Tuesday, 21 February 2012

Warren Buffett - Coke vs McDonald's

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There are a lot of things you can learn if you are around securities over the course of your career, and you will find a lot of arbitrage opportunities. However, that probably won't be the primary driver of your investment returns.

If you are not a professional investor, then you should be extremely diversified and you should do very little trading. However, if you want to bring an intensity to the game, and you are going to value businesses, then diversification is a terrible mistake. If you really know business, then you shouldn't own more than 6 businesses. Very few people have gotten rich on their 7th best idea. You'd be much better off putting more money into your best idea.

Proctor and Gamble is a good business. But if you are going to go away for 20 years, would you rather own Coca-Cola or Proctor and Gamble? Proctor and Gamble wouldn't be bad, but Coca-Cola has much better pricing power. They sell 1 billion units per day. If they charge a penny more, they will make another $10 million per day.

McDonald's has a lot of things going for it. But it is a tougher business. People do not want to eat at McDonald's every day. If someone drinks 5 Cokes today, they will probably buy 5 more tomorrow. The fast food business is tough, and they don't win taste tests. They are also competing on price more than they used to, and they give away toys in order to sell more product. It is better to own a business with a product that can stand alone absent promotions and price appeals. But it is a very good business. Not as good as Coca-Cola, but then again very few businesses are.

The utility industry is tough to understand because there are so many regulations. Obviously the guy who produces energy more cheaply has an advantage, but it is hard to predict how much of the profits he will be allowed to keep and whether he can sell his energy outside of his geographic area. A lot of money will be made in utilities, but it is hard to be able to tell who is going to make it.

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