How to think about businesses the Warren Buffett way

The easy pile and the difficult pile The very first decision in investment analysis that you will need to make is whether you can understand a business or not. There will be a great number of businesses that you can understand and a great many you may not. If you don't, that is not a reason to fret. No single person can have insights about all the industries out there. The important thing to do is to segregate businesses into these two piles: the ones you understand and the ones you don't. When you've done that, take up the easy pile and look for simple businesses. What is a simple business? A simple business is one where it is relatively easy to evaluate where the company is going to be in 10 or more years. ITC is very likely to remain a dominantly cigarette business. Indian Hotels will remain a hotel chain. GSK Consumer will continue to sell Horlicks 10 years from now. Businesses where you can say with some degree of certainty what they are likely to be doing a decade from now are the ones you should focus on. Such businesses make it easy to understand the dynamics of the company, what the demographics will be like and how the company will be placed in the industry. Let's take the example of GSK's Horlicks. Generation after generation of small children are fed Horlicks more than twice a day. With rising income and a dominant market share, you can be pretty sure that the company will still be around 10 years from now selling the very same product. This is a classic example of a simple business. Read up Once you've got hold of businesses that you understand, the next step involves reading, a lot of reading. Read the annual report; read industry analysis; read about the competitors and the changes in the industry. Also, get your hands on the analyst conference call transcripts, now increasingly available on company websites - both of your target company and its competitors. These transcripts contain a lot of first-hand information directly from the management about the state of the company and the industry -

This article was originally published on July 21, 2020.