Warren Buffett once said, "The strategy is to find a good business - and one that I can understand why it's good - with a durable competitive advantage, run by able and honest people, and available at a price that makes sense. Because we are not going to sell the business, we don't need something with earnings that go up the next month or the next quarter; we need something that will earn more money 10 and 20 and 30 years from now."
In this quote, Buffett mentions three aspects of a good company: durable competitive advantage, more earnings over 10, 20 and 30 years, and reasonable valuations. We tried to find companies in the Indian market that exhibit these characteristics.
Durable competitive advantage
Another term for durable competitive advantage is a 'moat'. Just like a moat prevents intrusion, a lasting competitive advantage discourages competition from invading a company's territory. If a company consistently generates returns above the cost of equity, the company can be said to have a moat. Assuming the cost of equity to be 15 per cent, we shortlisted companies (minimum market cap Rs 500 crore) that have generated a return on equity of more than 15 per cent in at least 15 of the last 20 years.
Next, we wanted to check longevity in earnings growth. To do so, we zeroed in on those companies that have grown their earnings by above 15 per cent on a five-year rolling basis over the last 20 years (minimum 10 samples out of the 15 possible).
Finally, we divided the list so obtained in three parts: companies that are below their five-year median P/Es, those that are within 10 per cent of their five-year median P/Es and those that are above that cut-off. The first can broadly said to be at a bargain. The second are reasonably priced. The last have run up, yet given their ROE earnings-growth history, they deserve a deeper look.