Stock Investing For Beginners Print

STOCK INVESTING FOR
BEGINNERS
FANTASTIC MOATS AND WHERE TO FIND THEM –
HOW TO BEAT THE MARKET YEAR AFTER YEAR &
ACHIEVE FINANCIAL FREEDOM BY INVESTING LIKE
THE BEST IN THE WORLD
FREEMAN PUBLICATIONS
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CONTENTS
Identifying what defines a “great company” 9
1. Why Do Moats Matter? 13

2. How to Spot Moats 17
3. The Legal Protection Moat 27
4. The Morally Dubious Moat 40
5. The High Switching Costs Moat 57
6. The Network Effects Moat 70
7. The Regulation Moat 82
8. The Pricing Power Moat 93
9. The Brand Power Moat 110
10. The Unsexy Moat 118
11. What Is Not A Moat? 126
12. Do All Moats Erode Over Time? 133
13. Adapting Your New Found Knowledge in Your Own 138
Investing Process
Conclusion 145
Continuing Your Journey 149
References 151
Other Books by Freeman Publications (available on 163
Amazon & Audible)
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IDENTIFYING WHAT DEFINES A
“GREAT COMPANY”
In his seminal work on growth investing, legendary fund manager,

Terry Smith, who has often been dubbed “The British Warren
Buffett”, stated that you could summarize his investment philosophy
in a single sentence:
“Buy great companies, don’t overpay, do nothing.
Smith is one of the best “under the radar” investors of modern times.
His Fundsmith Equity Fund has an annualized rate of return of 18.9%
over the past 11 years (or 550% total returns if you’re into big
numbers). That’s 50% higher than the broad market over the same
period.
And he’s done so by focusing on buying companies that can ensure

long-term value appreciation, rather than on any kind of Wall Street
gimmicks.
9
ID E N T I F Y I N G W H A T D E F I N E S A “ G R E A T C OMPANY”
At Freeman Publications, we’ve adapted many of Smith’s approaches

to finding those under-the-radar companies with potential 10X
returns over the next 10 years.
We’ve done well thus far. At the time of this writing, we are outper‐
forming the S&P 500. More importantly, we are doing so in a way
that focuses on transparency of process as well as transparency of
results.
Note: If you’re interested in our performance or current stock recom‐

mendations, you can view these on our website at https://
freemanpublications.com/tracker.
Now in order to identify these “great companies”, we believe, the best

way is to focus on economic moats.
If you’re unfamiliar with the term, it is most commonly attributed to

Warren Buffett and refers to a businesses’ ability to maintain a
prolonged competitive advantage over its rivals. For individual
investors, this translates to an investment that produces outsize
returns over a long period of time.
If you look at the top 5 stocks in the world by market capitalization

right now, those being Apple, Google, Amazon, Facebook and
Microsoft, you will see that all 5 of these meet the moat criteria we’re
going to lay out in this book. Our perspective is qualitative and quan‐
titative (yes, you can quantify moats — and we’ll do so later on in this
book). It’s not a coincidence that these companies benefit from
economic moats: You don’t become a literal trillion dollar company
without some sort of sustainable competitive advantage.
10
I D E N T I F Y I N G W H A T D E F INES A “GREAT COMPANY”
But I’m guessing you didn’t grab a copy of this book to find out about
the largest stocks in existence. If you’re like me, you’re more likely to
focus on finding “The Next Amazon”. That’s why we’ve developed our
own process – a process that has allowed us to identify stocks like
Crocs (yes, the plastic shoe company), B. Riley Financial, and Semler
Scientific. All 3 of these have earned our readers significant sums of
money through our recommendations, made after they passed our
moat criteria.The best part of this process is that it isn’t exclusive to a
particular industry, sector or country. Sustainable competitive advan‐
tages are a truly global phenomenon, and one you can profit from, no
matter where you invest your money.
So strap yourself in, grab a beverage of your choice and over the next
couple of hours we’re going to give you the step-by-step process for
identifying the 7 types of moats that we here at Freeman use to
examine companies, looking for those likely to be “the next Amazon”:
those with economic moats.
To your success and wealth,
Oliver El-Gorr,
Founder & CEO, Freeman Publications
11
1
WHY DO MOATS MATTER?
“No formula in finance tells you that the moat is 28 feet

wide and 16 feet deep. That's what drives the academics
crazy. They can compute standard deviations and betas, but
they can't understand moats.”
— WARREN BUFFETT, FAMED INVESTOR
I f you had to guess how many mutual fund managers have beaten
the market over the past 15 years, what would you say? Remem‐
ber, these are the best and brightest minds that “professional invest‐
ing” has to offer.
75%?
13
FR E E M A N P U B L I C A T I O N S
50%?
Nope, not even close.
25%?
10%?
Nope.
Over the past 15 years, only 7.69% of mutual fund managers have
beaten the market.
That’s 1 in 13
Which is kind of insane…
Because in any other field if less than 8% of the professionals

performed above the average…
Well, we’d have to reevaluate what “average” even means, wouldn’t

we?
But in investing, we simply let this kind of behavior slip by.
Now, why is it that some professional investors like Terry Smith and
Warren Buffett can beat the market when other “professionals” do
not? We believe it all comes down to moats! Companies with
economic moats beat the market; every smart investor (on both the
individual and institutional side of things) knows that. However, as
Buffett said, a moat does not lend itself to quantitative measures, and
some “professionals” feel tied, as Buffett said, to “standard deviations
and betas.”
14
S T O C K I N VESTING FOR BEGINNERS
However in 2012, when financial research firm Morningstar released

their MOAT index, we investors, for the first time, began to have a
benchmark to track performance. Consisting of 50 stocks considered
to have wide moats, the index itself has handily trounced the S&P 500
since its inception. It’s not perfect by any means (for example, it is far
too light on technology stocks due to outdated valuation measures),
but it has served as a “4 minute mile” for moat investors, and further
demonstrates the importance of moats.
As we move further on in this book, we’ll introduce our own moat

criteria and a superior moat investing strategy. But first, let’s go back
to basics – what exactly is an economic moat?
An economic moat is an advantage or a set of advantages that protects

a business from the competition, helps it scale new heights and grow,
and stabilizes its operations even during adverse market conditions. A
moat is difficult to replicate by competitors because it usually repre‐
sents a variety of advantages, such as brand power, pricing power,
legal protection, network effect, unsexiness (yes, you read that right!),
and more.
A majority of the top 100 companies sorted by market capitalization

are ring-fenced by some kind of economic moat. Most of the compa‐
nies that are protected by moats enjoy years of revenue and profit
growth, and remain largely unaffected by the competition, no matter
how intense it may be.
A note on the COVID-19 Disruption Impact
COVID-19 has disrupted the way we live and has brought many
changes in the way we do business. Suddenly, people want to shop for
15
groceries, consult doctors and learn online, companies are busy

strengthening their supply chains, businesses want their employees to
work from home for a few days every week, people are becoming
more health-conscious, banks are going digital, and more.
No filter in the financial universe can help you to judge COVID-19’s

impact on a company’s economic moat. You need to combine your
intelligence, experience, and street-savviness to judge how far the
company’s business has been disrupted by COVID-19.
So, moats matter, and this book will identify strong-moat companies
and help you see common threads that will enable you to discover
others with potential. Most of the companies discussed here are
defended by deep and wide moats; some discussed will provide
contrast. I am sure this book will give you a fair idea of how compa‐
nies exploit moats to their advantage.
Investors who can spot and analyze a robust moat can go on to either
make a fortune from gains in the stock price or at least end up earning
handsome dividends, or both. Now let’s look at some moat-spotting
tools.
16
2
HOW TO SPOT MOATS
A lbert Szent Gyorgi, the legendary biochemist who

successfully isolated Vitamin C, once said, “Discovery
consists of looking at the same thing as everyone else and thinking
something different”.
Well, this book does the same thing. It helps readers to gaze at the
same stock universe, and yet think differently and pick the stocks that
are surrounded by deep and wide moats.
Economic moats cannot be expressed in terms of money, but they can

be measured by applying some qualitative and quantitative metrics.
Once you start looking for moat companies, you will need to do some
finance research. Start with the company’s website. Look for an
Investors’ presentation. Read the company’s annual 10K report to the
Securities and Exchange Commission. Find sites that help you assess
customer reactions to the products/services. Look on your broker’s
17
platform – many offer links to research information, and many will

provide the calculations for the quantitative checks mentioned below
in Section C.
Here are initial questions to ask yourself in evaluating potential

investments in companies with economic moats
A. BASIC QUALITATIVE QUESTIONS TO ANSWER
1. Can you understand the company’s business model?

2. Where do the company’s revenues come from?
3. What are its best-selling products or services?
4. Does the company operate in a growth sector?
5. 5. What is the level of competition that the company faces?
6. Who are the company’s biggest competitors and how strong
is that competition?
7. How is the company innovating or bettering its
products/services?
8. Do customers complain often about the company’s
products/services?
9. Does the company’s app/website have a high rating?
10. Do customers speak well about the company’s
products/services on social media?
11. Is the company professionally managed?
If you can understand the business model, and the answers to the
other questions are favorable, then you can apply a few advanced
qualitative checks to assess the strength of the company’s economic
moat.
18
B. ADVANCED QUALITATIVE CHECKS
1. Look for features of the business that enables the company to

easily retain its existing customers and get new customers
walking in through the door. Examples include: a valuable
brand with loyal customers who keep recommending it to
their friends; high switching costs (that deter customers from
moving to competitors); a service that helps combat the
harmful effects of climate change; or fire protection such as
the ones available to utility companies;
2. Look for “pricing power”. With this power, companies can
command higher prices than their competitors, for example,
Apple versus Android devices. Be careful, though. Stock
pickers must pay close attention to whether the company is
in the habit of jacking up prices at the slightest provocation.
If so, then it is likely that the moat has started eroding.
3. Look for legal or government “protection” of the business or
product. For example, patents give businesses a certain level
of legal protection from competition. Investors should also
check expiration dates. If a patent helps the company
manufacture a unique and valuable product, and has a lot of
life left, then the company should benefit massively during
the lifetime of the patent. For example, pharmaceutical
companies and IT companies offer products and services that
are protected by patents.
19
C. QUANTITATIVE CHECKS
Before applying the following quantitative checks, figure out what

stage of a moat the company is in – emerging, enduring, or eroding.
Remember that some of these checks may not apply to companies that
are in the emerging moat state – but no worries, the last 2 items in
this section will help.
1. Return on Equity (ROE)
Strong companies can generate – with unfailing consistency – a solid

return on their equity capital. Equity, or more specifically, sharehold‐
ers’ equity, is calculated by adding the retained earnings to the paid-in
capital, and you can calculate ROE by using the formula:
ROE = Annual Net Income ÷ Shareholder’s Equity
For example, in the 2020 fiscal year, Apple (AAPL) earned $57.81
billion in net income, and had $65.34 billion in shareholder equity.
Giving an ROE of 89.4%.
ROE measures the profit generated per dollar of shareholder’s equity.

An ROE that keeps rising year over year implies that the company is
efficiently utilizing its shareholder’s money to generate a superior
return.
Naturally, any company that is fenced by an economic moat should be

able to keep generating a higher ROE over time. Investors need to
benchmark ROE with the sector median and with the company’s
historical ROE to confirm that it outperforms the competition and is
20
chugging on nicely on a growth path. You should be looking for an

amount greater than 15%.
2. Return on Assets (ROA)
ROA measures the efficiency of a company’s investment in assets and

their deployment. Naturally, when a company buys productive assets
and utilizes them effectively, their returns should increase year over
year – more so if the company is protected by an economic moat. The
basic calculation is:
ROA = Annual Net Income ÷ Average Total Assets Owned

by the Company
The total assets owned by the company are often calculated using the
company’s Balance Sheet:
Total Assets = Total Liabilities + Shareholder’s Equity
The average is simply (Assets at the beginning of the period + Assets

at the end of the period) ÷ 2
As with ROE, investors should benchmark a company’s ROA with the

sector median and its historical ROA. A minimum acceptable return
is 6%.
For Apple, the 2020 ROA was a healthy 17% (57.81B in net income
dividend by 323B in total assets)
21
3. Return on Capital Employed (ROCE)
This is our favorite, and often regarded as the best, metric that
measures the strength of a company’s moat and its efficiency in using
current and fixed assets to generate profits. ROCE also reflects how
efficient the company management is in managing its near-term
payables. Here is how it is calculated:
ROCE = EBIT (Earnings Before Interest & Taxes)÷ (Total

Assets – Current Liabilities)
This ratio signals how efficiently a company uses its entire universe of
assets (fixed and current), net of its current liabilities (liabilities that
should be paid in the near term), to generate an EBIT.
A consistently higher ROCE year over year, and one that is above the
sector median, suggests that the management is resourceful; has
deployed its fixed and current assets wisely; manages its working
capital efficiently; and can generate healthy profits that keep growing
every year. Of course, this suggests that the company is surrounded by
a deep and wide moat. For stocks to meet our moat criteria the
minimum ROCE is 10%.
Apple’s 2020 ROCE was 46.28% and the company has averaged on
ROCE of 29.7% over the past 5 years.
To summarize, our benchmarks for these top 3 quantitative

checks are:
Return on Equity > 15%
22
Return on Assets > 6%

Return on Capital Employed > 10%
4. Revenue Growth
A company needs to grow to survive. Year over year revenues should

be increasing by a minimum of 10% in low-inflation environments
(and this figure should be significantly higher for younger companies,
especially in high-margin industries like software and cloud
computing).
5. Positive Cash Flows
Figure 1: Apple’s Operating Cash Flow over the past 5 years (Source:
Ycharts)
Does the company generate healthy operating cash flows year over
year? Operating cash flows display how much cash a business gener‐
23
ates from its core business activities (as opposed to borrowing money
or issuing new stock). You can find these in the cash flow statement of
a company’s annual report, or in the financials tab of websites like
Yahoo Finance. For companies to meet our criteria, it’s likely that
operating cash flow will be trending upwards.
6. Operating Margins
Figure 2: Comparing the operating margins of large and mid-cap

companies in the restaurant industry (Source: Ycharts)
Operating margins refer to how much a company makes after adding

variable production costs such as a labor and materials, but before
items like interest or tax payments. To achieve pricing power, a
company’s operating margins should be higher than the sector
median. This is important because a company protected by a moat
24
enjoys pricing power and brand-related advantages, and therefore can

easily generate higher margins than its competitors.
7.Investor Returns
Investors expect to be rewarded – either by an increase in the price of

the stock, or through dividends. If the stock price has been stuck in a
groove for a long time, then the company’s dividend should be
handsome.
8. Enduring Moats
If the company has been protected by an economic moat for a long

time, its retained earnings should be several times that of its paid-in
capital. Plus, it should be regularly amortizing its intangible assets
(especially because its economic moat is aging).
9. Emerging Moats
In the case of emerging moats, look for one or more of the following
signs: heavy investment in R&D or acquisitions; strong intangible
assets/patents; institutions, and retail investors rushing in to buy the
stock; high gross margins but low or negative net income margins
(because these are the formative years); growing capacity utilization;
and growing market share.
Summing Up
Applying these qualitative and quantitative checks will help you spot
an economic moat surrounding a company. Further chapters in this
book will then help you determine how strong, deep, wide, and
durable the moat is.
25
We live in a very disruptive era in which technology, consuming

habits, and the way we do business can all change within the blink of
an eye. If in this environment, you can invest in a company that is
protected by a strong economic moat, you’ve got it made.
Now that you understand what a moat is, and how a company
achieves one, we’re going to go one level deeper and explore the 7
types of economic moats that exist in the market today.
26
3
THE LEGAL PROTECTION MOAT
“A patent, or invention, is any assemblage of technologies or

ideas that you can put together that nobody put together that
way before. That's how the patent office defines it. That's an
invention.”
— DEAN KAMEN, SEGWAY INVENTOR, AND

