Number Cruncher

Buffett's bastion: Wide-moat stocks

The Globe and Mail

What are we looking for?

Part of Warren Buffett’s investing strategy is to find companies that have a wide economic moat. These are companies that have a sustainable advantage in the marketplace that protects them from competitive forces. Today, we’ll look for Canadian stocks that might qualify as moat stocks, according to Mr. Buffett.

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More about today’s screen

Morningstar has an comprehensive system of identifying companies that have moats. The system seeks to identify moat companies according to five types of competitive advantages:

-intangible assets: brands, patents and regulatory licences;

-cost advantage: able to produce products or services at a lower price than the competition;

-switching costs: allows companies to charge customers more than they would otherwise be able because switching to a new supplier is too costly;

-network effect: the value of a company’s product or services increases as more customers are added;

-efficient scale: effectively serving a limited market, where potential competitors have little incentive to enter the market.

What did we find out?

Morningstar has identified 160 wide-moat companies amongst the companies it follows, with most of them trading in North America. Nine of them are Canadian. The big five banks, Bank of Montreal , Bank of Nova Scotia , Canadian Imperial Bank of Commerce , Royal Bank of Canada and Toronto-Dominion Bank , dominate the list.

Interestingly, Morningstar calculates that the moat category that generates the highest returns on invested capital is the network-effect one. Ritchie Bros Auctioneers Inc. is the lone network-effect company on the Canadian list.

“The network effect is a virtuous cycle that allows strong companies to get even stronger,” Morningstar said in a report. “The network effect is probably the most potent source of a sustainable competitive advantage, but it’s also one of the rarer categories.”

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