Four Investing Filters of Buffett (video). Always stay within your circle of competence.

 Four Investing Filters of Buffett (video). Always stay within your circle of competence.

Elaboration of Section 23

This section distills Warren Buffett's immense investment philosophy into a deceptively simple, four-question checklist. The accompanying one-minute video of his partner, Charlie Munger, underscores that successful investing isn't about complexity, but about rigorous discipline and profound self-awareness.

The four filters are sequential gates. A potential investment must pass through all of them to be considered.

1. Can I Understand the Business? (The Circle of Competence)
This is the foundational filter. It demands brutal honesty about the limits of your own knowledge.

• What it means: Can you clearly explain how the company makes money? Do you understand its products, its customers, its competitors, and the industry dynamics? If it's a bank, do you understand its balance sheet? If it's a tech company, do you understand its technology and its lifecycle?

• The Implication: If you cannot understand it, it is automatically outside your "circle of competence." You should not invest, regardless of how much others are profiting from it. As the section states, if you only understand three businesses, then you only have three potential investments.

2. Does It Have a Sustainable Competitive Advantage? (The Moat)
This filter assesses the quality and durability of the business itself.

• What it means: Does the company have a "moat" that protects it from competitors? This could be a powerful brand (Coca-Cola), a regulatory license, a unique technology, network effects, or low-cost production. This moat allows it to earn high profits for a long time.

• The Implication: A company without a moat is in a constant battle where profits can be easily competed away. The intelligent investor seeks businesses that are fortresses, not open fields.

3. Does It Have Able and Trustworthy Management?
This filter evaluates the people who are stewards of your capital.

• What it means: Are the managers skilled operators and capital allocators? Most importantly, do they have integrity? The section powerfully notes that without integrity, the other two traits (intelligence and energy) will work against the shareholder, as smart but dishonest managers will enrich themselves at your expense.

• The Implication: You are not just buying a business; you are hiring a management team to run it for you. You must be able to trust them.

4. Is It Available at a Sensible Price? (Margin of Safety)
This is the final, crucial filter that introduces discipline around price.

• What it means: Even if a business passes the first three filters, you must not overpay for it. The price must be "sensible" or, in Graham's terms, must provide a Margin of Safety—a discount to your estimate of its intrinsic value.

• The Implication: This filter prevents the common mistake of falling in love with a wonderful company and paying a ridiculous price for it. It enforces the patience to wait for the right opportunity.

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Summary of Section 23

Section 23 presents Warren Buffett's four essential filters for any investment, a simple yet profoundly disciplined checklist that prioritizes understanding, quality, trust, and price.

The four non-negotiable questions are:

1. Understandability: Is the business within my Circle of Competence?

2. Durability: Does it have a Sustainable Competitive Advantage (a wide "moat")?

3. People: Is the Management able and, above all, trustworthy?

4. Price: Is it available at a sensible price that provides a Margin of Safety?

The Ultimate Rule: The section's title delivers the overarching command: "ALWAYS stay within your circle of competence."

In essence, this framework ensures that an investor only plays games they understand, only with the best players (companies and managers), and only when the odds are heavily in their favor. It is a powerful tool for saying "no" to 99% of potential investments, thereby avoiding mistakes and focusing capital only on the rare, exceptional opportunities that meet the highest standards

QMV worksheet (Page 1 - Quality & Management, Page 2 - Valuation).

QMV worksheet (Page 1 - Quality & Management, Page 2 - Valuation).

Elaboration of Section 22

This section presents the practical tool that operationalizes the entire QMV (Quality, Management, Valuation) philosophy discussed in previous sections. It consists of a two-page worksheet that guides an investor, step-by-step, through the complete analysis of a stock, transforming abstract principles into a concrete, data-driven decision.

The worksheet is the culmination of the "intelligent effort" required of an enterprising investor.

Page 1: The Quality & Management Screen (The "Gatekeeper")
This page is the critical first filter. Its purpose is to answer the question: "Is this a good enough business to own?" If a company fails this page, the analysis stops, and the investor moves on. There is no point in valuing a poor business.

The worksheet breaks this down into quantifiable checks, likely including:

• Quality of Growth:

  • Sales (Revenue) Growth: Is it consistent and above a minimum threshold (e.g., >10% per year)?