HOLDER OF MORE THAN 1000 PATENTS
B ackground
Entrepreneurs, discoverers, and creators leverage their knowl‐

edge and expertise to create a product, service, trade secret, or process
that can help them succeed in business. To ensure that their invention
27
or expertise cannot be replicated, they often protect it by registering

their idea as a copyright, patent, or trademark.
Copyright protects books, articles, songs, and other works of art, a

patent protects processes and products, while a trademark ensures
that the buyer can easily identify the seller who is either the first
mover or a supplier that the buyer trusts (Copyright Alliance, 2021).
If the US Patent and Trademark Office (USPTO) is convinced that an
invention is novel, unique, and helpful, it grants a utility patent to
products or methods for 20 years (Westchester Magazine, 2012).
Copyright protection lasts for the entire lifetime of the creator plus an
additional 70 years. A trademark can last forever so long it is renewed
periodically with the USPTO and the company’s business is not shut
down.
Patents and copyrights stop competitors from creating anything that

matches the patent’s description/copyright without asking for permis‐
sion. Companies and entrepreneurs keep filing for patents every year.
In 2020 the top 10 patent kings in the U.S. were: IBM, Samsung,
Canon, Microsoft, Intel, Taiwan Semiconductor Manufacturing, LG
Electronics, Apple, Huawei, and Qualcomm (Statista, 2021).
This legal protection helps entrepreneurs or companies protect ideas

from being copied. It builds a wide and deep economic moat around
their business, so long as the idea or innovation is valuable to their
clients. Patents come with a unique set of pros and cons, and
these are:
28
Pros of Legal Protection
1. If the product, process, or service is valuable, a patent can

create a huge market for it.
2. It encourages other innovators to create novel products or
processes built around science, technology, and arts – the
society too benefits by getting access to exciting,
entertaining, or helpful innovations.
3. It spurs investment activity because venture capitalists and
investors get attracted to the idea and rush to grab a piece of
the action.
4. It allows companies to keep product prices high for a long
time because the legal wall keeps competitors at bay.
Cons of Legal Protection
1. Obtaining a patent is a complex process and an application

can get wrapped up in red tape.
2. Though patent filing fees are minuscule, patent lawyers are
expensive, and a good lawyer charges about $300 to $800 per
hour, depending on the city you are in (UpCounsel, 2020).
3. Finally, when a product or process catches on, competitors
get attracted and they try to twist the patent laws. The onus
is on the patent owner to protect his intellectual property,
which involves tracking the competition and filing lawsuits
to restrain them from using his idea.
29
Despite the disadvantages, there is no denying that a patent builds a

wide economic moat around a company. The biggest beneficiaries of
this type of economic moat are pharmaceutical companies. Such
companies take a long time and intense research to develop and
commercialize novel drugs or other products, and for this reason,
they need that tall and wide patent protection.
Let us now dive into the finance world and check how the legal
protection moat helped companies like DermTech, AbbVie, Pfizer,
and The Walt Disney Company.
DermTech (DMTK)
Figure 3: DermTech’s stock price from Oct 2020-October 2021, total gains
of 171% (Source: Ycharts)
DMTK was listed on the NASDAQ in 2019 after effecting a reverse

merger with Constellation Alpha Limited. Its legally protected inno‐
vation is a no-scalpel test for skin cancer, also known as the Derm‐
30
Tech PLA (Pigmented Lesion Assay). The product holds huge

promise because about 3.5 million pigmented lesions are assessed in
the U.S. every year by way of surgical biopsy for melanoma. DMTK’s
product detects melanoma at an early stage without requiring any
incision (Whitlock, 2019).
DMTK’s price hovered in a narrow range between $11 and $13 after
listing. Then in December 2020, the company launched a PLA sticker
that could detect melanoma. With the news, the stock zoomed like a
rocket and hit about $80 in February 2021, gaining about 500% in a
space of 2 months. Profit-taking has brought the price down and was
floating around the $31 mark as of October 18, 2021.
Figure 4: DermTech’s Income Statement across the last 7 quarters (source:

Ycharts)
Ever since DMTK introduced the PLA sticker, its sales have jumped.
In Q4 2020, it reported revenues of $2.12 million, an increase of about
55% as compared to its Q3 2020 revenues of $1.36 million. In Q1
2021, the company reported revenues of $2.52 million, a jump of
about 19% over its Q3 2020 revenues.
31
However, this is a young company that invests heavily in SGA (Sell‐

ing, General & Administrative) and R&D expenses, resulting in
reported losses, that are increasing. The rewards of the R&D invest‐
ment should be realized in the long run, but for the moment, it does
seem that the market is waiting for the company to show a profit.
This is one where the Covid-19 impact could be considerable – how
many people have postponed doctors visit during the pandemic? And,
therefore, how many PLA tests have not been applied? For now,
DMTK is boosting its marketing in order to “get the word out” on the
advantages of their products. Once the SG&A amounts as a percent of
revenue start to decline, and the company starts reporting profits, we
expect the moat effect to help cause the stock to rise in price.
AbbVie (ABBV)
Figure 5: AbbVie’s total returns of 206% since the company was spun out of
Abbott Laboratories (Source: Ycharts)
32
ABBV adopted a fierce and aggressive legal strategy to build a thick

and tall patent wall around its bestselling drug, Humira, used in the
treatment of rheumatoid arthritis. By 2018, the company had filed 247
patents for Humira that could get it 39 years of protection. The
company also raised the drug’s price by 144% between 2012 and 2018.
It has mimicked the same strategy for its other drug, Imbruvica,
which is used in the treatment of adult patients suffering from chronic
lymphocytic leukemia (CLL)/small lymphocytic lymphoma (SLL).
ABBV was listed as a publicly-traded company in 2013 and has gained

about 206% in 8 years. This is a great return made greater when you
add the fact that the company has paid dividends consistently since
2013 (SeekingAlpha, 2021). What’s even better is that ABBV’s divi‐
dend payouts are increasing year-over-year – its 5-year dividend
growth rate is a whopping 18.09%.
ABBV’s price took off in late 2019. Given its aggressive patent strat‐
egy, the company still has many years of growth left in its business
arsenal. The company’s annual results prove how research and patent
power can help a company’s business gather momentum.
Figure 6: Abbvie’s Income Statement over the past 10 years (Source:

Ycharts)
33
Though ABBV spends heavily every year on R&D, it went that extra
mile in 2018 when it doubled its annual R&D spend from $5 billion in
2017 to $10.3 billion in 2018, a jump of more than 100%. That extra
spend, coupled with its earlier research spends, helped the company to
increase its sales from about $33 billion in 2019 to about $46 billion in
2020.
ABBV reported a near-double jump in operating income in 2019

($13.4 billion as compared to $6.8 billion in 2018). However, in 2020
it reported a slightly lower operating income of $12.5 billion,
primarily because SGA expenses had almost doubled from $6.9 billion
in 2019 to $11.3 billion in 2020.
The takeaway here is that 2018’s R&D expenditures hit operating

income and management acted. ABBV has tapered its R&D expenses,
maybe because it is in a position to capitalize on its inventions, and is
now pumping money into SGA expenses to boost sales – and no one
can touch it as it is legally protected, for now.
Pfizer (PFE)
PFE manufactures and markets more than 300 drugs, but we will
focus on just one of its patents, Lipitor, (atorvastatin, a drug that is
used to lower abnormal cholesterol buildups) to illustrate how its legal
protection moat helped the company.
PFE launched Lipitor in 1996, and, along with aggressive advertising,

the legal protection moat enabled the drug to enjoy a long solid run.
By 2011, when the patent expired and PFE lost the exclusivity, the
drug had already helped the company amass cumulative sales of $118
34
billion (Mehta, 2011), despite the presence of some other statins in

the market.
PFE was smart enough to authorize generics deals before its patent
expired, on which it received substantial royalties. Then, after the
patent expired, PFE dropped the price of Lipitor to such low levels
that new generic makers found it tough to match. Finally, PFE began
offering incentives to the product’s users (a smaller co-payment and
direct delivery of the drug). (DeGuillo, 2011). Suffice to say, its post-
patent strategy worked wonders too.
Figure 7: Pfizer’s Income Statement over the past 10 years (Source: Ycharts)
Today, with many generics and competitors flooding the market,

Lipitor is fading. In 2019, Pfizer reported revenues of $41 billion, of
which Lipitor revenues were just $2 billion, or about 5% of Pfizer’s
total sales (Statista, 2021). Though the contribution seems small, we
must take into account the massive advantages that Lipitor’s patent
gave Pfizer, right until the company lost its exclusivity, as well as the
steady contribution that the brand will keep making until the day
statins go out of fashion, or another wonder drug is discovered.
35
The Walt Disney Company (DIS)
DIS’s growth and success story was possible because the company
protected its Intellectual Property (IP) legally. The company has built
an empire on a foundation of fictional characters ranging from
Mickey Mouse to Snow White to all the Jungle Book characters –
characters that no other company could use anywhere.
Though DIS had its rough days, its copyrighted portfolio of lovable
fictional characters and its delivery channels of media technology,
studio entertainment, provided direct to customers (D2C), helped it
grow from strength to strength.
Armed with a globally popular portfolio of copyrighted fictional char‐

acters, DIS built on its strengths by acquiring Twenty-First Century
Fox in 2019, and with this one acquisition, the game completely
changed for DIS.
As a result of this acquisition, DIS now owns ESPN, National

Geographic, Disney Streaming Service, a stake in Hulu, Fox’s proper‐
ties, including its TV channel, films, broadcast businesses, and
network assets, Endemol Shine Group, and more, apart from its
fictional characters, theme parks, merchandising business, and other
assets (The Walt Disney Company, 2019).
Prior to acquiring Twenty-First Century Fox, DIS had acquired a

whole basket of properties that were protected by copyrights, the
most prominent ones being Pixar (2006), Marvel (2009), and Lucas‐
Film (2012). Disney’s characters plus these acquired ones plus the
wide range of delivery mediums have turned DIS into a media giant
and there seems to be no looking back (Wikipedia, 2021).
36
Figure 8: Disney’s Income Statement over the past 10 years (Source:

Ycharts)
DIS has been steadily building on its acquisitions, and now after
buying Twenty-First Century Fox, and with the economy getting
back on track, we believe the company is likely to experience explo‐
sive growth in the medium to long term. For the record:
DIS’s revenues increased from about $59 billion in 2018 to about $70
billion in 2019, reflecting the incremental revenues from the Twenty-
First Century Fox acquisition. Its operating profit increased from
about $12 billion in 2018 to about $16 billion in 2019. In 2020, the
company reported lackluster revenues (about $65 billion), but did
report some growth in operating profits (about $18 billion vs. about
$16 billion in 2019). Its 2020 revenues were hit because COVID-19
adversely impacted a number of its businesses.
Disney’s stock price has gained 403% in the last decade, but as we have
analyzed, the company acquired many significant assets during this
period. Our view is that DIS is at an inflection point, and once the
world is able to move past the pandemic, with business is back to
normal, the company will experience a period of solid growth.
37
Figure 9: Disney’s explosive 403% returns over the past 10 years (Source:
Ycharts)
Summing Up
The case studies discussed above hold many lessons for investors who
are interested in finding companies protected by deep and wide
economic moats. Of all the economic moats, the legal protection moat
might be the best, in light of the following:
1. Legally protected companies can focus on research,

innovation, and marketing, without worrying about the
competition eating into their space.
2. The moat allows companies to increase prices, and therefore,
also profits and sales (example: ABBV).
3. Any new product or variant launch is greeted enthusiastically
by stock market investors (example: DMTK).
4. Companies can fortify their balance sheets during the
protected period and spend resources either on new products
38
or acquisitions, or on beefing up their intangible assets by

investing in R&D (example: Pfizer).
5. The moat helps companies build up cash reserves that can be
used to acquire other companies with synergies (example:
Disney).
If any investor discovers a company that is fortified by this moat, and

if data suggest that the company owns a valuable product or service
that is legally protected for the next few years, the investor should
consider parking a part of his funds in it. Such companies can go on to
become either multibaggers in the long run or solid income stocks
that reward their shareholders with handsome dividends and regular
buybacks.
39
4
THE MORALLY DUBIOUS MOAT
“I have a hard time with morals. All I know is what feels

right, what's more important to me is being honest about
who you are. Morals I get a little hung up on.”
— BRAD PITT, FAMED ACTOR
B ackground
Morality has very brittle support levels in the stock market,

where investors are more interested in chasing money than worrying
about vices. Most investors don’t care about how sinful the company’s
business model is so long it pays handsome dividends or is treading on
a growth path. Companies that are into liquor, gambling, tobacco,
adult services, or other vices are usually preferred by investors
40
because they pay handsome dividends and their stock prices keep
increasing at a reasonable CAGR (Compounded Annual Growth
Rate).
What is enabling such companies is a deep and wide morally dubious

moat.
Once a company establishes a name for itself, or a brand, in a vice

business, it can enjoy a full- or a near-monopoly status for a long
time. Not everyone can launch such businesses, the markets are
restricted, and such businesses are usually untouched by economic
slowdowns. The dubious morality moat comes with its own set of
pros and cons, and these are:
The Pros
1. The morally dubious moat protects businesses from

economic downturns – and that is its biggest strength.
People don’t give up smoking, gambling, or drinking when
the economy is hurtling down – rather they may increasingly
resort to these activities during bad times. And companies
dealing in sin goods can end up outperforming the indices
during a downturn (Kanuri, 2016).
2. Such businesses are highly taxed and tightly regulated.
Though this seems like a disadvantage, it also restricts the
competition from jumping into the fray.
3. Stocks of such companies are mostly available at reasonable
valuations even in a booming market, which makes them a
compelling investment for dividend investors during such
times.
41
4. As their downturn is protected, such stocks make for a

relatively risk-free investment.
5. These companies are known for their consistency of
dividend payouts and a healthy dividend yield.
The Cons
1. 1The advantage of heavy taxes and strict regulations imposed

