As the world's third-richest person and most celebrated investor, Warren Buffett attracts a lot of attention. Thousands track his investments and try to glean what they can from his thinking processes.
While we can't know for sure whether Buffett is about to buy WebMD (Nasdaq: WBMD ) -- he hasn't specifically mentioned anything about it to me -- we can discover 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 most recent 10-K, Buffett lays out the qualities he looks for in an investment. In addition to adequate size, proven management, 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 WebMD 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 WebMD'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.
Over the past five years, WebMD’s earnings and free cash flow have declined pretty significantly.
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 use an industry context.
|
Company
|
Debt-to-Equity
|
Return on Equity (LTM)
|
Return on Equity (5-year average)
|
| WebMD Health |
114% |
11% |
27% |
| Quality Systems (Nasdaq: QSII ) |
0% |
31% |
34% |
| Bankrate (Nasdaq: RATE ) |
25% |
0% |
2% |
| Ancestry.com (Nasdaq: ACOM ) |
0% |
15% |
4% |
Source: Capital IQ, a division of Standard & Poor's.
WebMD tends to generate a moderate to moderately high return on equity while employing a fairly high amount of debt compared to fellow Web-based information companies.
3. Management
CEO Wayne Gattinella has been at the job since 2005 and has been WebMD's president since 2001. Prior to that, he’s worked in marketing for MemberWorks, Merck-Medco, and MCI.
4. Business
Web information portals aren’t particularly susceptible to technological disruption, but the medium is fairly new, and sustained market leadership isn’t always a sure thing.
The Foolish conclusion
Regardless of whether Buffett would ever buy WebMD, we've learned that while the company has tenured management, it doesn’t particularly exhibit some of the other characteristics of a quintessential Buffett investment: consistent earnings, high returns on equity with limited debt, and a straightforward industry.
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