As the world's third-richest person and most celebrated investor, Warren Buffett attracts a lot of attention. Thousands try to glean what they can from his thinking processes and track his investments.
We can't know for sure whether Buffett is about to buy Oracle (Nasdaq: ORCL ) -- he hasn't specifically mentioned anything about it to me -- but we can discover whether it's the sort of stock that might interest him. Answering that question could also reveal whether it's a stock that should interest us. In this series, we do just that.
Writing 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 Oracle 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 Oracle's earnings and free cash flow history:
Source: S&P Capital IQ.
Oracle's earnings have grown quite steadily over the past five years.
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 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.
Return on Equity
5-Year Average Return on Equity
|VMware (NYSE: VMW )
|salesforce.com (NYSE: CRM
|IBM (NYSE: IBM )
Source: S&P Capital IQ.
Oracle generates a significant return on equity while employing a modest amount of debt.
CEO Larry Ellison has been CEO since he co-founded the company in 1977.
Buffett did recently buy shares of tech-powerhouse IBM, but databases and applications software are somewhat susceptible to technological disruption.
The Foolish conclusion
So is Oracle a Buffett stock? Possibly, but only if Buffett were able to convince himself that the company's competitive advantage provides adequate protection from potential technological changes. Oracle does exhibit several of the other characteristics of a quintessential Buffett investment: consistent or growing earnings, high returns on equity with limited debt, and tenured management. To stay up to speed on Oracle's progress, simply add it to your stock watchlist. If you don't have one yet, you can create a watchlist of your favorite stocks.