Warren Buffett's Secrets for Seeking a Great Company

Undoubtedly, Warren Buffett is one of the greatest investors of all time. It's impossible to argue with the returns of his Berkshire Hathaway -- a 19.8% average annual increase in book value that spans back to the LBJ administration. During this time, the S&P 500 averaged less than half that average annual return.

Buffett exemplifies a disciplined investing approach from which we can all take notes. Let's see what the Oracle of Omaha craves when combing through the stock universe, and how his top holdings fit these criteria.

Top stock holdings
Over the past several years, Buffett has invested substantially in the following companies. Berkshire Hathaway owns anywhere from 4.5% to 13% of the companies listed below.

Company

Share Price

Total Cash per Share

Long-Term Debt to Equity vs. Industry Average

ROE

American Express (NYSE: AXP  ) $57.57 $23.16 3.17 vs. 5.17 26.6%
Coca-Cola (NYSE: KO  ) $74.20 $6.99 0.43 vs. 0.62 26.7%
International Business Machines (NYSE: IBM  ) $201.57 $10.73 1.14 vs. 0.62 73.7%
Kraft Foods (NYSE: KFT  ) $38.35 $1.17 0.66 vs. 0.69 9.9%
Wells Fargo (NYSE: WFC  ) $33.06 $31.47 0.97 vs. 1.69 11.9%

Sources: Yahoo! Finance, The Motley Fool.

Simple business
Buffett loves a simple business that doesn't require a Ph.D. to understand. Coca-Cola and Kraft operate straightforward businesses; they make sugary water and snacks. We consume their products on a daily basis, and we easily understand these businesses. Wells Fargo, not so much. But of the big bank stocks, Wells has daintily tiptoed into speculative waters in comparison to its cannonballing peers.

Sound management
Company executives and CEOs who focus on allocating capital and rewarding shareholders are favorites of Buffett. Take Kraft CEO Irene Rosenfeld. She's been at the helm since 2006 and spent nearly three decades rising through the ranks at Kraft and its subsidiaries. Her performance metrics are in complete alignment with shareholders, and I think she runs the business conservatively.

Healthy balance sheet
Buffett likes lots of cash and little or no debt on the books. Companies not saddled with debt more easily make acquisitions or buy back shares.

I took a look at the total cash per share for each of the five companies. Wells Fargo has a ton of cash, as does American Express, although balance-sheet cash for financial companies plays a different role than cash at most companies. Not surprisingly, the more capital-intensive businesses and those that have made recent acquisitions using cash possess less of it. Those companies include Coca-Cola, IBM, and Kraft.

All of the companies except for IBM possess less long-term debt-to-equity than their respective industry peers, solidifying strong positions within their industries for making acquisitions, increasing dividend payouts, or buying back shares.

Solid returns on equity
Buffett looks for companies that produce stellar returns on their investments. Return on equity is the amount of net income returned as a percentage of shareholder equity; it's a measure of profitability. Nearly all five companies possess double-digit returns on equity. IBM posts a whopping 73%, while American Express and Coca-Cola each display very strong ROEs of nearly 27%.

Share repurchases at the right time
Buffett applauds a company that repurchases shares when its stock is "selling at a discount to its intrinsic business value." These companies not only identify but take advantage of when their stocks are trading cheap.

All five companies bought back shares in the fourth quarter of 2011. Most notably, Wells Fargo bought back about 26.5 million shares at an average price of $26.45; today the stock trades at $32.53, representing an 18% profit on what Wells paid.

Also, American Express bought back more than 7 million shares in the fourth quarter of 2011 at an average price per share of $49.64. The stock trades just under $57 today, giving the company a 13% return on its buybacks.

Warren-worthy
If these stocks entice Buffett, they're surely good enough for you and me to consider. But do some Foolish research of your own, and watch to see if these stocks continue to exemplify Warren-worthy criteria or if they stray from that path.

If you're looking for one absolute dynamo of a Warren-worthy stock that even the Oracle himself can't snatch up, read about the stock in a special free report here.

Fool contributor Nicole Seghetti owns shares of Wells Fargo. The Motley Fool owns shares of Berkshire Hathaway, Coca-Cola, Wells Fargo, and IBM, as well as having created a covered strangle position in Wells Fargo. Motley Fool newsletter services have recommended buying shares of Berkshire Hathaway, Wells Fargo, and Coca-Cola, along with writing a covered strangle position in American Express. The Motley Fool has a disclosure policy. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. Try any of our Foolish newsletter services free for 30 days.


Read/Post Comments (0) | Recommend This Article (7)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

Be the first one to comment on this article.

Sponsored Links

Leaked: Apple's Next Smart Device
(Warning, it may shock you)
The secret is out... experts are predicting 458 million of these types of devices will be sold per year. 1 hyper-growth company stands to rake in maximum profit - and it's NOT Apple. Show me Apple's new smart gizmo!

DocumentId: 1869737, ~/Articles/ArticleHandler.aspx, 8/31/2014 2:42:36 AM

Report This Comment

Use this area to report a comment that you believe is in violation of the community guidelines. Our team will review the entry and take any appropriate action.

Sending report...


Advertisement