  • Earnings Per Share (EPS) Growth: Is it consistent and preferably in line with or exceeding sales growth?

  • Pre-Tax Profit Margins: Are they high and stable or improving? This indicates pricing power and cost control.

  • Return on Equity (ROE): Is it consistently high (e.g., >15%)? This is a key metric for assessing a durable competitive advantage.

• Quality of Management:

  • Financial Leverage (Debt): Is the company's debt level manageable? A low debt-to-equity ratio is preferred.

  • Earnings Stability: Does the company have a predictable earnings stream, or is it highly cyclical and erratic?

  • Dividend History: Has the company consistently paid and grown its dividend? This signals financial health and a shareholder-friendly policy.

Only if the company scores highly on Page 1 does the investor proceed to Page 2.

Page 2: The Valuation Screen (The "Price Check")
This page answers the question: "What is a sensible price to pay for this wonderful business?" It implements the detailed five-step process from Section 19.

The worksheet provides a structured template to calculate:

1. Projected High and Low EPS: Using conservative growth assumptions.

2. Historical Average, High, and Low P/E Ratios: Based on 5-10 years of data.

3. Forecasted High and Low Prices: By combining the projected EPS with the historical P/Es.

4. Upside/Downside (Reward/Risk) Ratio: Comparing the forecasted prices to the current market price to determine the Margin of Safety. The goal is a ratio of 3-to-1 or better.

5. Potential Total Return: Calculating the estimated average annual return including both capital appreciation and dividends.

The Power of the Tool
The worksheet's design, with data boxes highlighted in yellow, shows that once the core financial data is input, the rest of the analysis (the calculations) is automated. This ensures objectivity and discipline, preventing emotions from influencing the final buy/sell/hold decision. It also raises the question of whether a software tool could be developed to streamline this process further.

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Summary of Section 22

Section 22 provides the essential, practical tool—a two-page QMV worksheet—that encapsulates the entire intelligent investing process, forcing a disciplined, sequential evaluation of a company's quality and its price.

• Page 1 (Quality & Management): Acts as a qualitative and financial gatekeeper. It rigorously checks for consistent growth, high profitability, and sound management. A failure here ends the analysis.

• Page 2 (Valuation): Acts as a quantitative price calculator. It determines the stock's intrinsic value range, calculates the margin of safety (reward/risk ratio), and estimates the potential return to see if it meets the investor's objectives.

In essence, this worksheet is the bridge between theory and practice. It is the checklist that ensures an investor never buys a poor business and never overpays for a good one. By using this tool, the investor systematically applies the wisdom of Graham, Lynch, and Buffett, making the process of selecting wonderful companies at wonderful prices a repeatable and disciplined exercise.

Portfolio Management (The Gardening Approach).

Portfolio Management (The Gardening Approach).

Elaboration of Section 21

This section introduces a powerful and intuitive metaphor for managing a collection of stocks: treating your portfolio like a garden. This approach shifts the focus from a frantic, trade-oriented mindset to one of patient stewardship and long-term cultivation. It provides a structured, five-step process for ongoing portfolio care.

The "YOUR NAME Holding Berhad" Mindset
The section begins by reframing your role. You are not a speculator; you are the CEO of "Your Name Holding Berhad." Your portfolio companies (like KLK, Guinness) are subsidiaries. Your job is to monitor their quarterly reports and overall health, collecting your dividend income while the underlying businesses (hopefully) grow in value over time.

The Five Steps of the Gardening Approach:

1. Planning (The Blueprint)
This is the strategic phase before any planting begins.

• Goal: To have a clear strategy.

• Action: Define what you are looking for—specifically, "good quality growth stocks with an upside/downside ratio >3:1 and a potential total return >15% per year." This sets your investment criteria.

2. Planting (Selecting and Buying)
This is the execution of your plan, corresponding to the "ABC" buying strategy from Section 6.

• Goal: To acquire the right assets at the right price.

• Action: Rigorously apply the QMV (Quality, Management, Valuation) method. Ensure the stock meets your quality and management criteria first, and only then buy when the valuation provides a margin of safety.

