When quizzed about a company's competitive advantage, investing legend Warren Buffett has said he likes to think about what it would take to build a worthy competitor. Sometimes this approach is reasonably straightforward. For example, when Buffett purchased the Burlington Northern Santa Fe rail freight company a few years ago he could have 'simply' added up the cost of purchasing land for track, building track, purchasing locomotives and carriages and then opening for business — easy!
Determining the costs associated with building a business that becomes a household name such as Coca-Cola (NYSE: KO), however, requires more than just adding up the cost of building a factory and bottling plant. The intangible value of the Coke brand is not only extremely hard to replicate, it's also hard to put a cost on.
With Buffett's approach in mind, assuming you could get the same terms and access to debt as Brambles (ASX: BXB) – which currently has around $2.8 billion in debt – and if you happened to have a spare $14.5 billion, which is the approximate current market cap of Brambles, what would be the chances you could build a worthy competitor to the pallet pooling firm?
It's obviously a hypothetical question, and one that would require an understanding of pooling markets all over the world given Brambles' global reach. However we are 'lucky' enough to have a small scale real world example to draw upon ,which goes some way to showing us just how valuable Brambles moat may be.
Look who tried and failed
iGPS was a start-up plastic pooling pallet company which was set up with the aim of breaking into the USA pooling market. However after expanding quickly, iGPS recently filed for bankruptcy protection.
Investors sunk around US$600 million into the start-up iGPS, which had attracted a number of industry veterans to its management team. The major selling point for iGPS was that its pallet was made from plastic and that this would be a vast improvement on the wooden pallet, which has been the industry standard for over 60 years and is the standard pallet provided by Brambles' CHEP division.
Although arguably an improvement on the wooden pallet, iGPS still faced many of the same problems CHEP faces. These problems included lost and stolen pallets. Many investors will remember a few years ago when Brambles realised it had lost track of literally millions of its pallets.
In just a few short years, iGPS also managed to lose around 1.5 million of its 10 million pallet pool! iGPS also had expected its plastic pallet to be more robust and last longer, however all the forklift and truck handling naturally leads to pallet damage and fixing a plastic pallet turned out to be far more complicated and expensive than repairing a wooden one.
Foolish takeaway
iGPS had a red hot crack at taking on Brambles in the USA, but that is of course a much smaller task compared with creating a complete global Brambles competitor. iGPS's $600 million in sunk costs shows just how hard it can be to knock off an entrenched competitor. While arguably the decision to create a point of difference by introducing a plastic pallet led to iGPS's downfall, it probably did need a point of difference rather than competing on price alone.
Long-term investors buying firms like Brambles, Cochlear (ASX: COH) or Computershare (ASX: CPU), which potentially have sustainable comparative advantages, as Buffett has shown, can allow investors to achieve high compound rates of return.
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Motley Fool contributor Tim McArthur does not own shares in any of the companies mentioned in this article.
