Common criteria when Buffett pick up stocks

Table of Contents

2007 shareholder letter

In his 2007 shareholder letter, Buffett proposed the criteria for his favorite listed companies.

Basic common criteria

Charlie and I look for companies that have:

a) a business we understand;
b) favorable long-term economics;
c) able and trustworthy management; and
d) a sensible price tag.

We like to buy the whole business or, if management is our partner, at least 80%. When control-type purchases of quality aren’t available, though, we are also happy to simply buy small portions of great businesses by way of stockmarket purchases. It’s better to have a part interest in the Hope Diamond than to own all of a rhinestone.

Moat

A truly great business must have an enduring “moat” that protects excellent returns on invested capital. The dynamics of capitalism guarantee that competitors will repeatedly assault any business “castle” that is earning high returns. Therefore a formidable barrier such as a company’s being the lowcost producer (GEICO, Costco) or possessing a powerful world-wide brand (Coca-Cola, Gillette, American Express) is essential for sustained success. Business history is filled with “Roman Candles,” companies whose moats proved illusory and were soon crossed.

Enduring

Our criterion of “enduring” causes us to rule out companies in industries prone to rapid and continuous change. Though capitalism’s “creative destruction” is highly beneficial for society, it precludes investment certainty. A moat that must be continuously rebuilt will eventually be no moat at all.

No superstar manager

Additionally, this criterion eliminates the business whose success depends on having a great manager.

But if a business requires a superstar to produce great results, the business itself cannot be deemed great.

In short

Long-term competitive advantage in a stable industry is what we seek in a business. If that comes with rapid organic growth, great. But even without organic growth, such a business is rewarding.

2003 shareholder letter

Common creteria

In Buffett’s 2003 shareholder letter (below content in italics in this article is from his 2003 shareholder letter), he put forward his views on the governance of listed companies.

Common creteria for buying stocks

The shortage of attractively-priced stocks in which we can put large sums doesn’t bother us, providing we can find companies to purchase that:

(1) have favorable and enduring economic characteristics;
(2) are run by talented and honest managers and
(3) are available at a sensible price.

We have purchased a number of such businesses in recent years, though not enough to fully employ the gusher of cash that has come our way. In buying businesses, I’ve made some terrible mistakes, both of commission and omission. Overall, however, our acquisitions have led to decent gains in per-share earnings.

Similar to his M&A criteria

Careful readers should not be difficult to see that these three points are actually quite similar to his merger and acquisition criteria. Regarding the M&A criteria he has emphasized many times, readers are referred to my other blog article for detailed explanation: “Buffett’s Acquisition Criteria“.

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