Learn to invest with Buffett

Chapter 35

Chapter 5 Section 7 Operating Expenses: Buffett's Concerns
If you haven't been there, you can't imagine that there is a jewelry store with a very large sales volume like Boshan, where you can see a variety of types at various prices, and its operating expenses are about the same 1/3 of type jewelry store.Strict control of expenses, coupled with excellent procurement capabilities, makes the jewelry it sells much cheaper than other jewelry stores, and cheap prices can always attract more customers. , with a daily flow of up to 4000 people.

--Warren Buffett
Buffett believes that companies will incur operating expenses in the process of operation.The amount of operating expenses directly affects the long-term operating performance of the enterprise.

Operating expenses refer to the various expenses incurred by the enterprise in the process of selling commodities and the operating expenses of sales agencies (including sales outlets, after-sales service outlets, etc.) specially set up for the sale of the enterprise's commodities.The purchase expenses incurred by the commodity circulation enterprise in the process of purchasing commodities are also included in the operating expenses.

Operating expenses generally include the following five aspects:

1. Product self-sale expenses: including packaging fees, transportation fees, loading and unloading fees, and insurance fees that should be borne by the enterprise;

2. Product promotion expenses: promotional expenses incurred in order to expand the sales of the company's products: exhibition fees, advertising fees, operating lease fees (costs for leased counters, equipment, etc. for expanding sales, excluding financing lease fees), sales Service fees (fees for providing after-sales service, etc.);
3. Expenses of the sales department: generally refers to the operating expenses of the sales organization (including sales outlets, after-sales service outlets, etc.) specially set up for the sale of the company's products, employee wages and welfare fees, expenses similar to wages, business expenses, etc.However, the internal sales department of the enterprise belongs to the administrative management department, and the expenses incurred are not included in the business expenses, but included in the management expenses;

4. Consignment sales fee: mainly refers to the consignment commission fee paid by the enterprise entrusting other units to sell according to the provisions of the consignment contract;
5. Purchase expenses of commodity circulation enterprises: refer to the transportation expenses, loading and unloading fees, packaging fees, insurance premiums, reasonable loss during transportation, and selection and sorting fees before warehousing incurred by commodity circulation enterprises during the purchase process.

If the operating expenses are too high, it will greatly affect the overall efficiency of the enterprise.For example, in 2005, the main business income of Jiangzhong Pharmaceutical was 9.8 million yuan, the gross profit was 6.3 million yuan, and the gross profit rate was as high as 64.58%.It stands to reason that such a gross profit rate is quite high, and the overall benefit of the enterprise should be very good.However, due to a large amount of money invested in TV advertisements and channel construction, the operating expenses of Jiangzhong Pharmaceutical Industry are as high as 4.1 million, accounting for 65% of the gross profit.Once the sales performance declines, Jiangzhong Pharmaceutical may not be able to afford such high operating expenses, and there will be a funding gap.From this point of view, the future development prospect of Jiangzhong Pharmaceutical is likely to be subject to the risk of high operating expenses.

Companies with low operating expenses will get better operating performance.The Poshan Jewelry Company invested by Buffett is an example.Boshan jewelry company has a complete range of jewelry and a large number of jewelry, but its operating expenses are only 1/4 of other jewelry stores in the same industry.Due to its low operating expenses, Poshan Jewelry Company can pass on the saved cost to customers, making Poshan Jewelry much cheaper than other peers, which greatly attracts the attention of customers.

Buffett believes that the company's selling and general management expenses should be as low as possible.Especially in times of declining profits, such expenses need to be well controlled, otherwise the company may be in danger of going out of business or bankruptcy.In the past five years, Ford's annual expenses on sales and general management accounted for between 5% and 89% of the current gross profit. What a huge proportion!Although Ford's profit declined in the current period, and the decrease in gross profit is also one of the reasons, but the fact that such a high expense ratio can be maintained in the case of reduced sales fully shows that Ford's management organization and sales methods are not reasonable.If Ford went on like this without trying to reduce these expenses, the company's profits would slowly be eaten away, and Ford would continue to lose money until it went bankrupt or closed.

When Buffett is looking for companies to invest in, he always picks companies with relatively low selling and general management expenses.In Buffett's view, if a company can control the proportion of sales expenses and general management expenses below 30%, then it is a company worth investing in.For example, Buffett's acquisitions of Boshan Jewelry Company and Nebraska Furniture Store are companies with very low selling expenses and general and administrative expenses.But such companies are a minority after all, and the proportion of many companies with continuous competitive excellence is also between 30% and 80%.In addition, if a company's proportion of such expenses exceeds 80%, investors can hardly consider investing in this business.If the average proportion of such expenses in a certain industry exceeds 80%, then investors can almost give up this industry.Indeed, some industries are like this, such as the aviation industry.

Investment motto:

Selling expenses and general and administrative expenses are not to be taken lightly in the running of a company.Investors should definitely stay away from companies that always have high selling and general expenses and try to find companies with low selling and general expenses.Generally speaking, the lower the percentage of such expenses, the higher the return on investment for the company.

(End of this chapter)