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In uncertain times, it's important to look for companies with a strong competitive advantage which will ensure their staying power in the years to come. We’ve searched through over 5,500 stocks using our proprietary tool to find undervalued stocks with a strong economic moat.

These stocks are undervalued according to their growth rate (FCF), using a 15% discount rate. To find a strong economic moat we’ve looked at each company’s competitive advantage, pricing power and capital intensity.

However, the economic moats of these companies are not permanent. Investors should be vigilant of products and patents that can be copied or expire. We hope you’ll use this list as a starting point for your analysis.

Forest Laboratories Inc. (NYSE:FRX)

Forest Laboratories develops, manufactures and sells branded and generic forms of drug products. Its principal products include Lexapro which treats depression in adults and adolescents, Namenda for the treatment of Alzheimer’s and Bystolic for the treatment of hypertension.

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Pro:

  • Undervalued by 86.22% according to its growth price (FCF) as well as 9.54% by its stability price.
  • FRX’s management has invested its financial resources incredibly well. Its cash ROIC (52%), return on equity (19.04%) and free cash flow has been excellent since 2002.
  • Steadily buying back stocks since 2005.

Con:

  • Lexapro comes off patent in March 2012 and has accounted for 53% of FRX’s sales in the last quarter.
  • FRX’s Namenda drug is also at risk of generic competition by early 2015, which puts a further $1 billion in question. (source)

Competitive advantage (net profit margin): 23.68%

Pricing power (gross margin): 78.19%

Capital intensity (capital expenditure ratio): 3.67%

See our report on FRX’s economic moat here.

Portugal Telecom SGPS S.A. (NYSE:PT)

Portugal Telecom provides telecommunications services in Portugal, Brazil and Africa. They offer fixed line telephone services, mobile telecommunication services, as well as internet-related services.

Its retail accesses are up by 6.6%, broadband customers have increased by 11.5% and pay-TV customers increased 31% year-on-year. CEO Zeinal Bava foresees improving revenue trends, significant cost reduction and tight CapEx control within Portugal. (source)

Pro:

  • Highly consistent pricing power over the years. Its gross margin has risen from 73.71% in 2009 to 80.56%.
  • Improving return on equity since 2004 (18.49%) through 2010 (135.50%)
  • Very strong dividend history. PT’s dividend yield has been increasing since 2001.

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Con:

  • Mediocre past performance since net profit margin and capital expenditure ratio have only been impressive from 2010.

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Competitive advantage (net profit margin): 155.52%

Pricing power (gross margin): 80.56%

Capital intensity (capital expenditure ratio): 19.84%

See our report on PT’s economic moat here.

Gilead Sciences Inc. (NASDAQ:GILD)

Gilead Sciences is a biopharmaceutical company which engages in the discovery, development and commercialization of therapeutics for the treatment of various life threatening diseases. Its products treat HIV in adults, hepatitis B, invasive fungal infections and more.

Pro:

  • Currently undervalued by 32.57% according to its growth price (FCF).
  • Stock buybacks since 2008 with 6.95% bought back in 2010.
  • Good balance sheet, slowly taking on more liabilities but current TL-to-TA ratio of 0.49 is still healthy.

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Con:

  • Investors should wait for the results of its HIV pill (Quad) as it may be effective in clinical trials but will need to show superiority over the Reyataz regimen to convince investors of its commercial potential. But, RBC analysts are skeptical where they have given the pill a 25 percent chance in showing superiority. If approved, sales of Quad have been forecasted as high as $1.53B by 2015. (source)

Competitive advantage (net profit margin): 36.50%

Pricing power (gross margin): 76.48%

Capital intensity (capital expenditure ratio): 2.13%

See our report on GILD’s economic moat here.

Source: 3 Undervalued Stocks With An Economic Moat