What is a Good Company?
Chris is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
I was recently watching a Youtube video in which Warren Buffett admitted that he pays very little attention to the macro-economic component of what he considers investing in. While a lot of mutual fund managers put a lot of their interest in what any given country's government is doing right now, what the market's response to the price of this or that asset might be or some other gigantic factor, Buffett is totally ignoring it.
He just buys good companies at low prices.
But what makes a good company, anyway? Is it simply a laundry list of companies like Wal-Mart (NYSE: WMT), Coca-Cola (NYSE: KO) and Johnson & Johnson (NYSE: JNJ), companies that pay dividends and have such mighty brand recognition that they're seemingly unstoppable? After all, Wal-Mart has decades of a powerful ROE and heavy revenue and profit growth behind it. At the same time, Coca-Cola has a super-simple business model and over $43 billion in assets with only around $13 billion in liabilities. Just as solidly, J&J carries a cash and equivalents balance in excess of $10 billion and grew its revenues through the Panic of 2008 and subsequently. While it could easily be argued that one could build a solid portfolio out of these companies, I personally believe it goes a bit deeper than just big, well-known companies that consistently turn a profit and have lots of cash on hand.
This sounds like a very easy question, but it took me a lot of thought to come up with anything really solid. This is a lot like quantifying what makes a great mate or a wonderful home -- open to nearly limitless interpretation based on individual preference. However, I think there are a few unifying factors that come together to form this potentially mythical "good company."
As I see it, a good company can be summed up as any company that:
1. Maintains a reasonable level of debt, so that its continuing operation does not depend on constant and heavy borrowing, the sale of vital assets or unceasing issuance of new shares
2. Offers a product or service of value to a niche that consistently wants and can afford it. One corollary to "find a need and fill it" is "fill a need and be found." Good companies are found when someone needs what they have to offer, whether their business model is heavy on advertising, direct sales or some other method of brand awareness growth.
3. Has a substantial advantage over its competition, otherwise known as its moat. This is something the Motley Fool contributors have written about extensively, so I'll leave it alone for now.
4. Believes deeply enough in adding value to the world that it will sacrifice some growth and additional profit for the benefit of others. This often means paying shareholders a reasonable dividend, maintaining its corporate ethics despite the additional difficulty and expense this may entail, making a positive impact on the world beyond the desire for PR, and generally being the equivalent of a good citizen in a sort of Norman Rockwell sense.
5. Strives to improve its operation continually, instead of simply relying on half-measures and window dressing. I considered mentioning specifics, but I don't want to risk libel charges. I'm sure you know of some companies that have stagnated over time, and I'd love to read your comments about them.
6. Talks to you like you're an intelligent human being. There is nothing worse than a company whose CEO honestly believes that with enough fancy jargon and verbal gymnastics that they can divert your attention from matters of cash flow, brand management, legal sense (particularly the avoidance of actions that would obviously result in lawsuits) and other crucial factors.
This list is bound to change. No doubt I will look back at this article in a few years as my high school self would've looked upon my first grade spelling tests: showing some promise, but nowhere near its pay-off. If you believe I've missed something crucially important to the constitution of a good company, please enlighten me in the comments section.
pongun has no positions in the stocks mentioned above. The Motley Fool owns shares of Johnson & Johnson and The Coca-Cola Company. Motley Fool newsletter services recommend Johnson & Johnson and The Coca-Cola Company. 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.If you have questions about this post or the Fool’s blog network, click here for information.