Two parts to your post; 1. determining whether a company has a moat and 2. identifying the type of moat.

1. I’d be wary of relying on for example “Morningstar’s moat assessment”. Established moat companies have a premium stock market valuation due to such widely accepted dogma as “this company has a moat”. Investing in say 10 wide moat companies as defined by Morningstar might produce a small gain over the market.

But to significantly outperform the market, that leaves us with picking companies:

a. hit by short term bad news but with known moats still intact or

b. have unknown moats that we identify before the market does (e.g. small caps, short term high RoE but with high probability to continue this for a decade ).

2. To perform either a. or b. requires identifying the moat. You list the sources of the most enduring moats, but to identify those sources yourself requires a little studying. I’d recommend starting off with Pat Dorsey’s little yellow book and Bruce Greenwald’s Value investing book’s section on why Earnings Power can rise above Asset value to connect the moat with company valuation.

But what is the good of identifying the source of the moat if you don’t know it’s dynamics (declining/ increasing and duration)? Since buying a high valuation company with a known, but long-term declining, moat will simply strip money from your portfolio. To know the dynamics of a moat requires studying the moats themselves AND how they relate to your ‘circle of competence’ industries.

(The more you study moats, the more they become termed “competitive advantages” and the further you go into business strategy- strategy’s sole function is to create a moat).

To further study moats beyond Pat Dorsey’s book, I’d recommend reading some of the articles at CAPatcolumbia.com (esp. “All Strategy is Local” and the RoIC article). Next Michael Porter’s “Competitive Advantage” and Besanko’s “Economics of Strategy”.

Also Charlie Munger’s mental models (in his Almanac) that introduce you to moats relating to ecoysystems and small world networks and customer’s cognitive biases.

Finally (perhaps), your study of moats could enter the busines strategy discipline. To save sanity and keep strategy’s relevance to investment returns, I’d stick with resource-based strategy theory and stuff connecting strategy with shareholder returns (e.g. Alfred Rappaport’s writings). Mintzberg and Ohmae and other strategy writers are very whimsical from an investor’s perspective.

Moats can rapidly become worthless. Some intangible assets like patents in certain industries are easily overcome. Some switching costs like media companies supplying TV and telephone are useless if rivals start paying customers to switch. Network effects are very enduring but very rare. Lowest cost is great until the high fixed cost part of your business structure (creating the economies) leaves you rigidly stuck in serving that one type of customer/ creating that one type of product, and diseconomies take hold.

If the above sounds like too much work at just 3 months reading, well we’re only going to find $1 selling for 50cents (30% average annual returns) by thinking differently to others, not through following pre-fomulated Morningstar numbers. And Ben Graham said investing is most intelligent when most business like. So, studying competitive advantages (Buffett’s moats) will take you far away from the chattering and garbage of the investing world.

I just wanted to ask you if depending upon morningstar for numbers is a good idea.I don’t read sec filings and letter to shareholders.similarly, I know we can know if a company has a moat or not by looking at ROA ROE CROIC but I wanted to know what kind of moat it is.intangible asset, switching cost, network effect and low cost are moats but how can we identify it.

Suggestions plz….

Billy Basu: That’s why I’m pushing for a new term – Business Investing. Of course, there’s no formal investment terminology authority, but there’s still plenty of U.S. bailout money available. Perhaps a market language regulator?

Karl: The strategy works fine up to, in my opinion, $1 billion or so. Above $1 billion, Workouts become scares. Above $10 billion, you can basically forget about Workouts. If F Wall Street takes you from $x up to $1 billion, let me know and I’ll write F Wall Street 2: Joe Ponzio’s No-Nonsense Approach to Rewarding the Author That Helped You Become a Billionaire ☺.

If all businesses (and portfolios) are simply RoIC machines that you try to shovel as much capital/ reinvestment into as possible whilst maintaining high RoIC, then Joe’s portfolio could take in $100 million, surely?

To put this into perspective, my own investments are in such small caps that £7m is about the ‘headroom’ limit before reaching an unwieldy >2% stake in each. Good RoIC but very limited reinvestment capacity.

Hats off, Joe.

With regards to China,I do not believe that in this century that funds will offer the best returns for the least risk if they do not invest globally since the US economy is unlikely to generate the levels of economic growth that led to such handsome stockmarket returns from 1960 to 1999.

Certainly,my portfolio performance would have been diminished without the returns generated from Asian equities.I am also amazed that the US investment community is so underexposed to Standard Chartered Bank simply because it is not listed in the US but is now Britain’s second largest bank by market value due to nearly all of its business being in Asia and the Middle East.It is my Wells Fargo.

Read your book. Without a doubt, one of the best and useful books I ever read. Most of the other books beat around the bush and does not provide any specifics. Thank You!!

Will you be able to share the numbers/workout excel sheets you used while making the investment in NutriSystems? I think it will help to look at a real life example where you made an investment and compare with the calculations I/others have done.

Thanks,

George.

I know very little about US taxes (as this question reveals), but is there a way or some sort of account or fund I can set up, so that I can reinvest dividends without getting taxed on them?

I am 22 years old. If I can put $5000 in a company that pays a 5% dividend, I receive 250 dollars per year, of which I would have to pay 30% to the gov’t, or $75 in taxes. If I plan to invest it for the next 43 years (until I’m 65), and I could potentially return 10-15% per year in my investment portfolio, it could be the difference between an additional 10,000-30,000 down the line.

As of now, I have a bias towards non-dividend paying stocks, but I do like the idea of physically getting money back from the companies I own, so I would like to invest more in dividend-paying companies. If anyone knows of any way to deal with this issue, please respond…

thanks!

MikeR: It’s so true. Sad…but true.