3. Weeding (Defensive Management)
This is the essential, urgent work of protecting your garden from harm. It aligns with selling reason #2 from Section 6.

• Goal: To prevent serious damage to your portfolio.

• Action: Identify and remove "weeds" and "sick plants." This means selling stocks quickly if their business fundamentals have permanently deteriorated (e.g., fraudulent accounting, a broken business model, a lost competitive advantage).

• Realism: The section acknowledges that even with a good process, not all stocks will perform. A realistic expectation is that out of 5 stocks, 3 will meet your target, 1 will underperform, and 1 will be a star performer.

4. Feeding (Reinvesting for Growth)
This is how you make your garden flourish and grow more robust over time.

• Goal: To accelerate the compounding process.

• Action: Reinvest dividends and capital regularly back into your high-quality stocks. This "feeds" the portfolio, allowing the power of compounding to work its magic, as detailed in Section 5.

5. Pruning (Offensive Management)
This is the advanced, non-urgent work of optimizing your garden for better overall performance. It aligns with selling reasons #3 and #4 from Section 6.

• Goal: To improve the quality and performance of the portfolio.

• Action: Selectively trim and reshape. This involves selling stocks that have become significantly overvalued (even if they are good companies) to free up capital to reinvest in another stock with a better potential return. This is done at leisure to optimize returns, not out of panic.

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Summary of Section 21

Section 21 frames portfolio management as a disciplined, five-step "gardening" process that emphasizes long-term cultivation, defensive protection, and strategic optimization over frequent trading.

• Plan: Have a clear strategy for what you want to buy.

• Plant: Buy high-quality stocks only at prices that offer a margin of safety (using QMV).

• Weed (Urgent): Defensively sell stocks whose fundamental business has permanently deteriorated to protect your capital.

• Feed: Reinvest dividends and capital to compound your portfolio's growth.

• Prune (Leisurely): Offensively sell overvalued stocks to reinvest in better opportunities, optimizing your portfolio's return potential.

In essence, this approach teaches that a portfolio is a dynamic ecosystem that requires ongoing care, not a static collection of stocks. It provides a calm, business-like framework for making decisions, ensuring that every action—whether buying, selling, or holding—is intentional and aligned with the long-term goal of growing a healthy and prosperous "garden."

Definition of Investing by Benjamin Graham.

Definition of Investing by Benjamin Graham.

Elaboration of Section 20

This section serves as a crucial philosophical anchor, returning to the absolute bedrock principle from which all intelligent investing flows. It reposts Benjamin Graham's precise, formal definition of an investment operation to remind the reader of the standard against which all potential investments must be measured.

The definition is broken down into its three non-negotiable components:

1. Upon THOROUGH ANALYSIS
This is the foundation. An investment cannot be based on a tip, a rumor, a gut feeling, or a chart pattern. It demands:

• A Detailed Study: Scrutinizing the company's financial statements, competitive position, industry trends, and management.

• Established Standards: Using reasoned, established standards of safety and value to evaluate the facts.

• Eliminating Speculation: This requirement automatically disqualifies most of what is passed off as "investing" in the public discourse.

2. Promises SAFETY OF PRINCIPAL
This is the primary goal. The number one job of an investor is not to make money, but to avoid losing money.

• Protection Against Loss: Graham clarifies that "safety" does not mean absolute guarantee. It means "protection against loss under all normal or reasonably likely conditions."

• A Safe Investment: Is one where, after thorough analysis, the prospect of losing the money you paid is quite unlikely, barring a disaster.

• Buffett's Rule #1: This is the direct source of Warren Buffett's famous two rules: "Rule No. 1: Never lose money. Rule No. 2: Never forget Rule No. 1."

3. Promises a SATISFACTORY RETURN
The return must be reasonable and relative to the goal of safety.

• "Satisfactory" is Subjective: It can be a low return, as long as it meets the investor's personal objectives and is achieved with "reasonable intelligence."

• Includes Income and Profit: The return can come from dividends, interest, or capital appreciation.

• Not "Maximum" Return: The focus on a "satisfactory" return is key. Chasing the highest possible return almost always involves sacrificing the first two criteria (thorough analysis and safety).

