Monday, November 3, 2008

The Warren Buffett Way: Chp 4 Part 1: Buying a Business

According to Buffett, there is no fundamental difference between buying a business outright or buying shares of a company in the public market. Buffett follows the same investment selection process regardless if he is going to buy a business or buy shares in a business.

With regards to investing, Buffett has said that he acts like a business analyst not a market analyst or a security analyst. He investigates thoroughly all the aspects of a business and of the management team before making a purchase. There are three main areas that Buffett focuses on when learning about a business:

1) Is the business simple and understandable?
2) Does the business have a consistent operating history?
3) Does the business have favorable long-term prospects?

According to Buffet, sticking with businesses that are simple and understandable allows one to achieve a higher level of knowledge regarding the business. Buffett believes that an investor's investing success stems from the level of business understanding that is achieved prior to making an investment.
Buffett avoids purchasing companies that are trying to solve difficult problems or that have fundamentally changed their business model. He believes that corporate turnarounds are very difficult to achieve and so he sticks with businesses that have been producing the same product or service for several years and have a consistently good operating history.

According to Buffett, a franchise is a company that has a product or service that is 1) needed, 2) has no close substitutes and 3) is not regulated. It is these characteristics of a franchise business that allows it to raise prices and earn high rates on invested capital. The other advantage of a franchise is that it can usually survive management mistakes, whereas with a commodity type business the importance of excellent management is imperative to its survival. Franchise businesses can have impressive economic strength and often posess favorable long-term prospects.

1 comment:

Puja Singh said...

Nice information.......
there is no fundamental difference between buying a business outright or buying shares of a company in the public market. Buffett follows the same investment selection process regardless if he is going to buy a business or buy shares in a business.
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