“Big four” is a term that usually refers to the big four accounting firms, but to Warren Buffett the term refers to his largest public holdings – namely American Express, Coca Cola, IBM and Wells Fargo. In addition to the fact that all the four companies earn high returns on capital employed and generate copious free cash flow, is there something else that they share - in terms of their intrinsic characteristics, business models and strategies that have made them the apples of Buffett’s eyes?

Here are a few key business factors that Buffett’s “Big Four” share among them–

Strong brand – Each of the four companies own brands with possibly the maximum recall within the territories and sectors they operate. They also possess a tremendous amount of accumulated trust that has been gathered over many decades of being in business. In fact the companies are so synonymous with the products/ services they provide that their names have become symbols of what they do and how well they do it. This results in most of their customers seeking out their product/ service (Pull) rather than vice-versa (Push). Any businessman would know the benefits of having the customer seek you out. It means the company can define the terms of the business – most important of which is pricing power – an outcome of stronger customer preference relative to competitors.

Decades of cumulative experience – Each of the businesses can be traced back to many decades – few of them nearly a century back - almost to the very origins of their respective commercial industries. Over the years these companies have not only survived and thrived amidst the vicissitudes of boom and bust (in their industries as well as the overall economy) to emerge as the leaders that they are today. During their evolutions they have survived many a misadventure but were able to re-orient themselves and become stronger – all these add to the significant repository of in-house knowledge and home grown culture that could hold them in good stead for decades to come.

Large customer base – Each of the businesses have substantially large customer base across individuals/ industries such that no single customer can determine the fate of its survival. The large customer base reduces volatility in revenues.

Leaders in their respective businesses – The group of four are leaders in their respective industries – if not by size definitely in terms of profitability.

International operations – All of them have significant international presence - either in terms of revenue source or cost centres (e.g. Amex, IBM, Well Fargo have large delivery/ operations centres in India to capitalise on cost advantages). Except Well Fargo, the rest have become truly global firms and can’t really be called American any more. This means less country risk and at the same time increased footing in developing economies that are likely to grow faster.

Large addressable market size and unlimited growth potential – The nature of the industries that they operate in provides them with unlimited growth potential across the world. Since both Amex and Wells Fargo are in the financial services business, their growth is expected to be faster than GDP growth.

Captive customer base – A combination of brand pull and high switching costs provides these companies with a customer base that is almost captive. This means any new customers that they acquire are accretive. The effect of this is relatively low marketing costs to retain existing customers (due to low risk of switching). Steady existing customers also provide annuity revenues through repeat purchase.

Retail tilt – Except IBM the other businesses have large diverse retail customer base, which helps mitigate individual customer risk and improve pricing power. Also, the retail tilt means dependency on consumption spending that is bound to increase and become a larger portion of GDP as economies develop.

Asset light – None of the companies can really be called as a pure-play manufacturing. All of them have low capital requirements relative to the revenues that they generate and this produces high capital turns that boosts ROCE (Return on Capital Employed).

Defensive businesses – For all the four businesses, the number of customers are likely to stay the same or increase during a recession – but for different reasons. In the case of Coke – the cost is immaterial for customers to reduce consumption during recession. Amex and Wells Fargo, are likely to witness an increase in customers/ business volumes during recessionary times on the lending front – however the effect could be offset by increased delinquency as well. For IBM, the needs for IT support to run core business operations make it less prone to suffering during recession.

Stock buyback – Lastly, the companies periodically buy-back their own shares as a way to utilise surplus cash and increase shareholder value. This helps them save on tax compared to dividend payouts.

(The author is a business consultant. The views are personal. Feedback can be sent toperspective@thehindu.co.in)

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