The Critical Corollary: The Cynic's Definition
Graham acknowledges a cynical but insightful view: "An investment is a successful speculation and a speculation is an unsuccessful investment."
This highlights the fine line between the two and how outcomes can blur definitions. However, the intelligent investor does not rely on luck. They rely on a process that maximizes the probability of success by adhering to the three pillars.

The Consequence of Confusion
The section ends with a grave warning: the failure to distinguish between investment and speculation was a primary cause of major market bubbles and crashes (like the 1929 crash). This confusion continues to lead would-be investors into speculative behaviors that jeopardize their capital.

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Summary of Section 20

Section 20 reiterates Benjamin Graham's foundational definition of an investment operation, establishing the three essential pillars that separate true investing from speculation.

• An INVESTMENT OPERATION is one which, upon:

  1. THOROUGH ANALYSIS, promises...

  2. SAFETY OF PRINCIPAL, and...

  3. A SATISFACTORY RETURN.

• Any activity that fails to meet all three of these requirements is, by definition, SPECULATION.

In essence, this section is a call to discipline and intellectual honesty. It forces the investor to constantly ask: "Have I done the work? Is my capital safe? Are my return expectations reasonable?" By returning to this definition, the section ensures that the complex strategies and stock analysis discussed in previous sections are always grounded in the core philosophy of intelligent, business-like, and safe investing.

QMV method (QUALITY, MANAGEMENT & VALUATION)

 QMV method (QUALITY, MANAGEMENT & VALUATION).

Elaboration of Section 19

This section is a deep dive into the practical application of the QMV (Quality, Management, Valuation) method, specifically focusing on the Valuation component. It outlines a disciplined, five-step process used by the National Association of Investors Corporation (NAIC), now BetterInvesting, to determine whether a stock is a good buy at its current price.

The process is a systematic way to calculate a stock's potential return and risk, providing a clear "buy," "hold," or "sell" signal.

Step 1: Projecting Future Earnings (EPS)

• Concept: Because good quality growth companies have consistent and predictable earnings, we can project their earnings per share (EPS) five years into the future.

• Method:

  • High EPS Projection: Take the current EPS and grow it at a conservative, sustainable rate (capped at 20%) for five years. Projected High EPS = Current EPS × (1 + Growth Rate)^5

  • Low EPS Projection: This is a "worst-case" scenario, assuming no growth. The Low EPS is simply the current EPS.

Step 2: Determining Historical Price-Earnings (P/E) Ratios

• Concept: Stocks tend to trade within a historical range of P/E ratios. The goal is to find this "normal" range by looking at the past 5-10 years.

• Method:

  • Calculate the P/E ratio for each historical year.

  • Eliminate extreme outliers (very high or very low P/Es from unusual events).

  • From the remaining data, determine the average P/E, high P/E, and low P/E.

Step 3: Calculating Forecasted High and Low Prices

• Concept: Combine your future earnings projections with the historical P/E range to estimate what the stock price could be in five years.

• Method:

  • Forecasted High Price = Historical High P/E × Projected High EPS (The optimistic scenario)

  • Forecasted Low Price = Historical Low P/E × Current EPS (The pessimistic, no-growth scenario)

Step 4: Determining the Reward-to-Risk Ratio

• Concept: This is where you calculate your Margin of Safety. You compare the potential upside (reward) to the potential downside (risk) from the current price.

• Method:

  • Upside Reward = Forecasted High Price - Current Price

  • Downside Risk = Current Price - Forecasted Low Price

  • Reward/Risk Ratio = Upside Reward / Downside Risk

• The Rule: A intelligent investor should only buy when the Reward/Risk Ratio is greater than 3-to-1. This ensures a wide Margin of Safety.

Step 5: Calculating the Potential Total Return

• Concept: The final step is to check if the investment, at the current price, can meet your overall return objective (e.g., 15% per year).

• Method:

  • Calculate the Average Annual Capital Appreciation based on the forecasted high price.

  • Add the stock's Average Annual Dividend Yield.

  • Total Annual Return = Capital Appreciation + Dividend Yield.

• The Goal: The total return should meet or exceed your target (e.g., >15%).

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Summary of Section 19

Section 19 details a rigorous, five-step valuation process to determine if a high-quality stock is trading at an attractive price that offers both a sufficient margin of safety and the potential to meet desired return goals.