on such companies may sometimes turn into their
disadvantage. For example, if the company’s management
makes one mistake, the authorities can penalize it harshly.
2. The burden of being socially responsible is growing by the
day, especially after COVID-19 disrupted our lives. These
days, fund managers, and also many investors, resort to
moral screening to filter out stocks that are into vices. Even
coal mining is being regarded as a climate-unfriendly (but
currently necessary) business. Fund managers screen for
stocks that are high on the ESG (Environment, Social &
Governance) metric. Funds that operate in niche sectors too
have started avoiding sin stocks. A 2020 survey reveals that
45% of the fund managers surveyed said they prefer ESG-
friendly stocks, 30% preferred thematic investments, but
restricted their stock picks mostly to companies that
promoted gender diversity or were into renewable energy,
while 25% said they use negative screening to filter out sin
stocks (Boyde, 2020) Therefore, though protected by the
morally dubious moat, sin stocks have very few takers these
42
days, and this lack of interest can lead to a drop in their

prices in the long run.
3. Fund managers and brokers also do not recommend such
stocks to their clients because they fear a backlash. With that
said, sin companies are still doing good business even though
the demand for their stocks is ebbing. The morally dubious
moat will protect them until vice completely goes out of
fashion – and we know that’s not going to happen in the next
decade, at least. That said, here are the business model,
growth prospects, dividend record, and valuations of a few
stocks protected by the morally dubious moat.
The Altria Group (MO)
MO is a U.S.-based tobacco giant that sells tobacco-related products

and cigarette brands worldwide. The company and its subsidiaries
own famous brands like Marlboro, Copenhagen, Skoal, and Black &
Mild. Smoking is on the decline these days – and the latest data
suggest that the number of smokers has declined from 21 of every 100
adults in 2005 to 14 of every 100 adults in 2019 (CDC, 2020).
A shrinking customer base is a bad sign for the company, and so it is

time to check if the stock is still investable:
43
Price Performance
Figure 10: The contrast between Altria’s stock performance between 2013-
2017 and 2017-2021 (Source: Ycharts)
Between June 2003 and June 2017, MO gained a whopping 689% but
has shaved off about 35% between June 2017 and June 2021. The drop
in prices is primarily because of people quitting smoking and the ESG
impact on the stock selection criteria that we discussed above.
Given COVID-19’s impact and growing health consciousness, the first

lesson is that a new MO investor should have the stomach for a fall.
44
Plus, MO is not a stock for growth investors – they should dig else‐
where – perhaps in the renewable energy or semiconductor sectors.
Dividend Yield
Figure 11: Altria’s steadily increasing dividend yield (source: Ycharts)
MO’s dividend payouts have been steadily rising since 2008 (Seeking‐
Alpha, 2021). Between June 2017 and June 2021, MO’s dividend yield
ranged between 3% and 10% − and its current dividend yield is about
6.93% and the 2021 payout is estimated at about $3.4 per share.
The dividend yield metric suggests that MO is a stock that can be

considered by medium- to long-term income investors who are
unhappy with the current interest rate scenario. However, income
investors are usually wary of capital erosion risks. They also can
consider skipping MO and instead considering parking their funds in
quality ETFs that invest in preferred stocks.
45
Growth and Valuation
MO clocked $26.15 billion in sales in 2021, but the growth in sales

was in the low single digits despite the economy opening up in parts
in the second half of 2020. However, its revenues have largely
remained steady in the last 10 years. The year-on-year growth of its
operating income is not impressive, and with revenues remaining
steady and the number of smokers declining, the company can only
grow its operating income by reducing SGA expenses or financial
costs.
Figure 12: Altria’s Income Statement over the past 10 years (Source:
Ycharts)
MO is not priced cheap. As of October 18, 2021, its PE (Price to Earn‐

ings) ratio is 19.42, and its PEG (PE to Growth) ratio should roughly
be the same as its PE ratio because the company is treading on a flat
growth path. Its PB (Price to Book Value) ratio is also very high at
27.62, which makes it very expensive.
MO demonstrates that moats do not last forever, and investors need

to be alert for signs of change. The stock looks avoidable despite being
protected by the morally dubious moat.
46
Boston Beer (SAM)
Craft beer pioneer, SAM, has taken its investors to a whole new high
by gaining 1,140% in the last 10 years. In the last year, the stock appre‐
ciated 102%. It owns the iconic Samuel Adams brand. Its portfolio also
includes Angry Orchard Hard Cider, Twisted Tea, Tura Alcoholic
Kombucha, and many craft beer brands.
ESG or no ESG, beer is not about to go out of fashion anytime soon,

especially craft beer, and we believe that SAM still has a way to go.
Figure 13: Boston Beer’s astronomical 1,140% returns over the past 10 years
(Source: Ycharts)
SAM is an offbeat stock in the morally dubious moat universe. Stocks

in this universe are expected to be cheap, appreciate slowly, and pay a
hefty dividend – but SAM is just the opposite. Its price momentum
has been phenomenal and it is now time to check if it sails through
our metrics:
47
Dividend Yield
Nada! No dividend until 2021. As we said, SAM is an offbeat case. As

SAM does not pay a dividend, we have to rely on growth and valua‐
tion metrics.
Growth
Figure 14: The changes in Boston Beer’s income and profitability level over
the past 10 years (source: Ycharts)
Despite growing competition in the craft beer industry, SAM has

taken off in a big way since 2017. The company clocked revenue
growth of about 39% in 2020 compared to about 26% in 2018, and
about 15% in 2018. Its gross profit margins in 2020 were about 33%,
as compared to about 20% in 2019. Likewise, its operating income
grew at a massive 71% in 2020 compared to a growth of 25% in 2019,
and negative growth of about 1% in 2018.
The writing on the wall is clear – SAM is riding a huge growth wave.
But is its valuation reasonable?
48
Valuation
Figure 15: Boston Beer’s Valuation levels (Source: Ycharts)
Though SAM’s PE and PB ratios are high at 53 and 12, respectively,

its PEG ratio is extremely low at 0.43. The low PEG suggests that
SAM is estimated to grow at a huge 123% in 2021. This stock,
protected by its iconic brands and the morally dubious moat, is likely
to remain sober even after it hits a new high.
Constellation Brands (STZ)
STZ is another alcohol maker that owns iconic brands such as Corona
Extra, Modelo Especial, Meiomi, The Prisoner, and High West
Whiskey. Like SAM, STZ too has been a multi-bagger that has
rewarded its shareholders by gaining a humongous 1,030% since 2012.
49
Figure 16: The sky is the limit as Constellation Brand’s stock price gains
1,003% over the past 10 years (Source: Ycharts)
In 2020, STZ increased its stake in a marijuana company, Canopy

Growth (French, 2020). Marijuana, as you know, is the new vice in
town and STZ has already ventured into it indirectly while directly
focusing on its core alcohol business.
Like SAM, STZ seems like a growth stock, until you check the
metrics:
Dividend Yield
STZ has been paying dividends consistently since 2015, and what is
even better is that its payouts have been increasing year over year
(SeekingAlpha, 2021).
It is on track to pay $3 as an annual dividend in 2021, which gives it a

forward dividend yield of 1.26% based on its market price of $238 as
of June 12, 2021.
However, STZ does not qualify as a dividend stock because the 1.27%
yield does not even cover the core inflation. Hence, we need to check
50
its growth and valuation metrics.
Growth
Figure 17: Constellation Brands’ revenue and profit growth over the past 10
years (source: Ycharts)
STZ’s growth of revenues and gross profit has slowed down since
2018 to single digits. The same holds for its operating income growth.
In 2020, the company’s revenues grew by about 3%, gross profit by
about 8%, and operating income by about 11% – figures that show a
stark contrast to the tremendous performance reported by SAM – and
both are in the same business.
Valuation
STZ with a PE ratio of 23 and a PB ratio of 3 seems reasonably valued

as compared to SAM. However, data suggest that STZ’s growth
prospects are muted and therefore investor interest can wane or
remain static in the medium term unless there is some drastic positive
development in the company. Perhaps, the stock can get a boost if the
company dives aggressively into the medical marijuana business, and
that is something we have to track.
51
Figure 18: A comparison in valuation metrics between Constellation Brands

and Boston Beer (source: Ycharts)
McDonald’s Corp (MCD)
MCD is already equipped with deep and wide economic moats that
include economies of scale, global reach, brand power, network effect,
and pricing power. Recently, it has been tagged with an infamous
morally dubious moat – many people have begun labeling its menu
composition as unhealthy and its business as environment-unfriendly
because animal agriculture directly harms the climate.
MCD has sensed the public mood and has begun including vegan
food, plant-based meat burgers, and other healthy options such as
salads on its menu. Given its history, we are confident that the
company will evolve and hold on to its leadership position.
52
Price Momentum and Dividend Yield
Figure 19: McDonald’s share price and dividend payout ratio over the past
10 years (source: Ycharts)
In the last 10 years, MCD’s price has appreciated about 195% – and
investors would call that a modest appreciation, given the wild gains
they have experienced in the broader market, especially meme stocks.
The company has been paying dividends consistently since 1989
(SeekingAlpha, 2021). It is on track to pay at least $5 in 2021, which
gives it a forward dividend yield of 2.10% based on its market price of
$242 as of October 18, 2021.
Data suggest that MCD is floating between the devil and the deep sea
because a growth investor who has tasted blood in the 2020 boom will
find the stock’s steady growth rate boring, while an income investor
will find its dividend yield too low because it is below the inflation
rate.
53
Growth
Figure 20: McDonald’s declining revenue levels over the past 10 years
(Source: Ycharts)
MCD’s revenues and gross profit have been falling since 2014 (see the
image above). It did claw back to neutral growth in 2019 but was laid
down by COVID-19 in 2020 when it reported a 10% drop in sales, a
13% drop in gross profit, and a 19% drop in operating income. We
believe the company will find its feet once again as the vaccinations
gather pace and the economy reopens fully. From there on, every‐
thing will depend on how it evolves with changing tastes. However,
one can reasonably expect steady growth akin to the one experienced
in the last decade.
Valuation
MCD is expensively valued. Its current PE ratio is extremely high at

34 and its PEG ratio is likely to be the same because the company is
not likely to witness growth in 2021. It is likely to experience growth
after the virus is fully contained, an event that should be tracked by
investors. The company’s PB ratio is negative because of its dividend
payouts, buybacks, and capital expenditure on expansion and acqui‐
sitions.
54
Figure 21: McDonald’s current valuation levels (source: Ycharts)
Summing Up
The morally dubious moat is a tough nut to crack and it would be a

mistake to say that a company becomes invincible once it is
surrounded by this moat. From the above case studies, we have
learned that:
1. A company that makes a vice product that harms public

health, e.g., tobacco products, can experience severe erosion
in its sales and stock price. However, such companies can
offer a handsome dividend yield to income investors.
Dividends should not be your objective with these
investments, however, because management can always cut
the payout.
55
2. Companies that make a sin product, e.g., beer, can

experience explosive growth if they carve a niche for their
brands. On the other hand, companies that make a a “plain
jane” sin product, such as regular alcohol or adult services,
can experience flat growth.
3. A company that makes an unhealthy product (e.g., junk food)
can experience flat growth in the medium term, but if it
evolves and reconciles its products with the changing trends
and tastes, then growth can return. It is a big if though.
Therefore, it is difficult to draw a general conclusion about companies

surrounded by morally dubious moats. The future of such a company
depends on its line of business, growth prospects, public perception of
its products, willingness to evolve, valuation, and dividend yield.
56
5
THE HIGH SWITCHING COSTS MOAT
“Becoming number one is easier than remaining number

one.”
— BILL BRADLEY, BASKETBALL LEGEND
B ackground
We live in an intensely competitive world that is largely domi‐

nated by customers who rightly aren’t very loyal to any brand. A 2019
survey conducted by Verint Systems reported that about 67% of
customers around the world said that they are likely to shift to a
competitor if it provides better customer service or experience
(Hyken, 2019).
57
This is bad news for companies that have invested heavily in building
valuable brands.
The lesson for all companies is that a brand remains valuable only
until an efficient competitor comes along. After that, it all depends on
the customer retention ability of each competitor. Companies who
have toiled hard to create a solid brand are aware of their customers’
fickleness, and that is why top brands weave in heavy switching costs
into their product or service that make consumers hesitant to switch
over to another brand.
Switching costs represent the burden that a consumer incurs when he

ditches a product or service and shifts to another. Such costs can
manifest themselves in the following ways:
(a) Financial costs involved in the switching process.

(b) Learning curve (the time and mental energy taken to
learn how the replacement brand works – this factor makes
many users feel hesitant to switch over).
(c) Termination costs – for example, writing off an annual
cost paid in advance, surrendering loyalty points
accumulated over time, or paying a termination penalty
if any.
(d) Relational costs (customers become familiar with a brand
and develop a cultural affinity that is difficult to replace).
(e) Disruption costs (the loss of business and organizational
instability that can occur during the switchover period).
58
When the switching costs of moving away from a brand are heavy,
customers stay locked in despite desiring flexibility.
How Brands Build in Heavy Switching Costs (Github,

2021)
1. The product or service must be of high quality – and this

goes without saying.
2. Usually, companies keep the price of the main product low
and recoup their profits later by selling consumable parts or
by providing maintenance. Example: Gillette’s razor blades.
3. Some brands price their products so high that it wouldn’t
make sense for the consumer to switch over in the medium
term. Example: Tesla EV.
4. On the other side of the spectrum, some brands price their
goods so reasonably and economically, that customers just
don’t want to switch over. In addition, they may also operate
loyalty programs that lock in reward seekers. Example: Wal-
Mart or a discount airline.
5. Technology companies build their products in such a way
that once the user adapts to them, she gets hooked and finds
it difficult to switch over. Example: Amazon’s marketplace or
Facebook.
6. Certain brands win over the trust of their customers by
providing them such high-quality products that they would
stick with such brands for life (well, for the most part).
Example: Apple iPhone, luxury cars.
7. Certain products require the customer to agree to legalities
in the switching over process, going through which can be
59
lengthy and a huge turn-off. Example: Outsourcing

contracts.
When a company builds a high-quality brand with high switching

costs, the quality attracts new users while the high switchover cost
retains the existing clients. The result is that revenues and profits
increase and the company’s economic advantages keep piling up in the
long run (Rakszawski, 2021). Heavy switching costs, therefore, repre‐
sent a unique type of economic moat. Companies fortified by this
moat experience a low customer attrition rate and they can raise
prices reasonably from time to time without worrying about
customers ditching their product.
Here are a few examples of businesses that have succeeded or failed in

building this moat around their forts:
Amazon (AMZN)
Would you believe that AMZN has built in not one but two heavy
switching costs moats? Well, it has: one for its e-commerce market‐
place and another for its AWS (Amazon Web Services).
AMZN has invested time, money, and massive effort in building a

global e-marketplace. The number of retailers and users on its
network is so humongous, and its backend system is so robust, that
both sets of users are hooked on to the platform – and they keep
coming back for more. Moreover, Amazon Prime requires retailers to
send their products to the Amazon Fulfillment Center, which locks
them in. Thus, retailers get locked in because of Amazon’s global
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traffic or by its Amazon Prime scheme – and are therefore reluctant to

switch over (and there is no reason to, either).
AWS has built up a giant network of servers across the world, and
because of its economies of scale, the company can provide space on
the cloud at a very affordable price. Its cloud servers are secure and
downtime is extremely rare. Plus, it regularly increases the number of
user-friendly and helpful services. AWS offers a very easy and afford‐
able way to start a business, pay-per-use, and scale up whenever the
need arises. Once you are in, it is difficult to switch over to a rival
service because AWS’s offerings are unparalleled.
Of course, AMZN is also fortified by other economic moats which are

