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 Teva Pharmaceutical (Nasdaq: TEVA ) -- 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 Teva 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 Teva's earnings and free cash flow history:
Source: S&P Capital IQ.
Over the past five years, Teva has grown its earnings considerably.
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
Source: S&P Capital IQ.
Teva generates moderately low returns on equity while employing a moderate amount of debt.
CEO Schlomo Yanai has been at the job since 2007. Before that, he had served as CEO at agrichemical companies and spent more than three decades in the Israeli military.
Generic pharmaceuticals aren't particularly susceptible to technological disruption, but Teva's patented MS drug Copaxone makes up about one-fourth of the company's revenue (and likely even more to the bottom line), and its patent expires in 2014.
The Foolish conclusion
So is Teva a Buffett stock? It's a mixed picture. While Buffett might prefer to see higher returns on equity, the company has consistent or growing earnings and a tenured CEO, and it operates in a more-or-less straightforward industry. To stay up to speed on Teva'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.