• The Process: The method involves 1) projecting future earnings, 2) determining historical P/E ratios, 3) calculating forecasted price targets, 4) analyzing the reward/risk ratio, and 5) estimating the total annual return.

• The Key Buy Signal: An investor should only commit capital when the analysis shows a Reward/Risk Ratio of at least 3-to-1, ensuring a strong Margin of Safety.

• The Ultimate Goal: The stock must also show the potential to achieve your target Total Annual Return (e.g., 15%), combining both price appreciation and dividends.

In essence, this section provides the "how-to" for the V in QMV. It transforms the abstract idea of "value" into a concrete, quantitative decision-making tool. This disciplined process prevents overpaying for even the best companies and instills the patience to wait for the right price, which is the hallmark of an intelligent, business-like investor.

Be a stock picker – bottom-up approach.

 Be a stock picker – bottom-up approach.

Elaboration of Section 18

This section champions the "bottom-up" investment approach and provides a powerful visual demonstration of its long-term success. It reinforces the core philosophy that investing is about owning wonderful businesses, not just trading pieces of paper.

1. The Bottom-Up Approach Explained
The "bottom-up" approach is the antithesis of trying to time the economic cycle or predict the stock market's overall direction (a "top-down" approach). Instead, it involves:

• Focusing on Individual Companies: The investor dedicates all their analysis to finding and understanding specific, excellent companies.

• Ignoring Macro Noise: The investor disregards short-term economic forecasts, market forecasts, and daily news cycles that cause volatility.

• Thinking Like an Owner: The investor asks, "If I could buy this entire business outright, would I be happy to own it for the next 10 years?" If the answer is yes, they are a candidate for investment.

2. The Hallmarks of "GREAT" Companies
The section provides concrete examples (like Coca-Cola, Johnson & Johnson, and Walmart) to illustrate the characteristics of the businesses worthy of a bottom-up approach. These companies typically have:

• Durable Competitive Advantages (Moats): Strong brands, pricing power, and business models that are difficult for competitors to disrupt.

• Consistent Earnings Growth: A long and predictable history of increasing profits.

• Global Reach and Recognition: They are leaders in their industries.

3. The Golden Rule of Buying: Price Matters
A central theme is reiterated: It is dangerous to buy even the best companies at excessively high prices. The section provides a critical hierarchy for purchase:

• GREAT Prices: Rare opportunities, usually during major market crashes (e.g., 2008). This is the ideal scenario.

• FAIR Prices: The most common opportunity for an investor. Wonderful companies are rarely cheap, but can often be bought at a reasonable valuation.

• The Buffett Principle: "It is better to buy a wonderful company at a fair price than a fair company at a wonderful price." This emphasizes that quality should be prioritized, but price discipline must never be abandoned.

4. The Long-Term "Buy and Hold" Strategy
The charts of these great companies show one common feature: despite short-term volatility, their long-term trajectory is decisively upward. This validates the strategy of:

• Buying Regularly: Using techniques like dollar-cost averaging to build a position over time.

• Holding Until Fundamentals Change: Selling is not triggered by a price drop or a market correction. The only reason to sell is if the company's underlying competitive advantage (its "moat") erodes.

• Benefiting from Capital Gains and Compounding: Those who bought and held these companies over the long term enjoyed significant wealth creation through both rising share prices and the power of reinvested dividends.

5. The Disclaimer and the Reality
The section wisely includes a disclaimer, noting that the mentioned stocks are for educational purposes and not direct advice. It also acknowledges that investing is often a "lonely journey," as this disciplined, long-term approach often goes against the crowd's short-term, speculative behavior.

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Summary of Section 18

Section 18 advocates for a "bottom-up" stock-picking approach, where the investor focuses on identifying and owning a select group of "GREAT" businesses for the very long term, rather than trying to time the market.

• Core Strategy: Be a stock picker. Ignore macro-economic noise and focus all analytical effort on finding exceptional individual companies with durable competitive advantages.

• The Buying Hierarchy: You can buy great companies at GREAT prices (rare), FAIR prices (common and acceptable), but should NEVER buy them at HIGH prices.

