“We invest in a business with a wide and long-lasting moat around it. Surround - protecting a terrific economic castle with an honest lord in charge of the castle."
Moat’s investment philosophy is designed to identify superior compounding growth stories which have the ability to deliver regularly rather than in bouts. Our investment approach keeps us fixated on our goal of picking premium quality businesses while safeguarding the client’s capital. We spot the undiscovered, hidden gems which can sustain a significantly higher Return on the capital employed (RoCE) compared to the Cost of capital (CoC) in the long-run, freeing up the excess cash flow for the business. This phenomenon not only makes these businesses resilient but also sets them a class apart.
In our view, these companies deem worthy of the title “premium quality business”.
We remain fixated on our aim of long-term wealth generation for all our clients. For this, we are on the constant hunt for companies that reinvest at least a portion of their excess cash flow back into the business to grow while increasing the returns for its shareholders. We stay committed to our investment picks for the long haul which gives the business time to create value and also allows us to reap the benefits of long-term compounding.
Our investment approach solely looks for growth opportunities of businesses in their industries, irrespective of the size of the company or sector. We look for relatively smaller players in the industry which have the ability to become even bigger in the future. Our definition of small players also includes large cap companies, the market leader or even near market leaders if they are more than capable of further expansion and penetration in their respective industries.
MOAT – explanation
“We invest in a business with a wide and long-lasting moat around it; surround — protecting a terrific economic castle with an honest lord in charge of the castle.” ~ Warren buffet
Moat is a term that refers to a business’s ability to maintain a competitive advantage over its competitors. Competitive advantage is what makes an entity’s goods or services superior to all of a customer’s other choices.
There are many ways in which we can define the moat of a company. Some of them are as follows-
- Cost advantage – Companies with significant cost advantages can undercut the prices of any competitor that attempts to move into their industry. Companies with sustainable cost advantages can maintain a very large market share as well. Gross and operating margins far better than peers. It can be coming from sourcing of RM, labour costs, manufacturing process and technology advantage.
- Size Advantage – Being big can sometimes, in itself, create an economic moat for a company. This reduces overhead costs in areas such as inputs, financing, advertising, production, etc. This is economies of scale. No competition can produce such quantity of volumes.
- Intangibles – Another type of economic moat can be created through a firm’s intangible assets, which include items such as patents, brand recognition, government licenses, and others. Strong brand name recognition allows these types of companies to charge a premium for their products over other competitors’ goods, which boosts profits.
- Differentiation USP – A differentiation strategy involves developing unique goods or services that are significantly different from competitors. Companies that employ this strategy must consistently invest in R&D to maintain or improve the key product or service features. Unique selling point.
- Backward and forward integration- this strategy can be also used to get a competitive advantage over the market competitors. When you apply this strategy, the company gets cost-efficient which rather improves its profitability.
- Network effect- scale of sales and distribution creates a challenge for other competitors to reach any size near to company. Company is able to sell pan India or globally.
The essence of strategy is choosing what not to do ~ Michael Porter.
The five forces of the porter model help you to build a framework of the level of competition in any industry. This model is specially used when you are looking to enter into a new industry or start up a new business. This model shows you the 5 forces of competition in an industry and how intense it is. these 5 forces are as follows-
If the 5 forces in an industry are very high then the returns in that industry are very low and sustaining In that industry is very hard. But if it is very low then there are high returns in that industry and new players can make room for themselves in that industry.
Now let’s talk about the 5 forces in more detail –
- The threat of new entrants - can be determined by how many barriers are there in the industry. Barriers are like customer loyalty (Pidilite ~ Fevicol), High capital requirement (Real estate), Experience, Government policies(Pharma ~ Licences, Regulation)
- Bargaining power of buyers – this is the extent to which customers can put the company under pressure. If there are very low customers in the industry, they have the bargaining power or if there are a lot of alternatives then there is the bargaining power.
- The threat of substitute products – existing product outside the realm of the common product boundaries increases the propensity of the customers to switch to alternatives. For example- You drink coffee for refreshment and your doctor gives you medical advice not to consume caffeine so you opt for a substitute like tea.
- Bargaining power of supplier – this is usually high when there are low suppliers in the industry or there are very few alternatives for the product in the industry. For example – in the pharma industry the Active Pharmaceutical Ingredient ( API ) is majorly produced by China and in this industry, the bargaining power of suppliers is higher as there are no alternatives and the suppliers are very low.
- Industry rivalry – this is the last checkpoint that shows how many competitors are there in the industry. More the competitors less the returns. If competition is very high you will lose the pricing power because of customer switching and your returns will be low.
Young growth as leaders of tomorrow
A company in an emerging phase is seen as a highly promising candidate with the right products with good business strategy and hungry promoters for growth.
Over the period such a company can build multiple competitive advantages towards following:-
- Unique selling points about its products.
- Control over costs in much permanent way.
- Peter’s forces slowly and steadily show good things growing for the company.
- Position of a company in markets against rivals is improving with customer satisfaction, increase in revenue from the same customers, and the addition of new customers.
- More Capexes and higher utilization cycles going on for multiple years.
- Technology advances with JV and tie-ups with the best of players.
- Company leveraging upon another partner’s or customers network or brands.
- Reinvesting of capital at regular intervals.