covered in other chapters. Here is how the heavy switching costs
moat, along with the rest, has helped AMZN’s business:
Figure 22: Amazon’s staggering growth rates over the past decade (Source:
Ycharts)
The heavy switching costs moat further widens and deepens the
company’s already strong economic moat built from other factors.
AMZN’s brand power, fortified by all its economic moats, has helped it
61
register revenue growth of at least 20% year over year in the last
decade. In 2020, the company registered a whopping revenue growth of
about 38%, a part of which was because of the COVID-19 disruption.
In the same period, the company’s percentage growth in operating

expenses has reduced from about 60% in 2011 to about 18% in 2020. A
consistent increase in revenue growth and a substantial decrease in
operating expenses have helped the company grow its operating
income by about 57%, year over year, in 2020, as compared to about
17% in 2019, and about −39% in 2011.
Salesforce (CRM)
CRM is truly a SaaS (Software as a Service) powerhouse that has

weathered growing competition predominantly because of its heavy
switching costs moat and deep engagement with its clients’ data. The
company has invested substantially in its cloud infrastructure, soft‐
ware, AI, and data analysis tools. It helps companies increase their
sales and customer engagement with their data on the cloud, thereby
saving on physical infrastructure, equipment, and sales & marketing
costs.
CRM’s AI-powered tools help its clients increase their customer bases,
up-sell and cross-sell to existing customers, and generally grow their
businesses. Once a company begins using CRM’s services, it gets
drawn in by how CRM’s technology interacts with its data and
conjures up solutions. Over time, the client is so deeply engaged with
CRM’s tools that she is not likely to think about moving away.
Because if she does, she will put her company at risk of losing sales,
waste time in learning about the competitor’s tools, waste money, lose
62
productivity, and perhaps even competitive edge during the transition

phase (Rakszawski, 2021).
Figure 23: Salesforce’s income statement for the past 10 years (source:
Ycharts)
CRM’s robust economic moat, with in-built heavy switchover costs,

has helped the company increase its sales by anywhere between 24%
and 37% year over year in the last decade. Its operating expenses have
fallen from about 47% in 2012 to about 24% in the first quarter of
2021. Investors should note that a robust hike in sales that CRM
reports year over year almost nullifies any increase in its operating
expenses. CRM’s R&D expenses work up to about 15% of its revenues
on an average, and R&D is one of the factors that helps the company
widen and deepen its moat and enables high switchover costs.
COVID-19 has taken a toll on the economy and CRM has reported
negative growth in operating income of about −13.4% in 2020 and
−1.73% in the first quarter of 2021. With vaccinations gathering pace,
the company is expected to do better going forward. That said,
COVID or no COVID, CRM has been reporting a positive net income
since 2017.
63
Gillette
Gillette was sold to Procter & Gamble (PG) in 2005 for $57 billion. In
fiscal 2020, PG’s grooming business, which includes Gillette, Braun,
and Venus, contributed about 9% to its net sales and 10% to its net
income (PG Annual Report, 2020). In the same year, PG reported
revenues worth about $71 billion and a net income of about 13
billion. That implies that Gillette contributed about $6 billion to its
top-line and about $1 billion to its bottom-line.
Gillette began selling its two-piece safety razor at a time (early 1900’s)
when the average razor was regarded as a chunky, clunky, time-
consuming, and messy system. Its sleek and convenient shaving
system equipped with disposable blades captured the imagination of
the masses because, aside from convenience, the blades were so wafer-
thin and super-strong that people believed that even MIT could not
forge them (Gillette, 2021).
The lock-in was that only a Gillette razor blade was compatible with
its razor. Plus, the company followed a two-part pricing model – the
razors were affordably priced but the blades were expensive.
Customers who were sick and tired of the fat and clunky razors
latched on to the convenient low-priced razors and then discovered
that they were left with no option but to keep buying expensive
consumables (blades). It was a two-part pricing model that clicked and
continues to work to this day. Today, Gillette has a loyal following
and its users consider it as a superior shaving system.
Gillette’s high-quality products are largely consumed by the middle

and lower classes. Its distribution network is strong. Though the costs
64
of switching over from Gillette are low, the brand is deeply

entrenched in its users’ psyche, almost like Coca-Cola. Though men
don’t shave regularly these days, and though Gillette has received
backlash over its 2019 advertising, we all know that trends and feel‐
ings can change, and we might witness a shaving frenzy creating an
increased demand for Gillette’s products once the pandemic is
behind us.
IBM (IBM)
Figure 24: IBM’s flagging performance vs. the Nasdaq over the past 10
years (Source: Ycharts)
This chart shows that in the last 10-years, the NASDAQ has appreci‐
ated by 605% while IBM has fallen by about 11%. That, in a nutshell,
is the story of IBM – a sad and sorry tale for its loyal shareholders.
IBM is an example of what happens to a company when it does not or
cannot hold on to its economic moat, including its heavy switching
costs advantage.
65
IBM’s fortunes started declining in the 1980s when it became a

follower of technology developments rather than the leader it once
was. It focused on developing mainframes instead of focusing on
microcomputers (Mills, 1996). Most of all, the company shifted focus
away from its customers – perhaps its management thought its prod‐
ucts were indispensable. Today, IBM is no longer a technology stan‐
dard-bearer.. It offers a full-stack solution (hardware, software,
consulting, financing) but wants to modernize its offering, perhaps by
moving to the cloud. But its stack customers, having invested heavily
in the stack, have IBM locked into the design, and the company is
afraid it will lose business if it tries to change (Cohan, 2021). The joke
is that IBM would have to bear heavy switching (to new technology)
costs, instead of the customer.
Figure 25: IBM’s declining revenues over the past decade (Source: Ycharts)
The results are there for all to see – IBM’s revenues and operating
income have been falling year over year in the last decade while its
SGA expenses have either risen or stayed flat, year over year, in the
same period. IBM is a classic case of what happens to a company when
it loses its vision and doesn’t focus on its customers’ changing needs.
66
Summing Up
A factor that companies should understand is that switching costs are

not static – they evolve with innovation and technology. Therefore,
any company that enjoys this moat must evolve as things keep
changing.
Heavy switching costs moat is the kind of economic moat that works
like a double-edged sword. If a company wields it responsibly and effi‐
ciently, it can go on to become something like AMZN or CRM. But if
it is uncaring or takes its eyes off the marketplace, it can become
another IBM.
67
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6
THE NETWORK EFFECTS MOAT
“If we want users to like our software, we should design it to

behave like a likeable person.”
— ALAN COOPER, FATHER OF VISUAL BASIC
B ackground
The concept of “network effects” refers to a situation in which

the value of a product or service gets enhanced due to leverage from a
growing number of users of the product or service, in most cases on a
digital platform. Enhanced value of a product or service can result
directly as well as indirectly. First, directly due to an expanded
network and the increasing number of users; second, indirectly
through interactions or transactions between two different groups of
70
users (for example, buyers and sellers, or coders and users). The
increased number of users and their transactions helps enhance the
business and create a unique and powerful economic moat. (Stobier‐
ski, 2020)
Here are some examples of the impact created by network effects on

businesses:
e-Commerce: Amazon, Etsy

Rides: Uber, Lyft
Multiple Digital Products forming an ecosystem:
Google, Apple
Social Media: Facebook, Match Group
Payments: Visa
Door Delivery: DoorDash, Uber Eats
Cryptocurrencies: Bitcoin, Ethereum
The one thing that all these companies have in common is that they
provide unique and irresistible services to users. As the number of
their users grew, the platform developers kept innovating and scaling
up their platform, acquiring more and more new users on the way up.
For example, Etsy attracted users by helping them sell handmade and
vintage products; Uber attracted users and cab owners by providing a
host of services such as ride-sharing, door delivery, freight transporta‐
tion, and more; and you already know what Google and Facebook are
all about.
Companies that can build on their user network and build a strong
network effects economic moat often grow very rapidly as long as
71
they keep innovating and providing value to their users. The compa‐
nies mentioned above have kept innovating over time and their users
and advertisers have continued to grow, thereby rocketing their busi‐
ness and market valuation. Though many economists suggest a
company with such a moat merely has to sit back and watch its users,
business, and value grow – the statement is not true. For evidence,
you can always check the graveyards of early social media networks
like Orkut or MySpace.
Types of Network Effects
There are two types of network effects – direct and indirect.
In the direct type, a platform watches its users grow over time and all
it has to do is keep innovating and doing things that help increase
new users and retention time. For example, Facebook has created a
direct network effects economic moat.
An indirect network effects economic moat gets created when

different user groups, such as buyers and sellers on a marketplace or
online service, aggregate and transact. As the marketplace gets
bigger, new users and sellers get naturally attracted to it, and its
business and market value skyrockets. Amazon and Uber are
companies that have built a deep and wide indirect network effects
moat.
Pros of Network Effects
1. This economic moat ratchets up a company’s business,

bottom-line, and market valuation while substantially
slashing its costs.
72
2. It encourages interaction, creativity, and innovation among

users as well as developers.
3. It creates a very efficient marketplace. When hordes use the
platform, its developers feel compelled to enhance the quality
of service.
Cons of Network Effects
1. Building a sizable user base and retaining it is a challenge.

Plus, massing up the initial user base that is required to build
a network effects moat is also an almost insurmountable task
that many startups have failed to conquer – for example,
Quibi and Home Joy (Gilmanov, 2020).
2. The companies that enjoy a network effects moat cannot be
run on auto-pilot mode. They need to keep innovating and
doing things that attract new users and retain existing ones.
It’s a hard grind.
3. When critical mass builds up, congestion occurs. Therefore,
companies enjoying the network effects economic moat must
keep up-to-speed with their hardware, services, and
manpower to cater to the growing number of users.
4. It can make management complacent when the going is easy
and good.
Criteria that Savvy Investors Use to Measure the Network

Effects Moat
If you ever want to invest in a company that boasts a network effects

moat, use the following criteria. Much of the information can be
73
found in a company’s Annual 10K report, or various company news

releases.
1. Gauge whether the platform can acquire new users

organically – or does it have to advertise.
2. Determine the percentage of the platform’s users active on its
competitor’s platform.
3. Estimate how much time and money would it take to build a
similar platform.
4. Evaluate if the platform is innovative enough to retain
existing users and attract new ones.
5. Determine the percentage of paid subscribers compared to
the unpaid ones.
6. Determine which geographies does the platform serve
7. Determine the amount of time in a day do existing users stay
active on the platform.
8. Determine whether the network effects moat helped the
company bump up revenues and profits while reducing costs.
Let’s look at how this economic moat has impacted the financial
metrics of Alphabet (GOOG), VISA (V), Facebook (FB), Etsy (ETSY),
Match Group (MTCH), and Uber (UBER).
In this chart you can easily see that investors have recog‐
nized the value of these companies and stock prices have
risen significantly in the year and a half presented.
74
Figure 26: How various “network effects” companies have performed since
the onset of the COVID-19 pandemic in January 2020 (Source: Ycharts)
The COVID-19 Impact on the Network Effects Moat
Before analyzing the long-term impact of the network effects moat,

investors need to factor in the (un)favorable impact that COVID-19
had on the business of the stocks selected above.
Though all the companies mentioned above have been accumulating

the benefits of the network effects moat for a long time, their busi‐
nesses and price momentum picked up after January 1, 2020,
primarily because of the COVID-19 disruption. During this period,
ETSY has zoomed a massive 272%, GOOG about 80%, MTCH about
81%, UBER about 71%, FB about 60%, and V about 21%.
The COVID-19 disruption helped multiply and accelerate the critical

mass that each company enjoyed. Two notable exceptions were Uber
(the rideshares numbers dropped) and V (because physical retail
suffered).
75
Today, vaccinations are gathering pace and economies are opening

up. Though there expected to be upsurge in physical retail activity
once the economy heals, 3 things will remain:
1. The fear that COVID-19 has induced, will remain in the

minds of people.
2. COVID-19 will not go away, it will at best get reduced to flu
status.
3. The critical mass built by these companies will not
evaporate. These companies have been given a solid
foundation as a result of the virus, and given that all of them
are managed efficiently, they will most certainly build on the
advantage.
Now let us check how the network effects moat has positively
impacted each company in the long run.
Google (GOOG)
Figure 27: Google’s increasing revenue and operating income over the past
decade (Source: Ycharts)
76
In the last decade, GOOG’s revenues have zoomed from about $58 per
share to about $248 per share. SGA expenses as a percentage of sales
have fallen from about 20% to 16% in the same period. The gross
profit has increased from about $38 per share to about $133 per share,
and operating income has rocketed from about $19 per share to about
$56 per share, in the same period. Note that these increases have
occurred despite GOOG’s paid-in capital increasing much less in
proportion (from about $20 billion to about $59 billion) during the
same period.
GOOG’s current gross profit and operating income margins are high
at about 56% and 25%, respectively. It also has a high Price to Earn‐
ings (PE) ratio of about 32, but its PE to Growth (PEG) ratio is just
0.62, implying that the market estimates the company’s profits to
grow by more than 50% going forward. (PEG is P/E divided by
expected rate of growth. 0.62 = 32/.52)
GOOG is the undisputed leader in the online search market. Its prod‐
ucts, which include Android, Maps, Assistant, Gmail, YouTube,
Drive, Duo, etc., help users become more productive and the
company keeps adding ground-breaking features that keep the users
glued. The network effects moat has helped GOOG increase its
revenues, margins, and earnings per share despite its paid-in capital
increasing much less in proportion in the last decade.
77
Visa (V)
Figure 28: Visa’s tough 2020 ends a decade of strong topline growth (Source:
Ycharts)
As per the data available, about 42% of global general-purpose

purchase transactions are enabled by Visa Cards (2020, Nilson). Now,
V is a very special case that illustrates how the network effects moat
can help protect a company from a massive global economic
downturn.
When COVID-19 struck in 2019, global economies went into a tail‐

spin and consumers clammed up. Physical retail took a beating while
e-commerce flourished. V’s huge market share and user base helped it
weather the economic impact. Revenues, gross profit, and net income
all fell in 2020, but not by much. We believe the company will witness
a massive upsurge in business as more of the world’s population
becomes vaccinated and the economy opens up.
Of course, full recovery will set in only after the economy heals fully,
maybe in 2023. Nevertheless, V’s powerful network effect helped it
create such a solid advantage that it withstood the severe global
downturn.
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Facebook (FB)
Figure 29: Facebook’s strong growth over the past decade (Source: Ycharts)
Every time people say that FB growth has peaked, the company turns
in a surprise. FB has witnessed 10 years of uninterrupted revenue
growth that ranged between 21% and 69%. Likewise, its operating
income has witnessed an increase year over year for 9 out of the last
10 years, with 2019 being the only exception. At the same time, FB
has been cutting costs -- reported cost of goods sold has dived from
74% in 2011 to just 31% in 2020.
The company continues to strengthen its network effects moat by

adding new interactive features such as games, updates to live videos,
desktop messenger, watch party updates, 3D images, and more, all of
which keeps beefing up its user base and retention metrics.
A Peer Comparison of ETSY, MTCH, and UBER
Figure 30: A comparison of profitability metrics between Etsy, Uber and

