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Warren Buffett attracts a lot of attention. As the world's third-richest person and most celebrated investor, thousands try to glean what they can from his thinking processes and track his investments.
While we can't know for sure whether Buffett is about to buy Dupont (NYSE: DD ) -- he hasn't specifically mentioned anything about it to me -- he's left us some clues as to whether it's the sort of stock that might interest him. Answering that question could also inform whether it's a stock that should interest us.
In his 10-K filings, Buffett lays out the qualities he looks for in an investment. In addition to adequate size and a reasonable valuation, he demands:
- Consistent earnings power.
- Good returns on equity with limited or no debt.
- Management in place.
- Simple, non-techno mumbo jumbo businesses.
Does Dupont meet Buffett's standards?
1. Earnings power
Buffett is famous for betting on a sure thing. For that reason, he likes to see companies with demonstrated earnings stability.
Let's examine Dupont's earnings and free cash flow history:
Source: Capital IQ, a division of Standard & Poor's. Free cash flow is adjusted based on author's calculations.
Profitability took a hit in 2007 and 2008 because of the recession, but it has bounced back.
2. Return on equity and debt
Return on equity is a great metric for measuring both management's effectiveness and the strength of a company's competitive advantage or disadvantage -- a classic Buffett consideration. When considering return on equity, it's important to make sure a company doesn't have an enormous debt burden, because that will skew your calculations and make the company look much more efficient than it actually is.
Since competitive strength is a comparison between peers, and various industries have different levels of profitability and require different levels of debt, it helps to put them in context:
Return on Equity (LTM)
Return on Equity (5-Year Average)
|Dow Chemical (NYSE: DOW )||105%||11%||11%|
|Eastman Chemical (NYSE: EMN )||99%||27%||19%|
|Huntsman (NYSE: HUN )||224%||0%||11%|
Source: Capital IQ, a division of Standard & Poor's.
Dupont generates high returns on equity. A significant debt load helps with that, though that debt is in-line with industry norms.
CEO Ellen Kullman has only been at the job since 2008, though she's served in other roles with the company for over three decades.
The diversified chemicals business requires research, but it's also not particularly susceptible to technological disruption.
The Foolish conclusion
Whether or not Buffett would ever invest in Dupont, we've learned that, it exhibits some of the characteristics of a quintessential Buffett investment: fairly consistent earnings and high returns on equity. Kullman has a great deal of experience within the company, though it's possible Buffett might prefer to see how things go for a few more years in her new role as CEO.
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