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Net profit, also referred to as the bottom line, is one of the key tools that gauges the financial health of an enterprise. The figure demonstrates a company’s ability to convert per dollar sales into profits. A low profit margin indicates higher risks, implying that a drop in revenues might dent profits, pushing the company into the red (net loss).

Net Profit Margin = Net profit /Sales * 100.

In simple terms, net income is the residual of all revenues and gains over all expenses and losses during a particular period. It can also be defined as the net increase in shareholder’s equity, which the company can retain as earnings or distribute among shareholders as dividend.

Net margin helps investors assess the risks of investing in a company. Creditors also view it as a major factor in determining a company’s ability to clear debts.

Moreover, the strength in the metric not only attracts new investors but also draws well-skilled employees who 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 crucial 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 complex task.

Further, for companies preferring to grow with debt instead of equity funding, higher interest expenses usually weigh on the net profit. In such cases, the measure is rendered ineffective for the analysis of 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 other criteria to ensure maximum returns from this strategy.

Screening Parameters

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 prospects of the stock.

Zacks Rank equal to 1: In good markets or bad, stocks with a Zacks Rank #1 (Strong Buy) continue to outperform. You can see the complete list of today’s Zacks #1 Rank stocks here.

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 (Buy) offer the best upside potential.

Here are five of the seven stocks that qualified the screen:

Greece, Athens-based Aegean Marine Petroleum Network Inc. (ANW - Free Report) is a marine fuel logistics company, engaged in supplying and marketing refined marine fuel and lubricants to ships in ports and at sea. The company has managed to beat earnings twice in the trailing four quarters, with an average positive surprise of 11.06%. The company has a VGM Score of ‘A’. Its earnings estimate for the current year has increased by 7 cents (5.6%) to $1.31 per share over the last 30 days.

Notably, Aegean Marine’s year-to-date return of 34.57% is way better than the Zacks Transportation-Ship Industry’s negative return of 22.41%

East Rutherford, NJ-based Cambrex Corporation (CBM - Free Report) provides products and services that accelerate and improve the development and commercialization of new and generic therapeutics. The company has beaten earnings thrice in the trailing four quarters, with an average positive surprise of 19.78%. The stock has a VGM score of ‘A’. Moreover, the Zacks Consensus Estimate for 2016 earnings has increased by 9 cents (3.7%) to $2.55 per share over the last 30 days.

Moreover, Cambex’s year-to-date return of 6.5% is way better than the Zacks Medical-Biomed/Genetics Industry’s negative return of 24.80%.

Gibraltar Industries Inc. (ROCK - Free Report) manufactures and distributes products to the industrial and buildings market. The company has its headquarters at Buffalo, NY. Gibraltar has outperformed the Zacks Consensus Estimate in all of the trailing four quarters, with an average positive surprise of 67.30%. The stock has a VGM score of ‘B’. Meanwhile, the Zacks Consensus Estimate for 2016 earnings remained steady at $1.58 per share over the last 30 days.

Gibraltar’s year-to-date return of 75.51% is way better than the Zacks Building& Construction Products- Miscellaneous Industry’s return of 17.53%.

Bedford, TX-based State National Companies Inc. (SNC - Free Report) is a leading specialty provider of property and casualty insurance in the U.S. The company has managed to beat earnings twice in the trailing four quarters, with an average positive surprise of 21.28%. The stock has a VGM score of ‘B’. Moreover, the Zacks Consensus Estimate for 2016 earnings has increased by a dime (10.5%) to $1.05 per share over the last 30 days.

State National’s year-to-date return of 35.47% is much better than the Zacks Insurance-Property/ Casualty Industry’s return of 16.70%.

El Segundo, CA-based Stamps.com Inc (STMP - Free Report) provides Internet-based services for mailing or shipping letters, packages or parcels anywhere in the U.S. The company has outperformed the Zacks Consensus Estimate in all of the trailing four quarters, with an average positive surprise of 66.72%.The stock has a VGM score of ‘B’. Meanwhile, the Zacks Consensus Estimate for 2016 earnings has risen by $1.08 (19.8%) to $6.53 per share over the last 30 days.
 

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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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