Match Group (Source: Ycharts)
79
You cannot compare metrics of ETSY, MTCH, and UBER for the last
decade because ETSY and MTCH were listed in 2015 and UBER in
2019. The network effects moat takes time to gather pace as compa‐
nies need time to build critical mass.
ETSY’s gross profit ratio is a phenomenal 74% and MTCH’s is at

about 73%. This is evidence that when the network effects moat kicks
in, transactions increase and costs drop. ETSY and MTCH generate
an operating income margin of about 27% and 32%, respectively.
UBER is still young and needs time to get there. Though it generates a
healthy gross profit margin of about 41%, its operating income
margin is about −49%. But given its innovation and new businesses,
we believe it will get there.
Figure 31: A comparison of valuation metrics between Etsy, Uber and

Match Group (Source: Ycharts)
ETSY’s and MTCH’s PEG ratios are less than 1, though their PE ratios
are very high at about 47 and 86, respectively. This implies that the
estimated annual profit growth percentage for these companies
exceeds their respective PE ratios! It’s a fantastic statistic. This is the
reason why these companies are richly valued from the Price to Earn‐
ings and Price to Book points of view.
80
As mentioned above, UBER will take some time to get there. It’s still a
young company.
Summing Up
The network effects moat is growing in importance by the day

because the world is going digital. All of our big tech companies are
massive beneficiaries of this particular moat. Companies that are
protected by this economic moat make money from advertising (FB,
GOOG), or by charging a commission on each sale (ETSY, AMZN),
or assessing per-transaction fees (V), or subscription fees (MTCH).
Of course, there’s a lot of buzz these days about companies like GOOG
and FB selling user data or AMZN controlling the price of its prod‐
ucts, but then every successful business has its share of negatives.
What matters is that these companies have created such a solid
network effects moat that it is almost impossible for any new player to
even think about competing with them.
As long as the companies that enjoy the network effects moat keep
innovating to retain their existing users and attract new ones, they
have nothing to fear. Their future is secure, and their current expen‐
sive valuations won’t matter in the long run.
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7
THE REGULATION MOAT
“Monopoly is the condition of every successful business.”
— PETER THIEL, FOUNDER, PAYPAL AND

PALANTIR
B ackground
A regulatory monopoly, or a government-granted monopoly,

is a special status that the government grants to selected private
players or companies in the public utility sector. It places them in an
advantageous position by making them the sole providers of products
or services, thereby restricting the competition. The government, by
the grant of monopolistic privileges, creates a strong economic moat
around such companies.
82
However, when the government enables a monopoly, it also regulates

the market price of the goods or services to ensure that the consumer
does not pay more than a fair price. For example, wholesale prices of
electricity, including transmission costs, are regulated by The Federal
Power Act (Michaels, 2019).
Typically, government-run companies can be complacent and ineffi‐

cient, and therefore governments grant a monopoly status to private
companies, who then provide goods and services at regulated prices
and yet compete for clients. Gas, water, postal services, public trans‐
portation, sewage, trash collection, electricity providers, and compa‐
nies that own pharmaceutical patents are examples of regulatory
monopolies.
Regulatory monopolies are somewhat paradoxical, because, on the

one hand, the government tries to curb monopolies and too-big-to-
fail entities in the private sector; while on the other hand, it creates
regulatory monopolies. But, good reasons exist for the creation of
such monopolies, and these are:
(a) To ensure that the market is not impacted by sudden

scarcities or cartelization.
(b) To ensure that the government receives a share of the
revenues, mostly by taxes and dividends.
(c) To ensure a regulated and efficient market exists with
service to the public as a primary goal.
(d) To ensure that select companies can produce goods or
services more efficiently than they could if they were
swamped by competition.
83
Pros of Regulatory Monopolies
1. As the government does not operate the companies, the

probability of corruption, inefficiencies, and scams is
comparatively low.
2. They provide essential services to society at a reasonable
price.
3. The investment in such companies also does not burden the
taxpayer.
4. When a few efficient companies provide goods or services at
regulated prices, the market functions smoothly and
efficiently.
5. Despite a monopoly status, many such companies have to
compete for business and yet provide services/products at
regulated prices. For some services such as trash collection
and public transportation, the consumer may even get to
choose the service provider, though the choices would be
limited.
Cons of Regulatory Monopolies
1. The COVID-19 disruptions have blown the lid of the ugliness that
lurks inside certain government-granted monopolies. Specifically, the
patent protection granted to pharmaceutical companies has resulted
in Covid-19 vaccines and drugs shortage globally – and extremely
high prices are being charged for certain drugs that can help fight the
disease, for example, Remdesivir (Phillips, 2020).
84
2. Another example is that ventilator patent-holders sell each venti‐

lator for about $25,000. Now, a group of researchers has developed an
equally efficient, open-sourced ventilator model that can retail for
about $500, but it cannot be sold (Baker, 2020).
3. Such monopolies can promote inequality of wealth, especially when

patents are protected. Data suggest that over 25% of the Forbes 400
richest people have amassed wealth because of patent and copyright
monopolies (Baker, 2020).
4. Business complacency can set in because such companies generate

healthy cash flows and profits quarter over quarter. So, if it isn’t
broken, why change it?
That said, patent-protected monopolies are growth vehicles and

cannot strictly be considered as falling within the traditional defini‐
tion and perception of a regulatory monopoly.
Public utility companies are true examples of government-enabled

regulatory monopolies. Utilities operate in a safe environment that
attracts income investors. These companies are known for rewarding
their shareholders with handsome dividends and buybacks. To illus‐
trate how they operate, let us take three examples: AT&T, Duke
Energy, and The Southern Company.
AT&T (T)
AT&T was founded as the Bell Telephone Company by Alexander

Graham Bell in 1877, a year after he invented the telephone. In 1885,
the company started building a telephone network for New York City.
It pursued growth aggressively and relentlessly and was always a
85
monopoly because of favorable government policies. The company’s

monopoly started coming to an end in 1982 when the breakup of the
Bell System into eight companies was mandated. The U.S. Congress
began deregulating the telecommunication sector in 1994, after real‐
izing that the government’s enablement of T was stopping or tripping
innovation, new technologies, jobs, exports, and competitive pricing
(Thierer, 1994).
After enjoying a monopoly for more than a century, T landed in the

middle of fierce competition in the 1990s. But the company had deep
pockets and technology on its side. It kept acquiring smaller players
and stayed on top of technological changes over time. Today, it is into
Internet services, mobile telephones, TV, streaming, 5G, business
solutions, and more – it has transformed into a savvy media giant.
Figure 32: AT&T’s declining stock price and rising dividend yield over the
past decade (Source: Ycharts)
T’s deep pockets, non-regulated-almost-monopoly status, constant

innovation, and acquisitions have ensured that shareholders are
86
rewarded with dividends and stock buybacks despite its stock price
being stuck in a groove in the last 10 years, during which it has fluctu‐
ated between $25 and $43. The company’s dividend yield has moved
in the range of 4.8–8% during the same period, and its current esti‐
mated forward dividend yield is 6.93%. The company’s quarterly gross
profit margin is a healthy 52.01% and its quarterly net income margin
of 17.18% is solid too.
T’s past data suggest that it is a stock that is just right for long-term
income investors. In this day and age when the Fed has pegged the
interest rates at just 0.25%, an 8+ dividend yield is like music to the
ears and money in the bank.
Figure 33: AT&T’s cash flow statement over the past decade (Source:
Ycharts)
The company generates healthy operating cash flows every year,

which it spends on acquisitions, dividends, R&D, and stock buybacks.
It is on track to generate about $43 billion in operating cash flows in
2021.
87
Duke Energy (DUK)
Founded in 1900, DUK is one of the largest electric power holding

companies in the U.S. that serves about 8 million customers across six
states. The company’s first-mover advantage coupled with the regula‐
tory monopoly status has helped it grow and branch out to sustainable
energy, logistics, last-mile delivery services, commercial transmission,
and international energy solutions. Of course, its mainstay business
will always be providing electricity and remaining a government-
enabled monopoly with deep pockets.
Figure 34: Duke Energy’s stock price and dividend yield over the past
decade (Source: Ycharts)
Just like T, DUK too is sought after by investors for its regular divi‐
dends and stock buybacks. Its price has appreciated at a slow pace over
the last 10 years, moving from a low of about $52 in 2011 to about
88
$103 as of May 21, 2021. The company’s estimated forward dividend

yield has dropped to 3.75% because its price has spurted of late, from
about $90 in January 2021 to about $103 currently. Past data suggest
that investors can expect a dividend yield of anywhere between 3.75%
and 5.5% going forward – which is at least 2.5× better than earning off
a 10-year Treasury bond.
DUK’s profitability ratios are very high. Its quarterly gross profit ratio
is 49.25% and its quarterly net income ratio is 16.13%. However, its
return on invested capital is poor at 1.27% as compared to The
Southern Company, which you are going to read about in the next
section.
Figure 35: A comparison between Southern Co and Duke Energy (Source:

Ycharts)
The stock has been rising these days primarily because an activist
investor has floated a proposal to split up the company into three enti‐
ties (Surran, 2021). The company generates healthy operating cash
89
flows every quarter and is on track to generate about $2 billion per

quarter in 2021, a large portion of which will be used in paying divi‐
dends and buying back stock.
Figure 36: Duke Energy’s cash flow statement over the past decade (Source:
Ycharts)
The Southern Company (SO)
Figure 37: Southern Co’s stock price and dividend yield over the past decade
(Source: Ycharts)
90
Founded in 1924, SO is yet another regulatory monopoly that has

transformed into one of the leading electricity providers in the U.S.
The company, along with its subsidiaries, serves about 9 million
customers across three states.
The stock has moved in a tight, narrow range in the last decade, fluc‐
tuating between $40 and $71 during this period. Income investors
have recently started chasing the stock, driving up its price, because,
like DUK, it consistently pays dividends. Its estimated forward divi‐
dend yield is 4.01%.
SO generates healthy operating cash flows every quarter and is on

track to generate about $1.2 billion per quarter in 2021. The cash
generated is deployed into paying dividends and acquiring companies
or capital assets.
Figure 38: Southern Co’s cash flow statement over the past decade (Source:
Ycharts)
SO’s performance results are excellent: quarterly gross profit margin is

47.68%; quarterly net income margin is 19.27%; and return on
invested capital is 4.15%. A quick comparison with DUK (check the
91
image posted in the DUK section above) suggests that SO is more effi‐
cient than its peer.
Summing Up
Typically, a regulatory monopoly serves the society at large and grows

at a steady pace in the long run. Though the government builds an
economic moat around such companies, they cannot drive in top gear
because the prices they charge for goods and services are regulated.
The economic moat offers safety by keeping the competition away
and allowing uninterrupted continuity.
Income investors are attracted to utilities because they pay dividends

and support the stock price with consistent share buybacks. Growth
and short-term investors normally stay away from utilities. However,
some growth investors chase patent-holding monopolies for reasons
stated above.. Strictly speaking, the market perception of a regulatory
monopoly is one that provides essential services and pay “decent” divi‐
dends, i.e., utilities.
Before investing in this type of monopoly, an income investor should

check that the company enjoys healthy gross and net profit margins,
generates solid operating cash flows every quarter, offers a dividend
yield that is at least 2 to 3 times the existing 10-year Treasury rate,
and buys back stock regularly. If these criteria are fulfilled, an invest‐
ment in a regulatory monopoly can be considered by income seekers.
92
8
THE PRICING POWER MOAT
"The single most important business decision in evaluating a

business is pricing power"
— WARREN BUFFETT
B ackground
Pricing power is the ability of a company to command a price

premium, or maintain its current prices; and also its ability to increase
its product prices without denting the demand.
But can only companies that command brand equity enjoy pricing
power?
Well, consider the following statements:
93
(a) A company operating in a competitive environment cannot

command pricing power.
(b) Only a company that owns a reputed brand can afford to price its
products high.
Both these statements are false because exceptions do exist.For exam‐

ple, though there are a variety of credit cards available in the market
to choose from, none of the card companies charge moderately. They
all charge their customers heavily and yet they thrive despite the
intense competition. Therefore, the key is to flesh out the circum‐
stances under which some companies succeed in a competitive envi‐
ronment despite pricing their products high. Here are the
circumstances that allow a company to enjoy pricing power:
1. High barriers to entry – The credit card example above

represents a high entry barrier. You just cannot get up one
day and decide to start a credit card business. It requires
humongous capital, reputation, and marketing.
2. Industry under-capacities – These can lead to supply
scarcities, and by the time companies invest in assets and
increase their production capacities, the early movers would
have lined their pockets. Even pricing systems followed by
Uber and Lyft during peak hours are examples of demand
outstripping supply leading to scarcities.
3. Desire for luxury by elites – Luxury goods manufacturers
make exclusive products that are targeted at a small, niche
market of connoisseurs with deep pockets. Even the buyers
want these goods to be priced high as pricey items are
94
directly linked with their status in society. The companies on

their part do their best to build an elite aura around the
products.
4. Finally, there is Brand power – Customers stay loyal to a
brand so long as the creator maintains quality, is transparent,
and connects with its customers’ culture. Take for example,
the Apple iPhone – despite hundreds of models available in
the market at a cheaper price, iPhone loyalists will not switch
over to any other brand. The same holds true for Starbucks –
despite hundreds of cafes around, customers will still make a
beeline to the Starbucks counter.
The quirky thing about enjoying pricing power is that if the company
commands it for a long period, it automatically becomes a brand to
reckon with. For example, if high barriers of entry are not breached,
or if industry under-capacities are not filled up, or if a certain class of
luxury goods remains monopolistic because of the extremely niche
market, then chances are that existing companies that fulfill the
current demand will command a brand loyalty to reckon with.
With that said, let us get a feel of companies that have ensured that
they enjoy pricing power. Here are three case studies.
Walmart (WMT)
Walmart is an example of a company building a brand and

commanding a wee bit of pricing power by innovating in a crowded
and competitive market. Founded by Sam Walton in 1962 as a retail
store, the company’s goal was to attract customers by offering prod‐
ucts at lower-than-market prices. The product range was later
95
expanded. The idea was simple but very effective – eliminate the
middleman from the supply chain and buy in bulk directly from the
manufacturers at a discount, most of which could be passed on to
customers (Lapaas, 2019).
For customers, it was love at first sight. The face of retail had changed
as they knew it, and now they could buy quality products at a lower
than market price. Walmart soon earned fame as a retail establish‐
ment that gives value for money, and by 1972 the company had 51
stores across the U.S. It stuck to its goals, and popularity and demand
followed automatically. Over time the company achieved economies
of scale by increasing volumes and reducing costs. Its expansion was
relentless, and today the company operates about 10,500 stores and
clubs in 24 countries (Walmart, 2021). Plus, it also sells products
through eCommerce websites.
A quick glance at Walmart’s income statements suggests that the

company enjoys marginal pricing power, because after all, it buys
products in bulk and passes on a large part of the discount to its
customers.
Figure 39: Wal-Mart’s Income statement for the previous 6 years (Source:
Ycharts)
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The company’s revenues have steadily, though moderately, increased

from $487 billion in 2015 to $559 billion in TTM (Trailing Twelve
Months) 2021. More impressive impact of the company’s brand and
pricing power is visible in the increase in its operating cash flows
during the same period. In 2015 Walmart generated 28.5 billion in
operating cash, while in TTM 2021 it generated $36 billion.
So, while pricing and brand power may not be too evident in the top-
line, they do make a significant impact on profitability and help the
company shore up its cash reserves that it can use to acquire other
companies to stay ahead in the game.
Pricing and brand power also help Walmart in consistently rewarding

its shareholders by distributing dividends and buying back stock.
Figure 40: Wal-Mart’s Cash Flow statement for the previous 10 years
(Source: Ycharts)
As per data available, the company has been consistently distributing

dividends and buying back stock since 2012. In TTM 2021, Walmart
has bought back $2.63 billion worth of stock and paid $6.1 billion as a
dividend.
The story gets better – the consistent cash generation and customer
loyalty have helped Walmart beef up its market presence by acquiring
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26 companies (Crunchbase, 2021), with the latest acquisition being

