What do Morningstar moat changes suggest about investing and business in 2025?

At Morningstar, we believe that companies with economic moats are more valuable than those without a moat. By a moat, we mean a sustainable advantage that allows the company to earn attractive returns on capital. That makes a company great.

We feel that seeking to invest in great companies at reasonable prices is a sensible way to grow your wealth over the long-term. But like anything in life, moats are not static. Some grow wider and more beneficial to the company over time. Others degrade or fall away completely.

For this reason, our analysts regularly monitor the health and direction of the moats on their coverage list. A Narrow Moat rating means that our analyst thinks the company’s advantages will sustain for at least a decade, while the bar raises to 20 years for a Wide Moat rating.

We take changes to moat ratings – be it an initiation, removal, narrowing or widening – seriously. So seriously that any changes must go past a Moat Committee. A group of senior analysts that explore, challenge and ultimately accept or reject any proposed changes to a Moat Rating.

Allen Good, The Chair of Morningstar’s Moat Committee and Director of Equity Research recently worked with fellow analyst Andrea Burigana to publish a review of moat rating changes made during 2024 and over the past five years. Their findings hinted at some interesting shifts at the sector and industry level.

Technology and industrials lead the way

634 companies had their moat reviewed during 2024. While many of these were carried out in line with our policy to review every moat at least every five years, some (for good reasons or bad) required an earlier check-up. Of these 634 reviews, 58 resulted in a moat upgrade and 47 resulted in a downgrade.

Figure 1: Morningstar moat rating changes in 2024. Source: Morningstar.

Two industries stood out for upgrades in 2024: technology had 14 of them (including 12 to a Wide Moat rating) and industrials had 12 (including eight newly minted Wide Moat companies). As you can see in the chart below, this theme also shows up when you look over the past five years.

Figure 2: Moat rating upgrades per sector in 2024. Source: Morningstar

So what about the technology and industrials sectors is so conducive to strong and, in many cases, strengthening competitive advantages?

For technology, Good and Burigana noted a skew in upgrades towards the semiconductor industry, where more complex products and manufacturing processes are “erecting more significant barriers to entry and strengthening the position of existing players”.

In most cases, this position is underpinned by intangible assets and switching costs. The latter arise from these companies, which include NXP Semiconductors (NAS: NXPI), Cadence Design Systems (NAS: CDNS) and Tokyo Electron (TSE: 8035), becoming deeply entrenched in the products and manufacturing processes of their clients.

In industrials, companies providing specialised and mission-critical products led the way. While the products themselves vary wildly, Good and Burigana noted twelve qualities they seem to share. These included high levels of customisation, a high cost of failure, and evolving but not revolutionary tech. The latter can insulate incumbents from disruption, especially if they have formidable R&D operations.

These qualities often mean that intangible assets – such as know-how, patents, brands and a reputation for quality – play an important role in winning business and make it hard for new entrants to muscle in on the niche.

The deeply integrated nature of these products and a high cost of failure or downtime to the customer are just two of many potential switching costs once the business is won. In many cases, this can give the company pricing power and lead to attractive returns on capital. You can read more about where to find companies with pricing power here.

Industrials companies upgraded to a Wide Moat by our analysts in 2024 included aircraft engine manufacturer GE Aerospace (NYS: GE), fighter jet manufacturer Dassault Aviation (PAR: AM) and Ametek (NYS: AME), which sells electronic instruments, monitoring systems and precision components.

Asset managers and old school media firms suffer

On the other side of the coin, companies in the financial services and communication services sectors were handed the most moat downgrades in 2024.

Figure 3: Moat downgrades per sector in 2024. Source: Morningstar

Looking one level deeper, two industries in particular stand out: asset managers and media companies.

For asset managers, Good and Burigana point to weakening intangible assets and distribution power - displayed in many cases by lower customer retention rates - and an inability to fend off fee pressure amid competition from low-cost passive strategies.

Notable downgrades in the sector include the demotion of T.Rowe Price (NAS: TROW) to a Narrow Moat, as well as the removal of moats from Invesco (NYS: IVZ) and Janus Henderson (NYS: JHG). That doesn’t mean that every asset manager is struggling competitively, though. The authors point to BlackRock (NYS: BLK) as a Wide Moat example of a company continuing to benefit from a differentiated offer to clients and strong iShares and Blackrock brands.

Turning to media, it is probably fair to say that few industries have faced as much disruption in recent years. Traditional players Paramount (NAS: PARA), Warner Bros Discovery (NAS: WBD), AMC Networks (NYS: AMC) and Fox (NAS: FOXA) all saw their moats removed during 2024 as incumbents continued to struggle with the rise of streaming.

“Many of these companies have launched streaming platforms” Good and Burigana say, “but streaming doesn’t appear to be as profitable as traditional linear television. They also point to intense competition in streaming from big tech companies that 1) don’t have a legacy media business to worry about and 2) might not even need their streaming operations to be profitable right away.

Neither passive investing’s impact on active managers or the disruption of traditional TV by streaming are especially new. As a result, it is no surprise that financial services and communication services also feature heavily in a five-year view of moat downgrades by sector.

Figure 4: Moat downgrades by sector in last five years. Source: Morningstar

Opportunity knocks?

Good and Burigana highlight that widespread gloom about the prospects for asset managers and some media companies may have led to share prices falling too far.

Of the downgraded asset managers, Narrow Moat T.Rowe Price Group traded at the largest discount to Fair Value and commanded a four-star rating. Comcast (NAS: CMCSA), which was downgraded from Wide to Narrow Moat, traded at a similar 25% discount to Fair Value and also boasted a four-star rating.

Several companies that received moat upgrades during the year also screen as undervalued according to our analysts. Of the industries we have discussed today, these include pump and valve company Nordson (NAS: NDSN) and semiconductor manufacturer NXP Semiconductors.

Moat changes in Australia

There was also a fair bit of moat movement in Australia. Our analysts awarded Narrow Moat ratings to five newly covered companies in 2024: Audinate (ASX: AD8), SiteMinder (ASX:SDR), Johns Lyng Group (ASX: JLG), Pilbara Minerals (ASX: PLS) and IGO (ASX: IGO). A high-profile absence for many here was Guzman y Gomez (ASX:GYG), which we are yet to award a moat.

Four companies saw their moats upgraded from a No Moat rating to a Narrow Moat: testing business ALS (ASX: ALQ), Seven Group Holdings (ASX: SGH), Super Retail Group (ASX:SUL) and Reliance Worldwide (ASX: RWC). The latter owns SharkBite, the dominant brand of push-to-connect plumbing components.

On the other side of the coin, five companies saw their previous Narrow Moat ratings downgraded to No Moat ratings: Dexus (ASX:DXS), Aurizon (ASX:AZJ), TPG Telecom (ASX: TPG), AGL Energy (ASX: AGL) and BWP Trust (ASX: BWP). You can learn more about different sources of moat and how to find moated companies in this article by Mark LaMonica.

Of course, a company’s competitive position and moat is just one of many things you might weigh up in a potential investment. First of all, you should consider if the company is suitable for your overarching strategy. Go here for a five-step guide to defining yours.

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