Warren Buffett actually coined the phrase "economic moat" and this competitive advantage of brand name, demand, and pricing power is what he looks for in a company. A high barrier to entry helps. Finding such a paragon isn't always easy.
A moat filled with spice
Warren Buffett might well anoint Dividend Aristocrat and global spice purveyor McCormick & Company (NYSE:MKC) for its wide moat and brand strength. Warren also loves yield, and McCormick has consistently raised its yield for 27 years for a ten year return to shareholder rate of 13%. The yield now stands at 2.00%.
Trading at 19.42 times forward earnings, the company also boasts 9% compound annual earnings-per-share growth over the last decade with an overall compound annual sales growth rate of 6.5% and a sizzling 21.1% in emerging markets.Warren also loves growing cash flow and the company grew its net cash flow to $455 million in 2012 from $340 million in 2011.
When it comes to market share, two-thirds of the company's brands have the No.1 market position. CEO Alan Wilson said at the September Barclays Back to School Conference that the average US pantry now stocks 40 spices, up from only 10 a decade ago. Global demand for herbs & spices is growing faster than ketchup by a long shot with only soy-based sauces and bouillon cubes outstripping the category. As for a moat, McCormick has little competition except from much smaller private label ventures. The company has 22% market share in spice, over four times that of its closest competitor.
Barriers to entry are considerable with McCormick's established and annually audited sourcing of exotic spices from all over the globe, product innovation with 250 new products introduced in 2012, and a third of sales growth coming from acquisitions, mostly brands in emerging markets. The company recently closed on its first acquisition in China, Wuhan Asia Pacific Condiments, and it's expected to boost China sales by 60%.
Even bigger moats
Unilever (NYSE:UL) is a much larger company at an $111 billion market cap to McCormick's $8.95 billion, and offers a 3.60% yield. Unilever trades at a forward earnings multiple of 18.27.
Unilever has 400 brands that include home care, personal grooming, beverages, and food products. Fourteen are power brands, generating sales of one billion euros per year. Its main competitor is Procter & Gamble.
Unilever is moving into emerging markets in a big way with 55% of sales coming from these markets. There are two billion reasons to buy Unilever as that many people use their products every single day.
Kraft Foods Group is a company Warren liked in the past when it was just Kraft Foods and he was once its largest shareholder. But since Mondelez International split off Kraft Foods Group last October, Buffett sold all but 1.7 million shares of the ten million Kraft Foods Group shares he got in the split. Kraft Foods Group doesn't have as much emerging market exposure as Mondelez.
Kraft Foods Group trades at a forward earnings multiple of 17.14 and offers a yield of 3.70%. It's easy to see why Warren once liked the name with iconic brands like Planters, Oscar Meyer, Kraft, and more (5,500 SKUs). On their second quarter earnings release the company guided higher for 2013 earnings per share at $3.40 from $2.75 previously guided and for higher free cash flow of $1.2 billion from $1 billion previously expected.
However in a very candid presentation at the CAGNY conference in February the company admitted that it used to be known as the place where good ideas went to die. But since 2008 when 17 of 19 new product launches failed the company has regrouped with successful innovative launches like Oscar Meyer Selects and MiO water enhancers.Kraft is in the early stages of an innovation turnaround. Growth could be slower than Unilever and McCormick but net revenue from new products has now doubled from 6.5% in 2009 to 13% in 2013.
What would Warren do?
McCormick has a strong moat in spices and fast growing demand globally. Its Chinese acquisition is especially promising. As a Dividend Aristocrat Warren would likely bless a buy for these reasons as well as its pricing power and growing free cash flow.
Unilever is a global brand powerhouse with pricing power and strong demand and management so this is another buy. Warren would also appreciate its high yield and expansion of its moat with emerging market exposure.
Kraft Foods Group is in the midst of a multi-year turnaround and its earnings and free cash flow trends look better. As the company returns to innovative new products it builds its moat even wider. Remember, Warren still holds shares of Kraft Foods Group so he hasn't given up on this iconic company.
AnnaLisa Kraft has no position in any stocks mentioned. The Motley Fool recommends McDonald's, PepsiCo, Sysco, and Unilever. The Motley Fool owns shares of McDonald's and PepsiCo. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.