MeMD, a teleheath provider.
The fact is that Walmart has been aggressively acquiring companies

since 2010 in an effort to take on Amazon (AMZN) (Cain, 2018).
Though it is unsure whether Walmart will be able to give a run to
Amazon for its money going forward, what stands out is that the
company’s brand equity and pricing strategy have helped it to achieve
the following:
a. Establish a global presence.

b. Acquire technology, health, telemedicine, art, and retail
companies that have the potential to help boost up its
revenues and profits without sacrificing its dividend payouts
and stock buybacks.
c. Be in a position to take on formidable competitors like
Amazon.
d. Earn customer loyalty and keep building brand equity.
In fiscal year 2021, about 240 million customers visited Walmart

stores around the world (Statista, 2021). Once COVID-19 and its vari‐
ants are under control, the numbers are likely to increase. The compa‐
ny’s investors and analysts are bracing up for good times.
Intel (INTC)
Ever since it was founded in 1968, Intel has always been considered an
innovative, intelligent, and super-aggressive semiconductor company
manufacturing integrated circuits and semiconductor chips for use in
motherboards, graphics cards, microprocessors, etc. It has succeeded
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in a fiercely competitive market and its pricing power is intact despite

its competitor, AMD, capturing a nice chunk of the market share. In
Q1 2020, about 80% of x86 CPU (Computer Processing Unit) test
benchmark results were recorded for Intel processors, while just 20%
were for AMD processors. What is interesting to note is that Intel’s
share dropped from 86% in previous quarters in early 2020 to 80% in
Q1 2020, while AMD’s share ratcheted up from about 14% to 20%
during the same period (Statista, 2021).
Before getting into Intel’s numbers and pricing power, it is important

to note that Intel once made a huge mistake in the early 2000s when it
pulled out of the chip market for mobile phones, a space that was
quickly snapped up by Qualcomm (QCOM) and ARM Holdings (Oak‐
ley, 2020). However, despite the competition eating away at the
market share and Intel being nowhere in the mobile phone chips
market, the company’s pricing power is still intact and it is still consid‐
ered to be the market leader with a strong balance sheet and high
profitability.
To get a sense of how Intel’s pricing power works, you need to

analyze several factors at once – its gross profit margins, operating
cash flows, dividends, share buybacks, balance sheet, and market
price.
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Figure 41: The correlation between Intel’s fortunes and operating cash flow
(Source: Ycharts)
Intel has historically enjoyed very high gross profit margins (as much
as 71% back in the early 1990s). However, the competition has
increased over time, and that, coupled with Intel’s decision regarding
mobile phone chips, has resulted in profit margins dropping to about
55% in 2020. The fall in margins has been severe since 2015.
However, the company’s brand equity, market share, and pricing
power have ensured that its cash from operations continues to climb
as its plans for a $20 billion “manufacturing comeback” to take shape
(Gwenapp, 2021).
The company’s increasing cash generation from operations allows it

to invest heavily in R&D, thereby helping it innovate and stay many
steps ahead of the competition.
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Figure 42: Intel’s income statement over the past 9 years (Source: Ycharts)
Despite all the negatives such as falling gross profit margins,

increasing competitor share, and no presence in the mobile chips
space, Intel’s revenues and operating income have steadily increased
over the years. The company has managed to increase the sale of its
products from about $53 billion in 2012 to $78 billion in 2020 in a
desktop/laptop market – only because of its inherent strengths.
Intel has a very strong balance sheet as of March 2021. It has about
$22 billion in cash and equivalents, which is adequate dry powder for
expansion or acquisitions. Its total paid-in capital of about $26 billion
is fortified with retained earnings of about $55 billion.
As per the last 10 years’ data, Intel has consistently paid dividends and
bought back stock year over year – and these have been made possible
because the company’s pricing power and brand equity have helped it
thrive in an intensely competitive environment.
To sum up, Intel’s brand and pricing power have helped the company
in the following ways:
By increasing its sales and operating profits even when its
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market share was falling, and even though it gave up on a

profitable niche (mobile chips).
By fortifying its cash reserves.
By rewarding shareholders with consistent dividend payouts
and share buybacks.
By expanding its business and innovating.
Today, the company is getting ready for a massive manufacturing

boom, and its balance sheet has the firepower to ensure that the
company fires on all cylinders.
Amazon’s (AMZN) AWS
“I think Amazon is the most interesting company right now

and represents the surest path to a $5T (15–20× from
current levels) market cap within 50 years. The reason I
think this has nothing to do with e-commerce although e-
commerce is their way of dogfooding the real reason: AWS.
AWS is a tax on the compute economy. So whether you care
about mobile apps, consumer apps, IoT, SaaS, etc., more
companies than not will be using AWS vs building their own
infrastructure. E-commerce was Amazon's way to dogfood
AWS, and continue to do so that it was mission grade. If you
believe that over time the software industry is a multi, deca-
trillion industry, then ask yourself how valuable a company
would be who taxes the majority of that industry. 1%, 2%,
5% – it doesn't matter because the numbers are so huge –
the revenues, profits, profit margins, etc. I don't see any
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cleaner monopoly available to buy in the public markets

right now.”
— CHAMATH PALIHAPITIYA, CEO, SOCIAL

CAPITAL
It is common knowledge that Amazon’s AWS (Amazon Web

Services) rocket-propelled the company’s growth and introduced
cloud computing to the common man. But what is not common
knowledge is that work on AWS started way back in 2000, a time
when Amazon was an e-commerce company that was trying to grow.
At that time it launched an application named Merchant.com, which

allowed other stores to build websites on Amazon’s web engine.
Merchant.com had a tangled and difficult process but Amazon’s soft‐
ware engineers started simplifying it. Soon, the company realized that
aside from fulfilling and shipping orders, it was also good at providing
storage and database solutions online, and operating data centers.
This heralded the birth of AWS (Miller, 2016).
Way back then, cloud computing was like a bolt from the blue. Busi‐
nesses, governments, and schools started realizing that by renting
space from AWS, they would save costs on buying a server, physically
setting it up, and hiring network engineers to maintain it. In addition,
they could pay-as-per-their-additional requirements, collaborate
online, save on network security, and receive automatic software
updates. When you look back, it was a revolutionary concept that
shook up the entire hosting and server rental industry.
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Since then there has been no looking back and the company has gone
from strength to strength with its e-commerce and AWS business
models. At the beginning of 2020, Amazon was ranked as the most
valuable company in the world and its brand worth was estimated at
$220 billion (Jones, 2020).
Figure 43: Amazon’s astounding revenue and operating income growth over
the past 8 years (Source: Ycharts)
The results were mind-boggling: Amazon’s annual revenues increased

from about $74 billion in 2013 to $386 billion in 2020. Its annual
operating income grew from $745 million to about $23 billion in the
same period. Also, its annual EPS grew from $1.39 to $42.64 in the
same period – and that is a perfect example showing how pricing
power and brand equity can combine with the first-mover advantage
to boost profits. AWS revenues work out to about 10% of Amazon’s
revenues but its operating income contributed 52% to Amazon’s oper‐
ating income in 2020 (Novet, 2021).
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Figure 44: AWS’ impact on Amazon’s cash flow from operations (Source:
Ycharts)
In 2020, Amazon generated about $66 billion in operating cash as

compared to about $39 billion in 2019. Sure, the increase in e-
commerce activity and the shift to online apps was driven by COVID-
19 – but so what, the trend is not likely to reverse in a hurry, and by
the time it reverses, if at all, Amazon would have deepened and
widened its economic moat.
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Figure 45: Is Amazon overvalued? We think not (Source: Ycharts)
Though Amazon is expensively valued at a Price to Book Ratio of

15.39 and an Operating Price to Earnings Ratio of 58.07, it is inter‐
esting to note that its Price Earnings to Growth (PEG) Ratio is esti‐
mated at just 0.4, implying that its growth is about to multiply and
accelerate going forward. As an aside, Amazon’s PEG ratio is the
lowest among the FAANG stocks – its nearest competitor is Facebook
(FB) with a PEG ratio of 0.43, while the others are at some distance
away.
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Figure 46: A comparison between Amazon and the other FAANG stocks
Amazon’s competitors too are likely to compete with its pay-as-you-

go pricing strategies, but Amazon has scaled up so massively that its
costs have fallen hard and so the going is not expected to be easy for
the competitors. Today, it owns 80 data centers around the world and
serves 245 countries and territories (Amazon, 2021).
Going forward, Amazon is all set to get into business niches such as
augmented reality-powered retail outlets, cashier-free stores,
biometric payment systems, food delivery, telemedicine, home robots
(and other AI-powered applications), game streaming, healthcare,
self-driving, satellite Internet, delivery and security drones, and more.
Even the sky doesn’t seem to be the limit for this innovative company.
Thanks to AWS.
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In short, Amazon’s AWS pricing strategies, economies of scale, and

customer friendliness (pay-as-you-go, no investment in infrastructure
or maintenance, ease of use, cost-effectiveness) have placed it in a
formidable and impregnable position. The company’s pricing power
helped it amass cash reserves and gave it adequate space to expand and
stay on top of disruptions. The results are there for all to witness, and
the party for Amazon has just begun.
Summing Up
Pricing power is not just about raising prices – it is also about main‐
taining current prices and increasing profitability at times when the
going gets tough. It is a deeper and profound concept. Specifically,
enjoying a pricing power (coupled with brand equity) advantage helps
companies in the following ways:
1. Enabling them to reward their shareholders with dividends,

share buybacks, and stock price appreciation (especially true
in Amazon’s case).
2. Allowing them to price their products affordably, thereby
increasing volumes and attracting more customers.
3. Helping build cash reserves, which the companies can use to
innovate, expand, or take advantage of economic
disruptions.
4. Staying afloat and even thriving during an economic
downturn.
5. Inhibiting the competition.
6. Increasing sales and profitability over the long run.
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Pricing power is an extremely potent tool so long it is used judi‐

ciously. Taken together with brand equity, it can help companies turn
into large multinationals in the long run. As Ron Johnson, the ex-
CEO of J.C. Penney once said, “Pricing is actually a pretty simple
and straightforward thing. Customers will not pay literally a
penny more than the true value of the product.” Therefore, so long
the sales are growing and the demand is flowing, the company is
playing its pricing right.
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9
THE BRAND POWER MOAT
“A brand for a company is like a reputation for a person.

You earn reputation by trying to do hard things well.”
— JEFF BEZOS, AMAZON FOUNDER
B ackground
Well, if any person has dived deep into making a brand and
has held on to his breath for a long, long time, it is Jeff Bezos. If he
likens a brand to reputation, we have to take his word for it.
Most folks equate a brand to a product – and they couldn’t be more

wrong. A brand is much more than a product, logo, font, or color – it
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is an intangible asset that evokes a cultural and familial bond inside

of you.
It’s interesting to see how r brand creators see the concept. Consider:
(Gesch, 2020):
1. Henry Ford, Jeff Bezos, and Warren Buffett have likened a

brand to reputation.
2. Elon Musk (Tesla founder) likens a brand to a perception.
3. Seth Godin (famed business author) considers a brand to be a
combination of expectations, relationships, memories, and
stories about a product that induce positive emotions in a
consumer.
4. Howard Schultz, the former CEO of Starbucks, believes that
a brand is an intangible asset that shares values with
consumers.
5. Zig Ziglar (famed motivational speaker) believed that a solid
brand is something that consumers completely trust.
6. To Lisa Gansky, CEO of Global Network Navigator, a “brand
is the voice and a product is a souvenir.”
Well, we can go on and on about what CEOs feel about a brand, but the
key takeaways are that a brand is an intangible asset that builds an aura
of trust, authenticity, and invincibility around a product while giving it
a unique personality that identifies with its consumers’ culture.
Now, every company has a brand, and when we discuss brand power,
we’re not talking about just any brand. We’re talking about a brand
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that raises strategic awareness. Do people ask for it by name? Do

people prefer it over the competition? Do they clamor for the brand?
Will they prefer purchasing it? If a brand checks all these boxes, then
rest assured, the revenues and profits will compound over time so
long as the brand is nurtured. Take Coca-Cola and Apple as examples
– these brands have many years of goodwill packed into their brand
and are deemed invincible.
A strong and valuable brand has many advantages. Aside from

communicating the company’s personality and culture and identifying
with the consumer, it helps companies gain sales, credibility, a
competitive edge, and premium pricing power in the market. Compa‐
nies that own reputed brands can introduce new products globally at
an affordable cost, reduce their existing sales and marketing expenses,
remain relatively unaffected by negative publicity, and attract and
retain creative talent very easily.
A valuable brand helps companies score in every department – from

sales to marketing to human resources to public relations to product
development, and more.
As examples, let us take three standout companies that seem invin‐

cible today because of the brands they have created – Coca-Cola,
Apple, and Starbucks.
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Coca-Cola (KO)
It took a long time for Coca-Cola to attain cult status. Originally

invented as a medicine in 1892, the company changed tack within 6
months and reinvented the product as a carbonated drink. It also
created a mission statement that conveyed that the company wanted
to create a positive change and make the world a better place. The
focus was on conveying a feeling and evoking an emotion, and never
about selling a product (Happiness Makers, 2015).
The company stuck to its mission and its conversations with its
consumers down the years revolved around youthfulness, energy,
vibrancy, and of course, a refreshing feeling – but not about the prod‐
uct. The messaging and the visual appeal of the product remained
consistent and Coca-Cola, today, has been ranked as the sixth most
powerful brand in the world (Forbes, 2020).
Here is what an unnamed company’s executive had to say about the

brand, “If Coca-Cola were to lose all of its production-related assets in
a disaster, the company would survive. By contrast, if all consumers
were to have a sudden lapse of memory and forget everything related
to Coca-Cola, the company would go out of business” (Malhotra,
2016).
Coca-Cola may seem like a slow and steady compounder on the charts
but its dividend payouts are humongous. Moreover, the company has
been a consistent dividend payer and its payouts have been growing
for the last 58 years, as the chart shows! (Seeking Alpha, 2021)
Because the company distributes a large portion of its net income as
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dividend, the takeaway is that any investment in this company should

