The Morningstar Global ex-US Moat Focus Index is an index of 78 stocks with a sustainable competitive advantage over their peers. Roughly half of the portfolio is concentrated in its top four regions: Japan, China, Germany, and the United Kingdom.
The stocks in this index have a wide or narrow moat rating – that is Morningstar analysts assessment of a stock’s sustainable competitive advantage that allows a company to earn excess returns on capital for a long period of time.
We reveal five UK stocks which make the index below.
Rolls Royce (RR.)
Analyst Jeffrey Vonk says Rolls Royce earns a narrow moat rating, mainly due to switching costs and intangible assets. The firm's strong competitive positions in civil and defence aerospace result in returns on invested capital exceeding the costs of capital over our five-year forecast period, and analysts expect this to continue for years to come.
The switching costs result from the firm's gas turbine engines being well integrated in the wide-body aircraft platforms of Boeing and Airbus. Rolls-Royce's customers, the airline operators, are hesitant to switch to new engines as it is time-consuming and the change entails high investment costs and retraining of maintenance personnel. The engines have long economic lifetimes, and the support services aid customer loyalty.
Long product cycles ensure that a platform win brings in revenue for multiple decades. The technical knowledge required to design and manufacture a jet engine is Rolls-Royce's main source of intangible assets.
Lloyds (LLOY)
Analyst Derya Guzel says Lloyds also earns a narrow moat rating, driven by its robust U.K. retail business franchise, which it operates via Lloyds Bank, Scottish Widows, Bank of Scotland, and Halifax, and which generates 48% of underlying operating profits.
Thanks to its retail segment, the bank is a leading provider of current accounts, saving accounts, and mortgages to both personal customers and small and midsize enterprises. Retail lending makes up more than 70% of its loan book, with the rest assigned to commercial lending. Within the retail loan book, mortgages make up 94% of total lending.
Thanks to its multi-brand, multi-channel strategy, the bank has 25% market share in both current accounts and mortgages and 23% market share in retail deposit balances. It serves 25% of retail customers in the U.K.
Unilever (ULVR)
Analyst Philip Gorham says Unilever’s wide economic moat is derived from two sources: its entrenchment in the supply chain of retailers, an intangible asset, and a cost advantage.
The firm’s broad portfolio of products across multiple categories and supermarket aisles creates a virtuous cycle of competitive advantages, comprising intangible assets and cost advantages that new entrants simply could not replicate.
Unilever’s portfolio spans multiple household and personal product categories as well as food and, to a lesser extent, beverages, and the firm generates over €50 billion in revenue. This makes Unilever one of the most important suppliers to retailers globally and differentiates it from narrow-moat competitors with smaller product portfolios.
GlaxoSmithKline (GSK)
Patents, economies of scale, and a powerful distribution network support GlaxoSmithKline’s wide moat, says analyst Allan Nichols. Glaxo's patent-protected drugs carry strong pricing power, which enables the firm to generate returns on invested capital in excess of its cost of capital. Further, the patents give the company time to develop the next generation of drugs before generic competition arises.
Overall, Glaxo's established product line creates the enormous cash flows needed to fund the average $800 million in development costs per new drug. In addition, the company's powerful distribution network sets up the company as a strong partner for smaller drug companies that lack Glaxo’s resources.
Vodafone (VOD)
Nichols says Vodafone has a narrow economic moat due to cost advantages and efficient scale. Vodafone is one of the largest wireless phone companies in the world, with 277 million proportional customers, excluding India and partnership networks. Where it doesn't have its own operations, it has formed strategic partnerships.
More important than its global size is the scale it has within its various markets and the quality of those networks. Vodafone’s scale also provides it with some advantages over competitors, allowing it to source equipment at lower prices. The firm can develop a product in one country and roll it out to others at minimal additional expense. In addition, many countries are selling additional spectrum.
Thanks to Vodafone's scale, it can afford to bid for more spectrum, which improves the quality of its network, thereby attracting more valuable heavy data users. The high costs of building and maintaining a network tend to limit the number of operators in a country, which leads to an efficient scale moat.
