"It's far better to buy a wonderful company at a fair price
than a fair company at a wonderful price."
- Warren Buffett
The Oracle of Omaha has amassed a fortune investing in so-called
"wonderful" businesses. But what exactly makes a business
That is debatable, but one of the most important factors for
Buffett is a durable competitive advantage, or "moat". That's
because it is a company's competitive advantage that allows it to
earn excess returns for its owners.
One of the best ways to quantify whether or not a business has a
durable competitive advantage is to measure its
return on invested capital
Return on Invested Capital (ROIC) is calculated as:
Net Operating Profit After Taxes / Invested Capital
An ROIC of 15% means that for every $1 of capital invested in a
business, 15 cents of after-tax income was created during that
The best companies consistently generate returns greater than
their weighted average cost of capital (WACC). The weighted average
cost of capital for a company is the minimum return required to
satisfy all investors, including creditors and shareholders.
Companies that generate ROIC above their WACC are creating value
by earning returns above what the market requires for assuming the
risk of investing in the company. This is known as
positive economic profits.
Naturally, if a company or an entire industry is consistently
generating positive economic profits, then it will attract some
competition. A truly wonderful business will be able to fend off
this competition and sustain those excess returns. So a wonderful
business should not only have a high ROIC, it should have stable or
growing ROIC over time too.
3 Wonderful Businesses at Reasonable Prices
So what are some wonderful business trading at reasonable
prices right now?
I ran a screen using
that looked for the following criteria:
- Average returns on invested capital > 12% over the last 5
- Current return on invested capital > its 5-year
- Price / forward earnings
- Price / cash flow
I filtered further for companies with a long history of strong
sales and earnings growth with solid, and improving, profit margins
that are not highly leveraged using the following additional
- Average sales growth > 10% over the last 5 years
- Average EPS growth > 10% over the last 5 years
- Average operating profit margin > 10% over the last 5
- Current operating profit margin > its 5-year average
- Debt / total capital
Here are 3 of the top names from the list.
ROIC (TTM): 24.1%
5-yr Average ROIC: 23.1%
Forward P/E: 14.2
Fossil primarily makes and sells watches through both
proprietary and licensed brands, but it also sells other consumer
fashion accessories, including jewelry, handbags and small leather
goods. It's affordable luxury items resonate with consumers, both
domestic and abroad.
ROIC (TTM): 17.7%
5-yr Average ROIC: 14.7%
Forward P/E: 11.8
Copa Holdings is the holding company for Copa Airlines and Copa
Airlines Colombia, which are premier Latin American airlines.
Unlike most airlines, Copa has managed to deliver consistently
strong returns on invested capital over time thanks in part to its
strategically-located hub in Panama City and focus on low operating
costs and efficiency.
ROIC (TTM): 16.5%
5-yr Average ROIC: 14.7%
Forward P/E: 15.0
Gentex primarily designs and manufactures automatic-dimming
rearview mirrors and electronics for the global automotive
industry. These mirrors utilize proprietary electrochromic
technology to dim in proportion to the amount of headlight glare
from trailing vehicle headlamps. This differentiation has led to
wide profit margins, strong cash flow and a conservative balance
sheet for Gentex relative to its industry.
The Bottom Line
A wonderful business is one that consistently generates positive
economic profits for its owners. These three companies are doing
just that, and each currently trades at reasonable prices.
Disclosure: The author owns shares of Copa Holdings (
Todd Bunton, CFA is the Growth & Income Stock Strategist
and Editor of the
Income Plus Investor service
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GENTEX CORP (GNTX): Free Stock Analysis Report
FOSSIL GRP INC (FOSL): Free Stock Analysis
COPA HLDGS SA-A (CPA): Free Stock Analysis
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