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 PotashCorp
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 PotashCorp 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 PotashCorp's earnings and free cash flow:
Source: Capital IQ, a division of Standard & Poor's. Free cash flow is adjusted based on author's calculations.
PotashCorp generates more-or-less consistent earnings and free cash flow.
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) |
|---|---|---|---|
|
Potash |
61% |
34% |
32% |
|
CF Industries |
30% |
25% |
31% |
|
Mosaic |
7% |
25% |
23% |
|
Agrium |
43% |
20% |
16% |
Source: Capital IQ, a division of Standard & Poor's.
PotashCorp tends to generate high returns on equity with moderate debt.
3. Management
CEO Bill Doyle has been at the job since 1999. Before that he served in other roles at the company for a number of years.
4. Business
Potash mining has long lead times, which serves as a barrier to entry, but fertilizer isn't particularly prone to technical disruption -- we're not talking astro-bionanorobotics here.
The Foolish conclusion
Regardless of whether Buffett would ever buy PotashCorp, we've learned that it exhibits many of the characteristics of a quintessential Buffett investment: more-or-less consistent earnings, high returns on equity with moderate amounts of debt, tenured management, and a straightforward industry.
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