• The Holding Strategy: Buy and hold these wonderful businesses indefinitely, allowing compounding to work. Only sell if the company's fundamental competitive position permanently deteriorates.

• The Outcome: This disciplined approach of owning high-quality assets through market cycles has proven to be a successful path to long-term wealth creation, as illustrated by the long-term charts of iconic companies.

In essence, this section teaches that successful investing is not about being a brilliant economist or market timer, but about being a shrewd business analyst and a patient part-owner of world-class enterprises.

Finding good quality growth companies

 Finding good quality growth companies.

Elaboration of Section 17

This section introduces a powerful and simple visual technique for identifying the hallmark of a superior investment: a good quality growth company. It moves beyond complex financial ratios and provides a clear, at-a-glance method to assess a company's fundamental health and consistency.

The core of this section is the use of a logarithmic (log) scale chart to plot a company's key financial metrics over time.

1. The "Tramline" Chart: A Picture of Quality
The ideal chart for a good quality growth company displays two parallel, upward-sloping lines:

• Line 1: Revenue (The Top Line): This represents the total amount of money the company is bringing in from its business activities.

• Line 2: Earnings Per Share - EPS (The Bottom Line): This represents the company's profit after all expenses, taxes, etc., divided by the number of shares. It's what ultimately belongs to the shareholders.

2. What the Chart Reveals
When these two lines are parallel and sloping upwards on a log scale, it tells a compelling story about the company:

• Consistent and Predictable Growth (>15%): The upward slope indicates the company is growing. A log scale shows compound growth rates. A straight line on a log chart means a consistent percentage growth year after year. The section specifies a target of >15% per year.

• Quality of Growth: The fact that the lines are parallel is critically important. It means that as revenue grows, earnings are growing at the same rate. This indicates that the company is maintaining or even improving its profit margins. It is becoming more efficient, not just bigger.

• Management Excellence: Maintaining parallel lines requires skilled management to control costs and scale the business effectively without sacrificing profitability.

3. How to Use This Tool
This visual method serves as an incredibly efficient initial screening tool.

• A "Yes" Signal: A chart showing two clean, parallel, upward-sloping tramlines immediately flags a company as a potential high-quality candidate worthy of deeper investigation (the QMV analysis from Section 16).

• A "No" Signal: The section provides examples of charts to avoid—those with erratic, flat, or declining lines, or where the revenue and earnings lines are not parallel (indicating shrinking margins).

4. Evaluating Management: The Financial Ratios
The section also briefly touches on the quantitative side of assessing "Quality of Management," linking back to Buffett's criteria:

• Profit Margins: Must be better than competitors and, more importantly, must be maintained or improving over time.

• Return on Equity (ROE): This is a key metric. The section highlights that Buffett looks for consistent ROEs of >15% yearly.

  • ROE = Earnings / Shareholders' Equity. It measures how efficiently a company generates profits from every dollar of shareholders' capital.

  • A high and stable ROE is a strong indicator of a durable competitive advantage and capable management.

5. The Malaysian Context
The section concludes with an encouraging note that while such companies are rare, they do exist in the Malaysian market (Bursa Malaysia). The challenge for the enterprising investor is to find them.

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Summary of Section 17

Section 17 provides a simple yet powerful visual technique for identifying good quality growth companies by plotting their revenue and earnings per share on a log scale chart to reveal consistency, predictability, and fundamental health.

• The Ideal Pattern: Look for a chart where the revenue and EPS lines are parallel and slope upwards at a consistent rate (ideally >15% per year). This "tramline" pattern signifies strong, profitable, and well-managed growth.

• What It Indicates:

  • Consistent Growth: The company is expanding predictably.

  • Maintained Profitability: The company is controlling costs as it grows, preserving its profit margins.

  • A Well-Oiled Business: It is a sign of a durable competitive advantage and excellent management.

• Supporting Metrics: Management quality is further confirmed by a consistently high Return on Equity (ROE >15%).

In essence, this section teaches that you can often "see" quality before you calculate it. This visual filter allows an investor to quickly separate the exceptional, compounding machines from the average or struggling businesses, focusing their deep analytical efforts only on the most promising candidates. It is a practical application of looking for the "Great" businesses Buffett describes.