There’s a big difference between a physical moat and an economic one. It’s easy to build a physical moat. Pretty much every fort has one. All you need to do is spend money, which fort builders of the past seem to have had in plenty. The deepest moat in India is said to have been at Vellore fort in Tamil Nadu, which was more than a 100 feet deep and 8,000 feet in circumference.
Building an economic moat is not so simple. This is clear from the very small number of companies that have managed to build one. Although we don’t claim to have a comprehensive list, one thing is certain. The number of companies that have a meaningful economic moat is far, far smaller than the ones that don’t. Why is this? If moats are such wonderful things (and we’ve got 80 pages in this issue showing that they are), then why doesn’t everyone go out and get one?
Because it isn’t as easy as just asking some people to build one. Most of the moats that we have written about took a long time to build. Moreover, they took a great focus on making a good product and serving customers. It also took a long and sustained period when these companies consistently made the right decisions and executed well. And the decisions were the right ones not just for the next quarter or the next year, they were the right ones for the long-term.
It’s about quality of people
In my opinion, it eventually boils down to people. The single most important factor in any such success story is the quality of the people who were running the business, and the quality of the people they in turn were able to hire, retain and inspire. Eventually, moats are a shorthand for good management. That also explains the question, why only these companies? Why weren’t their competitors able to do the same?
It also took one factor that business publications don’t normally like to talk about, and that’s luck. Look at a company like Asian Paints or Exide or Castrol. They fit the bill in every other way. Still, it seems incomprehensible that in all the years that they have dominated their market, no one else has managed to do a reasonable job of competing in mundane product categories like paints, batteries and lubricants. These are not complete commodities, but it shouldn’t have been rocket science for someone or the other to compete hard. Not all moats in this issue are of this category. Some are incidental, like NMDC’s or CRISIL’s. But that doesn’t mean that investors can’t take advantage of them.
However, when you take the people factor into account, it begins to make sense. Good managements are rare. Good managements that don’t have other good managements competing against them are rarer still. After a point, a moat can become self-perpetuating. Others can cross it in theory, but in practice it’s too much trouble and the returns too uncertain.
The moat at Vellore fort is said to have had 10,000 crocodiles in it, ready to make a meal of invaders who tried to cross. Perhaps we should also have given a ‘crocodile rating’ to the moats that we have written about. However, in this fifth anniversary issue of Wealth Insight, we have just tried to identify companies with deep moats and not really bothered about the crocodiles in those moats. Perhaps we’ll talk about crocodiles in some future issue.