Learn to invest with Buffett

Chapter 39

Chapter 6, Section 3, Stock Picking Skill [-]: Choose a company with huge profits and stable financials
Companies with high profits, low costs, and excellent quality often have strong profitability, and investors can also earn huge profits.

--Warren Buffett
Buffett is interested in companies that are highly profitable and financially sound.In his view, the following two types of companies have strong profitability, and investors can also win huge profits.

1. Consumption Monopoly Company

Buffett divides many companies in the market into the following two categories:
(1) Product company

Buffett believes that such companies should be avoided as much as possible when investing.The so-called product companies are those companies whose products are difficult for consumers to distinguish from competitors.Decades ago, these companies included products from silver, copper, oil, and more.Now, even computers, banks, civil aviation, insurance products, etc., have become product companies.The characteristic of these companies is that each competitor must compete in terms of price in order to win customers.Buffett believes that these companies usually try their best to advertise in order to attract customers, hoping to establish a different image from other competitors in the minds of customers, but the expected results are often not satisfactory.When product companies are optimistic about the market, their income is not much. Once the economy is in a downturn, everyone will compete with each other to fight price wars, leading to the crisis of losing money. This is a type of company that investors should try to avoid.

(2) Consumption Monopoly Company
Buffett believes that investors should be looking for such companies.The so-called companies with the advantage of consumer monopoly are those companies that have established a distinctive image in the minds of consumers.

In Buffett's view, consumer monopoly companies have profit potential and development prospects compared with companies engaged in ordinary businesses.Even in the case of economic downturn, such enterprises will have a consumption monopoly because of the business they engage in, and will not have a great impact on their profitability.So these companies have fat and rising profits.

2. Companies with no long-term debt

When Buffett chooses and examines companies, he likes companies with sound financials.Typically such companies do not have large long-term debt loads.

If there is an exception, a good consumer monopoly enterprise wants to borrow heavily in foreign countries to gain control over other enterprises, the investor must ensure that the company to be purchased also has a consumer monopoly.Be careful buying companies that don't have a consumer monopoly.When long-term debt is used to buy other companies, it is important to be aware of the following:
(1) When two companies with consumer monopoly combine, since both have consumer monopoly, this will generate huge cash flow and excess profits, so that the long-term debt borrowed can be paid off very quickly.

(2) When a firm with a consumer monopoly is combined with another firm of a general commodity type, the results are often less than desirable.This is because commodity-type businesses eat away at the profits generated by consumer monopolies in order to improve their own poor economic conditions, and thus do not have enough funds to repay the long-term debts they have borrowed.There are exceptions, however, when the manager of a commodity business uses the company's cash flow to buy another business with a consumer monopoly and then, after completing the combination, abandons the commodity business in dire need of additional cash.

(3) When two commodity-type firms combine, it is a disaster because neither firm is able to make enough profit to repay the loan.

Investment motto:

Before you invest in a company, ask yourself: "If I invest a sum of money, hire the best managers, and would rather lose money than compete with this company, can I capture its market?" If the answer is No, then this is a very good company.

(End of this chapter)