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 Central European Distribution (NYSE: CEDC ) -- 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 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 Central European Distribution 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 Central European Distribution'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.
Earnings have been a bit volatile for Central European Distribution over the past five years, though much of the big loss in 2010 was due to higher interest payments and large asset writedowns. The company's most recent quarter saw strong sales growth but another earnings loss and reduced earnings guidance. It's apparently hitting a stumbling block with Russian regulators.
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)
|
| Central European Distribution |
79%* |
(2%) |
3% |
| Brown-Forman (NYSE: BF-B ) |
37% |
29% |
26% |
| Lorillard (NYSE: LO ) |
N/A** |
N/A** |
N/A** |
| Constellation Brands (NYSE: STZ ) |
111% |
23% |
1% |
Source: Capital IQ, a division of Standard & Poor's.
*As of March 31, 2011.
**Negative equity.
Central European Distribution tends to generate a modest return on equity. Historically, the company has carried a moderately large debt load.
3. Management
CEO William Carey has been at the job since 1997. He's also the co-founder of the Polish distiller that bears his name (Carey Agri).
4. Business
Vodka has been around since the ninth century and isn't particularly susceptible to technological disruption.
The Foolish conclusion
Regardless of whether Buffett would ever buy Central European Distribution, we've learned that the company has tenured management and operates in a straightforward industry, though it doesn't particularly exhibit some of the other characteristics of a quintessential Buffett investment: consistent earnings and high returns on equity with limited debt.
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