be for income.
Figure 47: Coca-Cola continues to increase dividends despite less than

stellar capital appreciation (Source: Ycharts)
Apple (AAPL)
Apple started in the late 1970s as a desktop and laptop computer

maker, and started making the iPod in 2001 and the iPhone in 2007.
Since the beginning, the company’s brand messaging has been consis‐
tent – it is all about sleekness, well-designed interfaces, ease of use,
style, and individuality (Marketing Minds, 2016).
Apple’s user-friendly and good-looking products were always driven

by consistent brand messaging, and the result is that Apple is one of
the most powerful global brands in the world. Though it is a tech‐
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nology company, many analysts refer to it as a marketing company

because it lavishes money on its marketing campaigns. Did you know
that Steve Jobs spent $100 million on marketing the iMac (Kahney,
2002)? That gives you an idea of how much the company values its
brand.
Customers love the brand, are loyal to it, and are emotional about the
product and the brand’s visual imagery. The company owes its
fortunes solely to its brand value.
Starbucks (SBUX)
Starbucks revolutionized the way we consume coffee at home or in

the office by becoming a go-between hangout. Customers can chill
luxuriously, sip on high-quality coffee, soak in the sophisticated ambi‐
ence, and engage in pleasurable conversations it isn’t just a café but a
culture.
The brand proposition was simple – all that it communicated was a

relaxing, sophisticated, and enjoyable experience, and the rest
followed. Even today, the company thinks creatively and does not
follow conventions while communicating with customers. Its
communication style is friendly and informal.
Starbucks built such a strong brand that it has consumers from all
over the world clamoring for the experience it offered. Today, Star‐
bucks is present in the U.K., Japan, Vietnam, Latin America, Europe,
Russia, India, and more. It is an almost impregnable brand that keeps
enrolling new loyalists every day.
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Summing Up
Some 82% of shoppers feel more favorably inclined towards a brand

after they come across any new content published by its maker, and
94% of them stay loyal to a brand as long as the product is high-quality
and the maker is transparent about it. Almost 60% of consumers
prefer to buy a brand because they trust and identify with it (Voji‐
novic, 2021).
Brand power transforms a product into an economic powerhouse. It

skyrockets the brand owner’s reputation, sales, profits, and valuations,
while strangling the competition at the same time. It shares values
with the customer, is culture-empathic, and motivates loyalty by
connecting emotionally, thereby maximizing customer lifetime value.
Keep your eye out for new products and services that have the poten‐
tial to develop into strong brands. Research the company’s financial
performance, using the measures we discussed earlier, and assess the
commitment of the management team (are insiders buying stock
shares, for example). When you find a good candidate, invest in it, but
remember these axioms:
Never buy a stock that hasn’t publicly traded for a minimum

of 6 months (NO IPOs!)
Never buy a stock on a tip (be it a famous stock picker, or
your cousin). Always research it first by looking at the
reports of the company (The annual 10K report will tell you
about the market, competitors, and risks.)
Never “buy it and forget about it”. It’s ok to hold a stock for a
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long time, but only when you are convinced the company
will continue growing. As you will read later, moats can and
do erode when management loses sight of customers’ needs
and wants.
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10
THE UNSEXY MOAT
M ost job-seekers, entrepreneurs, and existing companies

invariably get attracted to buzzing and exciting business
trends such as creating a killer app or a niche social media platform or
jumping into a business that is benefitting because of any trend (for
example: COVID-19). The need to start something that is “happen‐
ing” is psychological and emotion-driven. Sure, it can succeed, but
then it can fail too. In 2020, about 75% of start-ups funded by venture
capital failed (Chernev, 2021), and that is a lot of food for thought.
If you analyze business models, you will discover that almost all
successful businesses have one goal – to make life simpler and easier
for their clients/users, often by disrupting an established market.
Consider Uber as a mere taxi-hailing service, Waze as just a traffic
navigator, Spotify as simply a music database/player. These are
companies that took a simple, unglamorous idea and capitalized on an
opportunity.
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The epitome of unglamorous is the business of managing human

waste and converting it into something useful. Being an unsexy busi‐
ness, it remains under-hyped and is considered less desirable, which is
why competition is limited and the potential for profits is unlimited,
given the amount of trash humans generate every day.
Discarded plastics, wastewater, mountains of garbage, messy landfills,

dysfunctional e-waste, and useless batteries may evoke a feeling of
disgust inside you – but for some companies, trash is cash, because
they recycle junk and convert it into reusable materials, retrieve useful
materials from it, or convert it into energy.
The world is now in a hurry to shed its unproductive and wasteful

lifestyle and latch on to a sustainable and environment-friendly
future. The clean environment movement has gathered pace and is
snowballing.
Companies that have developed expertise in recycling waste into

useful stuff stand to gain hugely in the future. These companies are
now creating a moat that is unsexy but is one that will become deep
and wide as time passes.
You’ll be surprised to learn that there are many such unsexy busi‐
nesses thriving these days and the companies that own them are
establishing an economic moat that can help them become ten-
baggers.
The age of the unsexy moat is upon us and it is time for investors to
ogle at and latch on to it.
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This chapter talks about how plastics dumped in landfills and oceans
have turned into a major environmental problem and how some
companies that are into plastic recycling can help us get rid of the
problem and go on to become rewarding investments.
Plastic Recycling: A Prime Example
If all humans were to go extinct today, the plastic waste generated by

them would last for 500–1,000 years.
You can say that humans are perishable, while plastics are virtually
indestructible.
Digging deeper – about 75% of plastic produced gets dumped as waste

each year. Current data suggest that humans generate about 300
million tons of plastic waste annually (Vuleta, 2020). Around 10
million tons of this waste is tossed into the oceans, killing hundreds of
thousands of marine animals annually. The rest is dumped in landfills.
What is even more disturbing is that plastic waste is growing at 9%

per year. As it piles up, landfills will turn into mountains of garbage,
and our marine life and ecology will see further negative impact.
As per National Geographic (Parker, 2020),. if the current trend of

plastic production, consumption, and waste management continues,
almost 30 million tons of plastic will be dumped into the oceans annu‐
ally by 2040. However, if governments take strict action, the waste
dumped into the oceans could be reduced by as much as 82% by 2040.
The cost to reduce? About $600 billion. The cost of inaction?
Expected upheaval in our lifestyles so that we all become poorer.
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Americans generate 35 million tons of plastic waste every year but

recycle just 8.3% (Vuleta, 2020). Dumped and untreated plastic waste
causes greenhouse emissions, destroys marine ecosystems, and makes
our planet look ugly. It is a no-brainer that plastic waste needs to get
recycled at a faster pace than it is being done now.
“Find a need and fill it” is the message here. Quality companies have
already recognized the opportunities in plastic recycling and are likely
to establish brand names and generate solid revenues and profits
going forward.
Profit Margins in the Plastic Recycling Business
Plastic waste recycling is a part of the waste management process.

Companies that recycle plastic are also engaged in other activities such
as recycling wastewater, recycling medical waste, conversion of waste
into energy, etc. So, profit data for plastic recycling alone is be diffi‐
cult to segregate.
The following are some of the listed companies engaged in waste

management and recycling, along with their EBITDA margins
(Usifer, 2020):
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Figure 49: An examination of profitability across various waste

management and recycling companies
Among these, Waste Connections (WCN) reported the highest TTM

EBITDA margin of 30.2%. Other companies that stood out were
Republic Services (RSG) and Waste Management (WM).
Given the amount of plastic waste that is piling up every day, recy‐
clers’ revenues and profits are likely to be driven by humongous
volumes. Also, newer technologies and players, some big and many
small, have started filtering into the niche.
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The economic moat for this niche would be:
1. Experience and Expertise in recycling

2. Versatility (i.e., recycling all kinds of waste)
3. Market reputation
4. High EBITDA margins
Three names that appear to be building a strong economic moat are

Waste Connections, Republic Services, and Waste Management.
Waste Connections (WCN) (trading in the $130s in the fall

of 2021)
WCN was founded in 1997 and has been focused on solid waste
collection, recycling, disposal, and resource recovery services in the
U.S. and Canada.
The company offers services to commercial, residential, government,

and industrial sectors. It has considerable experience in plastic recy‐
cling, metal recycling, recovering materials from waste (including e-
waste), converting waste to energy, processing waste wood, and
handling hazardous waste.
The company has been aggressively expanding through acquisitions

and has established a name at the national level.
The company’s TTM EBITDA margin of 30.2% is way higher than

the sector median of 12.3%, and it generates $1.4 billion cash from
operations annually, which beats the sector median of $233.5 million.
These two key ratios establish the fact that WCN is an efficiently
managed company.
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Republic Services (RSG) (trading in the $120s in the fall of

2021)
RSG was founded in 1998 and has picked up considerable experience,

skills, and versatility in the waste management niche. The company
has many business lines including solid waste disposal; recycling of
non-hazardous materials like cardboard, newspapers, metals, glass;
andrecycling plastic waste. The company provides services to residen‐
tial, municipal, and commercial sectors.
This is an efficiently run company that generates operating cash of

$2.4 billion annually (sector median $233.5 million) and earns a net
income of $27.6K per employee (sector median $10.16K).
Waste Management (WM) (trading in the $150s in the fall

of 2021)
WM is a veteran in the waste management and recycling niche. By

1982, the company had clocked $1 billion in annual revenues, and it
has reported $15 billion in annual revenues for its fiscal year ended
December 31, 2020. Like WCN, WM offers waste management and
recycling services to residential, industrial, commercial, and govern‐
ment sectors. The company can recycle any kind of waste – plastic,
metal, paper, glass, e-waste, as well as hazardous waste.
WM delivers a solid 7.68% TTM Return on Total Capital, which is

way above the sector median of 5.43%. It generates $3.04 billion cash
from operations every year, which overshadows the sector median of
$233.5 million.
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WCN, RSG, and WM are building deep moats in the waste recycling
business, including plastic recycling. They are national names and
possess deep expertise in the niche – and they are very aggressive in
acquiring smaller players in the waste management business. The
thing to remember is that once their CAPEX and acquisitions
programs conclude, their net profits are likely to shoot through the
roof because, by then, depreciation, amortization of intangibles, and
interest on long-term loans will have peaked out.
Summing Up
Many experts opine that COVID-19 has accelerated the move towards
a cleaner environment, and hence the need for more and faster recy‐
cling of waste. However, COVID-19 or no COVID-19, plastic waste is
a global nuisance and governments need to do something about it at
the earliest.
Sure enough, there will be thousands of players, most of them small,

in the plastic recycling niche going forward. But the waste manage‐
ment companies that have the technology, experience, profitability,
and versatility are the ones that will have a deep and wide economic
moat in a sunshine sector that is likely to be driven by huge volumes
going forward.
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11
WHAT IS NOT A MOAT?
“You can't build a great building on a weak foundation. You

must have a solid foundation if you're going to have a strong
superstructure.”
— GORDON B. HINCKLEY
W e’ve just covered 7 types of economic moats, plus how to

confirm one by applying certain financial metrics.
But do you know that many investors and analysts often mistake a
temporary, narrow, vulnerable, or non-existent competitive advan‐
tage as a strong moat and blindly lap up the company’s stock? Also,
many investors buy into a company that is protected by a moat
126
without analyzing if its management’s actions are eroding or weak‐

ening it.
As an investor, you’ll need to learn how to identify a weakening, non-

existent, or narrow moat and make intelligent investment decisions.
Here is a list of factors and red alerts that investors should watch
out for.
1. Size Doesn’t Matter
Big is not beautiful.
Let’s use an example to explain: Boeing has been in business for more than
a century and it is a huge brand name. The company enjoys economies of
scale and has many loyal clients. Yet, even after decades of existence, it did
not have enough cash reserves to help it withstand a year’s worth of the
COVID-19 disruption. The company had to issue bonds worth $25
billion to bail itself out of the mess (Bomey, 2020). Boeing’s moat is an
example of a narrow, vulnerable, and almost non-existent moat.
Lesson: Size doesn’t matter when it comes to an economic moat. A

huge company in existence for several decades may not be protected
by a moat if its balance sheet is weak.
2. Management Quality and Business Strength Are Key
Steve Jobs did great with Apple, but could he have done the same with
the failed Blockbuster?
Elon Musk is innovating and doing big things at Tesla, but could he
have worked his magic if he was Enron’s honcho?
127
The point is: efficient and visionary managers in a solid business

can outperform peers managing weaker businesses. However, a great
manager in a lousy business will not be able to outperform. Peter
Lynch, famed Fidelity Magellan Fund manager, once said, “Go for a
business that any idiot can run, because eventually an idiot will be
running it”.
Lessons: A flawed business managed by a great management team is

NOT an economic moat. A strong business with a weak management
team at the helm is NOT an economic moat.
A solid business helmed by a solid management team – now that’s a

strong moat!
3. A First-Mover Advantage is Not Necessarily an

Economic Moat
First movers are admired by investors and their stocks are chased by
the herd. However, the first-mover company needs to be managed
efficiently, keep scaling up, stay on top of market trends, and evolve
with the times.
If the management becomes complacent, the first-mover advantage

erodes and turns into a liability.
Pause for a minute and think about what Google did to Yahoo, and
how Facebook mauled MySpace.
The first-movers’ graveyard is packed with products and services of

big companies that were launched with fanfare. For example, Google
128
Glass, CraigsList short-term rentals business (cannibalized by

Airbnb), MeerKat, BetaMax and many more.
Lessons:
A first-mover is largely inexperienced in the marketplace, and has to

burn a lot of cash to build up a robust user base. If the business model
does not evolve to reconcile with the changing times, there can be hell
to pay – and though such companies can grab investor fancy in the
short to medium term, investors need to watch for any long-term
structural weaknesses and stay near the exit door.
4. Red Tape, Hurried Decisions, and Complacency Can

Ruin the Advantage
Many young companies that are protected by a moat are lean and
agile. As they scale up, many take reckless decisions or introduce too
many procedures that slow down decision-making. Some businesses
grow so big that they become complacent and stop caring about the
marketplace, without realizing that a product, service, or code can be
easily replicated if it is not protected by a patent. Investors need to
watch out for signs that can lag or wreck the company’s business
model.
Lessons:
(a) A company that stretches beyond its means can erode its
moat.
(b) Too much debt can sink a business.
129
(c) Unrelated diversifications can lead to cash leaks and

wreck the balance sheet.
(d) Complacency, especially an uncaring attitude, is financial
poison.
(e) Competition creeping into the space should be a red-hot
alert. If the management fails to act, it can only blame itself.
(f) Long-winded procedures that slow down decision-
making kill innovation. Red tape should be introduced in a
growing business only if regulation mandates it.
5. Reconciling with Customer’s Preferences
Companies that enjoy the pricing power moat are often tempted to
boost revenues and profits by increasing prices. The management
team knows that customers love their brand and therefore will keep
coming back for more – but what they don’t know, or simply ignore,
is that customers don’t like to be short-changed, especially when there
are competitors around.
After acquiring Gillette, Procter & Gamble raised prices and opened
the gates wide for the competition, which was otherwise silent (Hun‐
gate, 2020). Today, even though Gillette contributes somewhat to
Procter & Gamble’s revenues and profits, its revenues are trending
downwards and the company is unable to capture its lost market share
even after the company slashed the prices of Gillette products in 2017.
Another example is Sony’s BetaMax. BetaMax was heavier, slower,

and more expensive than VHS machines – but its quality was supe‐
rior. VHS was cheaper, lighter, and faster – and these qualities made
130
customers go for it, even though they had to compromise somewhat

on quality.
Lessons:
(a) Don’t push the customer. If you do, the competition will
enter and erode your economic moat.
(b) Keep up-to-speed with the customers’ tastes,
communicate effectively with them, and ensure that their
interest in the product does not wane.
(c) Customers don’t mind compromising somewhat on
quality if the product is very convenient and easy-
to-handle/use.
Summing Up
A company with a wide and deep economic moat generates a healthy

