Does Somero Enterprises Inc (LON:SOM) have an economic gap?

The continued risk of economic uncertainty and market volatility means it may be worth looking for high-quality stocks for your portfolio. Safe and profitable businesses with strong balance sheets can deliver strong long-term returns, even in times of crisis.

the best quality companies are often some of the most respected names on the market…but there are others you may not have heard of. What sets them apart is their ability to withstand competitive threats and generate eye-popping profits. They accumulate investment returns at consistently above-average rates over time.

These stocks have what billionaire investor Warren Buffett calls economic moat. Like medieval castles, their profits are bolstered by impregnable business models.

Here’s a quick explanation of what makes these actions so special – using Somero Enterprises Inc (LON: SOM) for example.

signs of strength

First, here are some of the ways companies actually establish these highly profitable competitive moats:

• Intangible assets – Like brands customers love, valuable patents or regulatory approvals
• Change costs – It may be too expensive, complicated or unnecessary for customers to look elsewhere
• Network effects – When Customers Are Part of a Product, It Creates Hugely Powerful Businesses
• Cost advantages – Superior processes and unique locations and assets make it tough for others to compete
• Large scale – Large infrastructure and distribution networks are powerful barriers to entry in many sectors

When it comes to finding companies with moats, some of the biggest clues are actually in their financial statements. Here’s what they are and why they’re important – and how Somero Enterprises Inc stands against them:

1. High free cash flow rates – the measure of a successful business.
   – A high ratio of free cash flow to turnover can be a very positive sign. For Somero Enterprises Incthe figure is an impressive 31.2%.
2. High return on capital employed – the measure of an efficient and profitable growing business.
   – An average ROCE over 5 years of more than 12% is an indicator of strong efficiency. For Somero Enterprises Incthe figure is an eye-catching 45.6%.
3. High return on equity (compared to its peers) – the measure of a company making good profits on its assets.
   – Somero Enterprises Inc has an average ROE over 5 years of 36.6%.
4. High operating margins (compared to peers) – the measurement of a company with pricing power
   – Somero Enterprises Inc posted an average operating margin over 5 years of 28.8%.

What does this mean for potential investors?

Some of the highest quality stocks on the market have defensible models that can deliver high levels of shareholder return over the long term. But there are no guarantees and it is important to do your own research. Indeed, we have identified some areas of concern with Somero Enterprises Inc which you can read about here.