Let's figure out

  1. if the competitive advantages of some publicly-traded companies are sustainable,

  2. whether some of those companies have untapped pricing power and

  3. what those companies are worth.

 

How?

A business enjoys a competitive advantage if it provides something at a lower cost, with better taste or some other perceived virtue in the mind of the customer. Such a company should be able to charge more for its product while still taking market share from its competitors (or at least without losing market share). Warren Buffett uses the term “economic moat” when referring to a sustainable competitive advantage.

 

On this site I share my attempts to trace the profitability of some companies to the basic unit of analysis for the industry they operate in. At this most basic unit of analysis a competitive advantage, if any, should be measurable. The set of companies discussed is necessarily limited to the handful of industries I understand.

Many online resources take a different approach. Almost invariably, some numbers taken from the earnings statement are divided by numbers from the balance sheet. The resulting quotient, if high enough, is seen as an indication that the company has a competitive advantage. One advantage of this approach is that it can be applied to almost all companies across industries and time. Together with the apparent mathematical rigor, this makes this approach attractive to those wishing to bring a semblance of scientific exactitude to the field of economics.  

In my view, a moat refers to the ability of a company to raise prices from current levels without losing market share. By definition this is not reflected in past earnings. At best, an analysis of past earnings without an understanding of current pricing power, may reveal that a company enjoyed (and perhaps exhausted!) a competitive advantage in the past. 

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