ROCE and ROE year over year and can easily withstand financial
disruptions. Such a company owns a strong brand or a high-quality
product that has a loyal following, has adequate cash reserves to
sustain and expand, especially during difficult times, communicates
effectively with its customers, and remains focused on providing
superior customer experience.
A company with an eroding economic moat will witness falling

revenues and market share.
A company with a narrow, weak, or non-existent economic moat will

not be able to enjoy any of the advantages.
131
Investors should realize that we live in a fast-evolving market

wherein the customer can switch loyalties in a snap, and products and
services are vulnerable to technological obsolescence and customer
tastes. A commodity product does not become a brand unless it is
appropriately positioned in the customer’s psyche.
Managements must protect their economic moat by being defensive

with the customer on the one hand and offensive with the competi‐
tion on the other, without pushing the customer too hard or taking
too many liberties with their economic moat.
By the time you are through with this book, you will be adept at iden‐
tifying a deep and wide economic moat. And, you will also learn how
to analyze a moat’s strength. If a company flouts any of the metrics
discussed above, know that its moat can be in danger. Take it as a
signal, stay near the exit door, and at least start thinking that the stock
may be about to go from coffee can to, well, coffee can’t…
132
12
DO ALL MOATS ERODE OVER TIME?
T he legendary economist, J.M. Keynes, once said, “In the long

run, we’re all dead”.
Keynes was referring to humans – and sure enough, we know that

humans have a limited shelf life.
But do Keynes’ words apply to a company that can, theoretically, exist

forever?
And, what if the company is protected by a deep and wide moat?

Would the moat be perpetual as well?
If a moat were perpetual, the company protected by it would continue

to deliver continuous growth in sales, profits, ROCE, and cash
reserves year over year over year – and we know that such continuity
is not possible, given the hugely competitive and disruptive world we
live in.
133
So, to start off – an economic moat is, like the Fed says these days,
transient, and like life, it cannot be permanent. Here is the explana‐
tion why all moats eventually erode:
Lifecycle of an Economic Moat
There are three phases in the life of a company’s economic moat

(Gutka, 2021):
1. Emerging Phase: This is the formative phase during which the

company invests in building manufacturing facilities and networks
with distribution channels. The heavy investment in this phase,
coupled with interest expense, depresses the profits. As a result, the
company’s profitability usually hovers below the sector median.
To identify an emerging moat, investors need to analyze the strength

of the company’s intangible assets, gross margins, institutional inter‐
est, growing market share, competitors and their brand equity,
capacity utilization, and market size. If the company is strongly placed,
the moat will endure.
2. Enduring Phase: In this phase, the moat continues to get

stronger and stronger. As a result, the company’s revenues rise, costs
reduce, and the company experiences profitability that is well above
the sector median. Other signs that investors must look out for to
identify this phase are: scaling up, rapid growth, increasing valuation,
pricing power, network effect, and increasing market capitalization.
3. Eroding Phase: The eroding phase begins when fierce competi‐

tion, new as well as old, emerges for the company, and it starts experi‐
encing diminishing customer loyalty, static or decreasing
134
revenues/profits, technological obsolescence, falling ROCE, and/or

management complacency. Investors can consider exiting the stock if
they come across these signs.
How Moats Erode
As mentioned above, moats can erode for a variety of reasons. Here

are some examples to show how different factors can lead to erosion
of an economic moat:
1. Patent expiry can motivate new competition to enter the

fray, impacting adversely the innovator company’s revenues
and profits. In 2020, about 66 drugs lost their market
exclusivity and it is estimated that the combined impact will
work out to a loss of revenues of more than $2 billion for the
impacted companies in annual domestic sales by 2025
(Globaldata Healthcare, 2019).
2. Entry of a strong competitor with deeper pockets, savvier
products or technology, better communication, and better
logistics, or more moat-like advantages can result in a free-
for-all. An event like this quickly turns into a survival of the
fittest, and the better company wins, especially if the original
company is slow to react. In 2016, Time Warner favored
paying a dividend to its shareholders instead of investing in
technology to compete with Netflix – and look what
happened (Wenning, 2019)!
3. Management complacency and arrogance can lead to reverse
evolution in the company’s culture, mess up communication,
and end up leaving customers dissatisfied. Customers who
135
feel disconnected from their brand’s culture can ditch it.

Kodak patented the world’s first digital camera in 1978, but
did not market it because it was afraid that the invention
would cannibalize its film role sales. The results are there for
you to see!
4. Other factors that can lead to moat erosion include lack of
innovation, unrelated diversification, flaws in the business
model that are ignored, weak management, too much debt,
and excessive internal bureaucracy. For example, Microsoft
launched Zune, a line of digital media hardware and software
products in 2006, a business it was forced to shut down in
2012. The reason was that Microsoft was a late entrant and
did not have the managerial capability to position their
products and deliver them in the overcrowded digital media
space. Anyway, today, Microsoft recovered its lost glory in
2016 because it focused on Azure, a cloud computing service
that it had launched in 2008.
A company that is agile to changes in their customers’ culture and

preferences, stays one step ahead of the competition, is careful with its
capital and debt, is managed responsibly, and is caring about its share‐
holders’ expectations, can hang on to its economic moat for a long
time. Very few companies have these qualities – and most fall by the
wayside.
136
Summing Up
Though a company has a perpetual existence, its competitive advan‐

tages cannot last forever. Investors can use the information given in
this book to:
1. Identify companies that are building a sustainable economic

moat (emerging phase), and companies that are raking it in
while killing the competition (enduring phase).
2. Discover companies with eroding moats and plan an exit
strategy.
3. Understand why companies that don’t innovate or keep up
with market trends fail.
4. Figure out what a company is doing right and where it is
going wrong in creating or preserving its economic moat. If
it is going wrong, the investor can move closer to the exit
door.
It takes a visionary and entrepreneurial innovator to build and sustain

a strong economic moat.
Likewise, it takes a visionary investor to detect a company that is

eroding or is at the end-cycle of its economic moat. This book intends
to make you one such visionary investor.
137
13
ADAPTING YOUR NEW FOUND

KNOWLEDGE IN YOUR OWN
INVESTING PROCESS
“The best kinds of books are the ones that give you a life
changing idea. When that happens, put the book down right
away and execute on it”
— JOSH SNOW, FOUNDER & CEO OF SNOW

TEETH WHITENING, THE FASTEST
GROWING ORAL CARE COMPANY IN THE
WORLD
H ere’s our challenge to you, the reader. We want this to be the

most valuable investing book you’ve ever purchased.
So in this short chapter we’re going to give you a roadmap to do

exactly that.
138
First of all, the next time you’re looking for stock ideas, we want you
to only focus on companies which have an economic moat.
At the time of writing, our own criteria at Freeman Publications lists

346 publicly traded companies which we consider to have a strong
moat.
These range from household names like Amazon, Facebook and

Google… all the way down to companies with a sub $1 Billion market
cap like Meridian Biosciences (VIVO), Lemaitre Vascular (LMAT)
and Thryv Holdings (THRY).
We list all of these companies in our StockScore software which we

built especially for members of our Capital Gains Multiplier program,
the list is updated every month so you never miss out on potential big
winners.
If you’re interested in free access to the software, then you can find
out more information at https://capitalgainsmultiplier.com
However, in the interest of overdelivering, even if you don’t join our

Capital Gains Multiplier program, then here’s the next best thing to
do… and it won’t cost you a single penny.
139
Step 1: Go to
https://freemanpublications.com/moatstocks
Here you will find a list of stocks on Finviz.com which roughly meet
our moat criteria (this
isn’t the same as our strict criteria because we simply couldn’t find a
free piece of software
that could duplicate the process – hence why we made our own)
That list will look something like this
Figure 50: A screenshot of the latest 50 moat stocks on Finviz.com
Step 2: Select 2 stocks from that list, 1 you know well and
1 you are less familiar with
So for example you could choose Amazon followed by Digital

Turbine.
140
Step 3: Go to our YouTube channel at https://

freemanpublications/youtube and watch the video titled
“How to Get Better Investing Results by Journaling Your
Ideas”
There is a free Google sheet alongside that video that you can use to
analyze the company
Here’s my incredibly bold guarantee to you. If you follow those 3 steps

to the letter, you will
become a better investor and you will get better results over the long
term.
Just to give some context for this, over the past 5 years – moat stocks
have outperformed the
S&P 500 by approximately 20% per year.
141
For a detailed look at the performance in the past 12 months, here is

how our Freeman Moat 100 is performing vs. the S&P 500.
Figure 51: The outperformance of moat stocks vs. the S&P 500 (Source:
Ycharts)
But this step is more about getting you comfortable with the process
of identifying and
researching stocks than it is about just blindly giving you a list of

companies with a big BUY
rating on them. That doesn’t help you improve as an investor, but

focusing on the process
does.
So that’s my challenge to you, go through those steps right now before

returning to the final
142
chapter of this book.
143
CONCLUSION
“I fear not the man who has practiced 10,000 kicks once, but
I fear the man who has practiced one kick 10,000 times.”
— BRUCE LEE
We’ve covered a lot in this book. We don’t mess around and prefer to
get to the point and get you results as fast as possible.
That being said, I’m away that what you’ve just read is a firehose
worth of information and I’ve asked you to sip from it. So it’s impor‐
tant that you let it sink in. Feel free to refer back to this book, partic‐
ular the individual chapters on the different types of moats.
145
CO N C L U S I O N
One important mindset shift we aim for in all our books is to help you
apply more aggressive filters to your investing approach. So the next
time you come across the latest and greatest “hot stock” from one of
the TV tipsters or so-called “gurus” on the internet, I want your first
port of call to be “Well, does this company have a solid economic
moat or not?”
Remember, companies that meet our moat criteria are proven to beat
the S&P 500 over the long run. There aren’t too many investing
strategies which can say that.
However, mastery over anything takes time and effort. And frankly, it
is my most sincere hope that our books provide the guidance I so
desperately needed when I was first beginning my investing journey.
And I wish I could cover it all in a single book (for my sake and
yours). But, to do you the service I wish I had had, I cannot, hence
why this our ninth book now. But as one of my mentors from afar
Alex Hormozi says “excellence exists in the depth of knowledge and
nuances.”
So I truly hope this isn’t our last encounter with one another. One
way you can ensure that’s not the case is to join our daily newsletter at
https://freemanpublications.com/bonus - as an ethical bribe, it’s the
first place to hear about and free our latest books for free (yes, free).
Most important though, I hope you’ve gained something valuable

from this book and in return I’ve taken one small step towards
earning the thing I value most from you -- your trust.
If you have any questions, or would like further clarification, you can
email us at admin@freemanpublications.com. We answer every single
146
CONCLUSION
reader’s email (much to the surprise of many readers who have

submitted questions). Such as reader Adam B. who said “Honestly,
I'm quite surprised, pleasantly, to get an actual response and not an
automated one. It's very enjoyable.”
One final word from us. If this book has helped you in any way, we’d
appreciate it if you left a review on Amazon.
Reviews are the lifeblood of our business. We read every single one
and incorporate your feedback into our future book projects.
To leave an Amazon review, go to
https://freemanpublications.com/leaveareview
147
CO N C L U S I O N
148
CONTINUING YOUR JOURNEY
Like Robert Kiyosaki said on the previous page, “The most successful
people in life are always learning, growing, and asking questions.”
Which is why we created our investing community, aptly named

How To NOT Lose Money in the Stock Market, so that like-
minded individuals could get together to share ideas and learn from
each other.
We regularly run giveaways, share wins from our readers, and you’ll
be the first to know when our new books are released.
It’s 100% free, and there are no requirements to join, except for the
willingness to learn.
You can join us on Facebook by going to
http://freemanpublications.com/facebook
149
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STOCK INVESTING FOR

Identifying what defines a “great company” 9

1. Why Do Moats Matter? 13

In this 8 part video course, you’ll discover our

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In these videos, we analyze the stock portfo‐

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Our 2020 selections outperformed the

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In his seminal work on growth investing, legendary fund manager,

“Buy great companies, don’t overpay, do nothing.

And he’s done so by focusing on buying companies that can ensure

At Freeman Publications, we’ve adapted many of Smith’s approaches

Note: If you’re interested in our performance or current stock recom‐

Now in order to identify these “great companies”, we believe, the best

If you’re unfamiliar with the term, it is most commonly attributed to

If you look at the top 5 stocks in the world by market capitalization

To your success and wealth,

Founder & CEO, Freeman Publications

WHY DO MOATS MATTER?

“No formula in finance tells you that the moat is 28 feet

— WARREN BUFFETT, FAMED INVESTOR

Nope, not even close.

Which is kind of insane…

Because in any other field if less than 8% of the professionals

Well, we’d have to reevaluate what “average” even means, wouldn’t

But in investing, we simply let this kind of behavior slip by.

However in 2012, when financial research firm Morningstar released

As we move further on in this book, we’ll introduce our own moat

An economic moat is an advantage or a set of advantages that protects

A majority of the top 100 companies sorted by market capitalization

A note on the COVID-19 Disruption Impact

groceries, consult doctors and learn online, companies are busy

No filter in the financial universe can help you to judge COVID-19’s

HOW TO SPOT MOATS

A lbert Szent Gyorgi, the legendary biochemist who

Economic moats cannot be expressed in terms of money, but they can

platform – many offer links to research information, and many will

Here are initial questions to ask yourself in evaluating potential

A. BASIC QUALITATIVE QUESTIONS TO ANSWER

1. Can you understand the company’s business model?

B. ADVANCED QUALITATIVE CHECKS

1. Look for features of the business that enables the company to

Before applying the following quantitative checks, figure out what

1. Return on Equity (ROE)

Strong companies can generate – with unfailing consistency – a solid

ROE = Annual Net Income ÷ Shareholder’s Equity

ROE measures the profit generated per dollar of shareholder’s equity.

Naturally, any company that is fenced by an economic moat should be

chugging on nicely on a growth path. You should be looking for an

2. Return on Assets (ROA)

ROA measures the efficiency of a company’s investment in assets and

ROA = Annual Net Income ÷ Average Total Assets Owned

Total Assets = Total Liabilities + Shareholder’s Equity

The average is simply (Assets at the beginning of the period + Assets

As with ROE, investors should benchmark a company’s ROA with the