates solid profitability.
Percentage Change in EPS F(0)/(F-1) greater than equal to 0: It indicates earnings growth.
Average Broker Rating (1-5) equal to 1: A rating of #1 indicates brokers’ extreme bullishness on the stock.
Zacks Rank less than or equal to 2: Stocks with a Zacks Rank #1 (Strong Buy) or 2 (Buy) generally perform better than their peers in all types of market environment.
VGM Score of A or B: Our research shows that stocks with a VGM Score of A or B when combined with a Zacks Rank #1 or 2 offer the best upside potential.
Here are six of the 31 stocks that qualified the screen:
Turtle Beach Corp (NASDAQ:HEAR) is a premium San Diego, CA-based audio technology company that designs audio products for consumer, commercial and healthcare markets. The stock currently sports a Zacks Rank #1 and has a VGM Score of A. Moreover, the Zacks Consensus Estimate for 2018 earnings remained unchanged at 97 cents per share in the last 30 days.
Based in Winchester, VA, American Woodmark Corp (NASDAQ:AMWD) is a manufacturer and distributor of kitchen cabinets and bath and home organization products. The stock currently sports a Zacks Rank #1 and has a VGM Score of A. Moreover, the Zacks Consensus Estimate for fiscal 2019 earnings has surged 25.6% to $7.55 per share in the last 30 days.
Chicago-based Enova (NYSE:ENVA) is a provider of online financial services. The stock sports a Zacks Rank #1 and has a VGM Score of A. Further, the Zacks Consensus Estimate for 2018 earnings has increased 7% to $2.43 over the last 30 days.
QuinStreet (NASDAQ:QNST), based in Foster City, CA, is a provider of online direct marketing and media services. The Zacks Consensus Estimate for fiscal 2018 earnings increased by a penny to 45 cents over the last 30 days. The stock sports a Zacks Rank #1 and has a VGM Score of B.
Manchester-based Luxfer Holdings (NYSE:LXFR) designs, manufactures, and supplies high-performance materials, components, and high-pressure gas-containment devices for healthcare, environmental, protection, and specialty end-markets in Europe, North America, and internationally. The Zacks Consensus Estimate for 2018 earnings remained steady at $1.29 per share in the last 30 days. The stock carries a Zacks Rank #2 and has a VGM Score of A.
Melville, NY-based Verint Systems (NASDAQ:VRNT) is a provider of analytic solutions for communications interception, digital video security and surveillance, and enterprise business intelligence. The Zacks Consensus Estimate for 2018 earnings remained steady at $3.10 per share in the last 30 days. The stock has a Zacks Rank #2 and a VGM Score of B.
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Disclosure: Officers, directors and/or employees of Zacks Investment Research may own or have sold short securities and/or hold long and/or short positions in options that are mentioned in this material. An affiliated investment advisory firm may own or have sold short securities and/or hold long and/or short positions in options that are mentioned in this material.
Disclosure: Performance information for Zacks’ portfolios and strategies are available at: https://www.zacks.com/performance.
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