9 Examples of a Competitive Advantage (#9 is One of Buffett’s Favorite Type to Look For!)
Finding a company with a competitive advantage means finding an investment that will offer solid returns for decades to come. What identifies a company with a strong competitive advantage? Some results may surprise you.
“…managers and investors alike must understand that accounting numbers are the beginning, not the end, of business valuation.”
There is so much more to finding a good investment than finding a specific ratio on a company’s balance sheet. As Buffett says, evaluating a company’s financial statement should be the beginning of your research, not the end.
Buffett has made his billions by identifying companies with strong competitive advantages, and buying and holding those companies for decades (Or as he says, preferably forever).
A strong competitive advantage means that a company will continue to make profits year in and year out, no matter the economic or political environment. It maximizes shareholder wealth by harnessing the power of compounding interest in its accumulated earnings.
But, a strong competitive advantage is not identified just by looking for a certain Price to Book (P/B) or Price to Earnings (P/E) ratio. Instead, it means understanding how the business operates and how the company’s financial statements identify advantages the company has its in field.
For example, consider Coca-Cola’s current ratio. Historically, it has been under 1. Any basic stock screen that excludes companies with current ratios of less than 1 (which is a quick test to see which companies can afford to pay their bills over the next 12 months, read more on current ratio here), would have excluded Coca-Cola from the results.
How can it be possible that one of America’s strongest companies looks like it won’t be able to afford to pay its bills by a simple ratio like the current ratio? It turns out, this may in fact be a sign of a significant competitive advantage for a select set of companies!
A low current ratio is #4 below, here are the rest:
Read of the Year: Buffett and Munger Come Together for Berkshire’s 50th Anniversary Shareholder Letter
The release of Warren Buffett’s annual letter to shareholders is always a special occasion, but this year’s is extra special. 2015 marks the 50th year that Warren Buffett has owned Berkshire Hathaway, and in celebration Buffett and his vice chairman, Charlie Munger got together to make sure this year’s letter was stuffed with nuggets for investors. So without wasting any more time, here is the best investing advice you will ever get: [continue reading…]
Throwback Thursday: A look at Buffett’s 1988 investment in Coca-Cola
Buffett began purchasing Coca-Cola (Ticker: KO) shares in 1988. Today, Buffett has over $13 billion in gains from his investments in Coca-Cola alone.
With hindsight, it is always easy to say Buffett’s investment in Coca-Cola was anything short of genius, but at the time Coca-Cola was facing concerns over maintaining market share and its ability to grow.
However, Buffett recognized that Coca-Cola had a strong brand name, very consistent history of earnings, shareholder return and low debt. It has been a wild 26 year ride for Buffett, but the returns have been staggering!
At the time of Buffett’s initial purchase of Coca-Cola shares, its market cap was about $18.5 billion. Coca-Cola then had Revenues of $8.3 billion, a cash pile of $1.2 billion, a net income of about $1 billion and about $4.4 billion in retained earnings.
Buffett purchased about $1.3 billion in Coca-Cola initially, or about 7% of the company. Today his total Coca-Cola stake is worth over $15 billion, and pays him about $490 million in dividends each year! Incredible returns off of a $1.3 billion initial investment!
But its always easy to quickly glance over the last 26 years. The truth is that it took some major cahones to hold anything over the last 26 years.
Would you have been able to overlook the short term negative outlook for Coca-Cola in 1988?
Would you have had the confidence to hold through a 50%+ drop from its 1998 highs to 2004 lows? Or weather the 2008 decline?
Here are some of the numbers from their late 70’s and 80’s annual reports: [continue reading…]
Evaluating Stocks with a Competitive Advantage – Warren Buffett’s Concept of an “Equity/Bond”
When a company’s earnings are so solid and so predictable, investors are able to think of their stock like a variable fixed income security, like a bond with flexible rates. Here is how investors like Buffett evaluate these special companies. [continue reading…]
10 Questions to Ask Before You Buy Your Next Stock
How do you determine whether a stock is a worthy long term investment? Here are a few questions to ask yourself before you make that next purchase. [continue reading…]
