Margins of Error

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What do Intel (Nasdaq: INTC), IBM (NYSE: IBM), and 3M (NYSE: MMM) have in common? And, no, they aren't teaming up for an adhesive microchip (though that would be sort of cool, I guess).

Give up? Well, all three companies reported quarterly earnings over the pastfewdays. All three companies met or exceeded their profit projections. All three stocks got hammered because the companies failed to live up to their revenue targets.

Here is where I think the market misses the big picture. What is the implication behind a company nailing its bottom-line expectations while falling short on the top? Yes, it means that the company produced net margins that were better than Wall Street was banking on. So why isn't that rewarded?

Wal-Mart (NYSE: WMT) and Microsoft (Nasdaq: MSFT) are quality blue chippers. Yet Mr. Softy is afforded a price-to-sales multiple that is roughly 10 times greater than Sam Walton's retailing chain, in part because Microsoft's net margins are also nearly 10 times greater.

Profit margins matter. It's why we can get more excited about a company with rich margins when it grows sales -- we know that much more of the incremental dollar will work its way down to the bottom line unscathed.

Naturally, companies can manipulate sales and earnings to some extent. IBM can work an innocent smile, but we know how the company can get its hands dirty when it wants to. But if we take a look at the performance of all three companies in sum, which makes it easier to laugh off any conspiracies, you see outfits that are milking that revenue dollar even more efficiently. As the top line continues to improve -- and it should -- it will mean even richer rewards on the earnings front.

That's what ultimately matters. Well, that and that cool adhesive chip.

What do you think of Intel, 3M, and IBM all producing wider net margins than anticipated? They aren't alone. Is this the trend that will eventually move the market higher? All this and more in the Intel discussion board. Only on Fool.com.

Longtime Fool contributor Rick Munarriz prefers margins over butter on his toast. He does not own shares in any of the companies mentioned in this story.