Motley Fool | Low profit margins not all bad

Q: Are companies with low profit margins bad investments?

— R.W., Escondido, Calif.

A: High margins are generally preferable, of course. They can reflect some competitive advantages, such as a strong brand that commands a higher price. Amid a price war, companies with higher margins have more wiggle room. Still, you shouldn’t necessarily avoid lower-margin businesses.

Imagine that Fred Co. (ticker: TAPTAP) has a whopping net profit margin of 25 percent, while Ginger Inc. (ticker: TWIRL) has just a 1 percent margin. If Fred sells only three top hats a year, while Ginger sells gobs of gowns each week, Ginger might well be the better buy, generating more cash in total than Fred.

Fool’s school: Understanding bonds

Over the long run, stocks usually have outperformed bonds. Still, it’s good to balance your portfolio with some bonds, and to understand what they really are. Bonds are essentially long-term loans. If a company issues bonds, it’s borrowing cash and promising to pay it back at a certain rate of interest.

There are many kinds of bonds. Those sold by the U.S. Treasury Department are called Treasurys. State and local governments issue municipal bonds, while businesses issue corporate bonds. Because companies on shaky ground have a relatively high chance of defaulting, they have to offer high-interest-rate “junk” bonds to attract buyers.

Bond investors receive regular interest payments at what is called the “coupon rate.” For example, if you buy a $1,000 bond with a coupon rate of 5 percent, you’ll receive payments of $50 per year. When the bond matures — after perhaps five, 10 or 30 years — you’ll get back your initial loan, called “par value.” Most corporate bonds have a par value of $1,000, while government bonds can run much higher.

Sometimes a company will “call” its bond, paying back the principal early. All bonds specify whether and how soon they can be called. U.S. government bonds are never called in early.

Foolish trivia

I was born in a one-bedroom apartment in Chicago in 1984, and today I have more than 3,000 employees and operations in 27 countries, providing independent investment research. America’s shift from pensions to 401(k)s boosted interest in mutual funds, so I began providing data on them. In 1985, I introduced ratings for funds. I went public in 2005. I cover more than 400,000 investments, including stocks, and I even manage money now, with about $157 billion in assets under management. I’ve bought companies such as Ibbotson Associates. I rake in more than $650 million annually. Who am I?


Answer: Stanley Black & Decker
