Warren Buffett's timeless approach to picking stocks is something that every investor should know. With his focus on traits like financial consistency and sustainable competitive advantages, Buffett's strategy is proven effective, and it also has a consistent internal logic that's both elegant and enviable. So, one of the questions I ask when I'm evaluating an equity is whether Warren Buffett would like the company.
In the case of STAAR Surgical Company (STAA 0.74%), I think the answer is yes. In fact, STAAR's implantable lenses for vision correction make it a company that has many of the canonical Buffett traits. Its product serves a timeless purpose, and its financial discipline is strong. Likewise, it has a competitive moat, and its future is bright thanks to a large and growing global market for its products. But would Buffett be able to make peace with the company's heavy marketing spending targeted at ophthalmic surgeons and its frequently thin margins?
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Why the Oracle of Omaha would appreciate this stock
There's a lot to like about STAAR Surgical. First, STAAR's product, implantable lenses for vision correction, is clearly quite evergreen. Human eyes are prone to needing a bit of help to see things far away, especially with age, and $48 billion in annual global spending on eyeglasses is proof that vision correction is a lucrative market. Unlike glasses or contact lenses, the company's implantable lenses can't get lost, broken, or smudged. But they can still be upgraded or removed by a surgeon as a patient's eyes change with age.
Importantly, because the lenses are implanted, patients are less likely to defect to a competitor than they might be with traditional vision correction. While it's easy to buy glasses or contacts from a different manufacturer, the fact that a surgeon's help is necessary to switch to another implantable lens provider means that customers are heavily incentivized to stay put. In short, Buffett would appreciate that the difficulty of switching to another product provides STAAR with a competitive moat.
In terms of its financial performance and spending efficiency, the company is improving steadily over time. Its cost of goods sold (COGS), R&D expenses, and selling, general, and administrative (SG&A) expenses have fallen significantly as a percentage of quarterly revenues over the last five years. At the same time, STAAR's quarterly profit margin has risen from its lows to reach its present level of 6.17%.
Finally, STAAR Surgical's balance sheet has two of the hallmarks of Buffett stocks: plenty of cash and minimal debt. With $162.34 million in liquid holdings and just over $10 million in debt, management has plenty of leeway to borrow if it needs to raise money in the future. Plus, debt payments aren't going to constrain the amount of capital that's available to invest in growth.
STAA Revenue (Quarterly) data by YCharts.
Buffett's qualms
I'm of the opinion that STAAR Surgical is a stock that Warren Buffett would like, but I think he'd find it to have a few flaws.
STAAR's quarterly revenue has been growing steadily over time, even during the disruption of the pandemic in 2020. That's a point in its favor, but Buffett would likely take issue with the fact that the company's earnings aren't growing smoothly. Instead, its quarterly earnings before interest, taxes, depreciation, and amortization (EBITDA) have exhibited a pattern of gently rolling gains and later contractions while trending up over time. Given the positive trend and the global markets awaiting the company's penetration, it's hard to see how Buffett would consider the inconsistency as a sticking point.
It's also true that the profit margin is a bit on the low side for a Buffett favorite, and the inconsistency of the margin over time could be a concern too. This company has had a few unprofitable quarters in recent years, and it doesn't have the decades-long history that Buffett tends to prefer.
Likewise, the company's SG&A expenses are around 46% of its quarterly revenue, which Buffett might find to be quite high despite the recent progress in reducing it. The reason for this is that STAAR needs to market its products to surgeons in order to raise awareness and secure new business, and there isn't too much to be done to get around it -- unless you happen to know where ophthalmic surgeons hang out in droves, that is.
Finally, Buffett would probably think that STAAR's competitive moat is a bit on the weak side. The high cost of switching away from its products is favorable, but the burden of needing surgery to use its lenses in the first place means that there's a significant amount of friction to overcome before onboarding a new customer too.
Overall, I think that STAAR meets Buffett's standards at the moment. But I'm also of the opinion that Buffett would like the stock even more in a few years when the company has had the time to fortify its slim margin by continuing to cut costs and iron out the inconsistency in its earnings.
