In Rule #1, The Simple Strategy for Successful Investing in Only 15 Minutes a Week!, Phil Town lists the "Four Ms" to finding a great business to invest in:
- Meaning – Does the business reflect your values?
- Moat – Does it have a wide moat; can the business protect itself from attacks by competitors?
- Management – Is it well managed and financially strong?
- Margin of Safety – Can you “buy a dollar of value for fifty cents”?
I want to dig a bit deeper into the second one -- Moat -- and share Phil's thoughts and my comments. Let's start by describing what a "Moat" is.
Just like a moat used to protect a castle in days of old, a Moat to a business is something that protects that business from competition -- a sustainable competitive advantage. Phil says:
The idea of the Moat is really simple. If an industry looks as if it might be very easy to get into, there probably isn't a Moat. On the other hand, if it looks as though it might be really hard to get into and be successful, you'll probably find there are some wide-Moat businesses.
A couple pages later, Phil notes:
That's the purpose of the Moat around the castle: protection from inflation and competition.
In other words, a company that has a Moat has some sort of advantage it can exploit to make money and keep competitors away.
Phil then lists five types of Moats, descriptions of them, and examples. They are:
- Brand -- a product you're willing to pay more for because you trust it. Examples: Coke, Gillette, Disney, Nike.
- Secret -- a business that has a patent or trade secret that makes direct competition illegal or very difficult. Examples: Pfizer, 3M, Intel.
- Toll -- a business with exclusive control of a market -- giving it the ability to collect a "toll" from anyone needing that product or service. Examples: Media companies, utilities, ad agencies.
- Switching -- a business that's so much a part of your life that switching isn't worth the trouble. Examples: ADP, Paychex, Microsoft, H&R Block.
- Price -- a business that can price products so low that no one can compete. Examples: Wal-Mart, Costco, Home Depot.
Obviously, this makes sense and it's one of the parts of the book I like a lot. If a company has some sort of advantage that 1) keeps others from competing and 2) protects itself from inflation and other business dangers, it's likely that it will be making lots of money for a long, long time. Couple this with Phil's other criteria, and you have a winner.
Now, if I could only find several of these in 15 minutes a week. ;-)
This series sponsored by Gannon on Investing, the value investing blog and podcast.
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