Although I've a few years investing experience under my belt, I don't consider myself an expert. The basics of investing are always worth revising, and a decent place to start is this summary of Warren Buffett's investing wisdom. However, the basics of Buffett's teachings are well known, and people often neglect to revise some of his lesser-known gems.
So here are 3 Warren Buffett quotes that we don't hear enough:
1. Buffett's 1979 take-down of earnings per share as a remuneration metric:
"The primary test of managerial economic performance is the achievement of a high earnings rate on equity capital employed (without undue leverage, accounting gimmickry, etc.) and not the achievement of consistent gains in earnings per share."
2. His reflection on a mistake he made buying bonds in the 1970s:
"You do not adequately protect yourself by being half awake while others are sleeping."
I should probably put that one on my wall!
3. And finally, this slightly longer explanation of the characteristics of businesses that are "well adapted" to an inflationary environment:
Such businesses possess, "(1) an ability to increase prices rather easily (even when product demand is flat and capacity is not fully utilised) without fear of significant loss of either market share or unit volume, and (2) an ability to accommodate large dollar volume increases in business (often produced more by inflation than by real growth) with only minor additional investment of capital."
Pricing power is a valuable characteristic in long-term investment, but it's important to note that not all businesses with pricing power are inflation resistant.
For example top-notch hearing aid maker Cochlear Limited (ASX: COH) has pricing power. If Cochlear makes the best hearing aids, then people will be willing to pay a little extra for that. This is particularly the case where it is parents (or an insurance company) buying a hearing aid for children. After all, the look on the face of a seven-week old baby hearing for the first time is priceless.
However, because Cochlear is a manufacturer as well as a brand, the company's input costs will increase in an inflationary environment. That means that as inflation continues, the company will require more and more working capital.
It's therefore likely that internet-based companies like Carsales.Com Ltd (ASX: CRZ) are much more inflation resistant. Carsales has pricing power due to the network effect and can cope with inflation without having to increase working capital by much. After all, the business is not capital intensive once the network has been created.
Happily, I don't actually remember a time when inflation was high (I was watching Playschool back then, not The Business), but I still think inflation-resistant businesses are the best ones to own. To my mind they are a far better inflation hedge than gold, because in the absence of inflation they will still do well. I increasingly suspect that every time someone says, "you have to keep 10% of your wealth in gold," a Logic Fairy dies.
