economic moat Advantage  in business

After selecting a stock, one can start the due diligence process. The “Investment due diligence” is of utmost importance, with all aspects needing to be investigated thoroughly. 

Warren Buffet popularised the term “economic moat” which describes a company’s competitive edge over its rivals. This edge can infer that a company is more likely to have long-term, profitable prospects. A more comprehensive range of characteristics such as better branding, pricing power and larger market share is often associated with greater sustainability, making it difficult for competitors to take away its share.

To comprehend moats, think of “Eicher Motors Limited”. This Indian automobile manufacturer produces commercial vehicles and the famous Royal Enfield bikes. The latter enjoys a large following both in and outside India, with incredible brand recognition. 

Royal Enfield targets a rapidly rising niche segment. Its bikes don’t bear the same expense as Harley Davidson ones or the same affordability as TVS models’. Consequently, it would be difficult for any firm to monopolise the devotion Royal Enfield enjoys. In other words, its competitors will have to employ significant effort to displace Eicher Motors from this favourable position – one of its moats.

Many companies possess interesting moats that can generate wealth. Infosys, for instance, leveraged the labour arbitrage potential between the US and India. Page Industries had the exclusive license to manufacture and distribute Jockey innerwear, while Prestige Industries capitalised on manufacturing and selling pressure cookers. Gruh Finance Limited is another example of strategic business planning, offering small ticket size credit to specific market segments. Therefore, always consider investing in firms with robust economic moats.

– Due Diligence

The process of conducting equity research due diligence consists of several stages, which include:

1. Comprehending the company’s operations: This entails studying the annual reports to gain a thorough understanding of the business.
2. Applying a checklist: A checklist is used to assess various aspects of the company, such as its financial performance, industry position, management team, competitive advantage, and other relevant factors.
3. Valuation: This stage involves estimating the intrinsic value of the business through various valuation techniques, such as discounted cash flow analysis, price-to-earnings ratios, or other appropriate methods. 

In stage 1, we assess the business from all angles to gain a thorough understanding. To start, it is helpful to begin by asking a fundamental question about the company – What kind of activities does it engage in? This can help us develop a list of further questions for which one must seek answers.

For the answer, we can skip Google and look at the latest Annual Report or website of the company to comprehend what they say about themselves.

Once we are familiar with the company, we advance to stage 2 i.e. utilising the checklist. Thus, obtaining performance-related results.

Ultimately, after one has ensured that all points on the checklist are met and a valuation exercise, such as Discounted Cash Flow (DCF) Analysis, is run, the only possible conclusion is whether or not the stock is trading at the right price in the market. Through stage 3 of this process, we can reach such a determination.