When Berkshire Hathaway (NYSE:BRK.A)(NYSE:BRK.B) CEO Warren Buffett speaks, Wall Street and investors tend to pay very close attention.

Although Buffett isn't infallible, he's led his company's stock to a jaw-dropping average annual return of 20% since becoming CEO in 1965. Taking into account Berkshire Hathaway's 21% move higher on a year-to-date basis, the Class A shares (BRK.A) have netted investors about a 3,400,000% return since 1965, and Buffett has overseen the creation of more than $500 billion in shareholder value.

Warren Buffett at his company's annual shareholder meeting.

Berkshire Hathaway CEO Warren Buffett. Image source: The Motley Fool.

Berkshire Hathaway is sitting on a mountain of cash and could go shopping

The Oracle of Omaha's success is based on a number factors, which include (in no particular order):

  • His willingness to hold the stocks bought by Berkshire Hathaway for years, if not decades.
  • The ability to identify businesses with clear-cut competitive and sustainable advantages.
  • A narrow research focus, which allows Buffett to understand a handful of sectors/industries really well.
  • A focus on dividend stocks, given that dividend stocks are often profitable and time-tested companies.
  • Acquiring leading businesses at a fair price.

This last bullet point is of particular importance. As CEO, Buffett and his team have engineered about five dozen acquisitions. These diversified companies help pad Berkshire Hathaway's pocketbooks on an annual basis.

But over the past five years, Buffett and his investing team haven't made many purchases. As a result, the company's cash pile ballooned to $145.4 billion at the end of March 2021.  According to Buffett, he would prefer an "elephant-sized acquisition" that'll move the needle for Berkshire, rather than small bite-sized buyouts that may be hard to notice in the top or bottom line. 

The following three stocks all meet the criteria that I believe Buffett is looking for. Namely, companies with a sustainable competitive edge at a fair price that'll immediately begin contributing to the bottom line.

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Fiserv

The first company that would make a perfect acquisition target for Warren Buffett's Berkshire Hathaway is payment processing and fintech solutions giant Fiserv (NASDAQ:FISV). Even though Buffett's company has payment processing and fintech exposure via the likes of Visa, Mastercard, and StoneCo, to name a few, Fiserv is the complete package that would give Berkshire a presence in all facets of financial sector for many years to come.

Fiserv has three operating segments, all of which benefit from the disproportionately long periods of time the U.S. and global economy spend in expansion, relative to recession. Factoring in currency impacts and divestitures, more than 60% of its revenue comes from the combination of Payments and Fintech, which are two segments devoted to helping banks process digital payments and better manage their loan and deposit accounts. The remainder of Fiserv's revenue derives from Acceptance, which refers to payment processing solutions offered at the retail level. 

As you can see, a growing economy will spur consumer spending, which in turn fuels banks' need for the payment process and fintech software/services offered by Fiserv. It's a simple numbers game that Buffett loves playing, as evidenced by Berkshire Hathaway's overwhelmingly cyclical investment portfolio.

At a current market cap of $72 billion, Fiserv wouldn't be an inexpensive acquisition. But even paying a modest premium above $72 billion would represent a fair value for the company. Fiserv offers a sustainable high single-digit to low double-digit growth rate and a price-to-earnings growth ratio (PEG ratio) just above 1. A PEG ratio around 1 is historically considered to be undervalued. In terms of needle-movers with financial industry ties, Fiserv would offer Buffett a lot of bang for his buck.

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Avangrid

The Oracle of Omaha is also a big fan of energy companies, primarily because energy is a basic-need service that produces predictable cash flow in virtually any economic environment. In fact, subsidiary Berkshire Hathaway Energy is a big reason Buffett's company is consistently profitable on an operating basis. When it comes to electric utility stocks at an attractive valuation, Avangrid (NYSE:AGR), the U.S. subsidiary of global utility powerhouse Iberdrola, stands out from the crowd.

The Avangrid operating model has two components. First, it operates eight electric and natural gas utilities that service approximately 3.3 million people in New York and New England. These are regulated utilities, which is a fancy way of saying that Avangrid must obtain approval from state utility commissions before it can raise rates. However, being regulated means that Avangrid's core utility operations avoid volatile wholesale pricing. In other words, this operating segment is slow-growing but generates highly predictable cash flow.

Secondly, Avangrid operates renewable energy facilities in two dozen states throughout the country. According to the company, it's the third-largest wind and solar operator in the U.S., with 7.9 gigawatts of capacity.  Having such a robust portfolio of renewable capacity should put Avangrid ahead of any green-energy legislation that might come out of Washington. It'll also help push electric generation costs down, while lifting long-term growth prospects.

The only real snafu for Buffett, should he want to acquire Avangrid, is that Avangrid is in the process of buying PNM Resources (NYSE:PNM) for an announced $8.3 billion, including debt.  The PNM Resources deal will expand their combined renewables portfolio and give Avangrid a bigger presence in the Southwest (which is a region where Berkshire Hathaway Energy is a major player). Even then, acquiring the soon-to-be Avangrid-PNM combination from Iberdrola could make sense for the Oracle of Omaha. 

Avangrid is currently one of the cheapest electric utility stocks at just 6% above its book value, and it's generated more than $1.4 billion in operating cash flow over the trailing 12 months. It looks like a perfect target for Berkshire Hathaway Energy.

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Image source: Getty Images.

DaVita

The third company Warren Buffett and his team should strongly consider acquiring is kidney dialysis service provider DaVita (NYSE:DVA).

While DaVita is significantly smaller ($13 billion) than Avangrid ($24.5 billion, including PNM Resources) and Fiserv ($72 billion), it has one big advantage, in terms of being acquired, relative to the other two companies: It's already in Berkshire Hathaway's portfolio. Whereas Buffett and his team usually cap their stakes to no more than 10% of a company's outstanding shares, Berkshire has been steadily increasing its holdings in DaVita. As of March 31, 2021, it held 34% of all outstanding shares..

The reasoning behind a full-fledged acquisition, rather than maintaining a 34% equity stake, is sound. As the U.S. population grows and ages, diagnoses for chronic illnesses has been climbing. In a 20-year stretch (1996-2016), the number of Medicare chronic kidney disease patients catapulted from around 500,000 to more than 3.5 million. 

And it's not just that the number of patients needing dialysis is growing. DaVita is also part of a duopoly in the U.S. dialysis space. According to a report from Healthcare Appraisers, DaVita and Fresenius Medical Care controlled a respective 37% and 35% of all operational dialysis clinics in the U.S., as of January 2020. That's a pretty comfortable competitive edge.

Although DaVita isn't "cheap" from the perspective of book value, it is valued at less than 13 times Wall Street's forward-year earnings forecast, and it sports a PEG ratio of roughly 1. It's a pretty stellar company valued at a very reasonable price that's already 34% owned by Berkshire Hathaway. It checks all the boxes for Warren Buffett.

This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium advisory service. We’re motley! Questioning an investing thesis -- even one of our own -- helps us all think critically about investing and make decisions that help us become smarter, happier, and richer.