Warren Buffett’s track record makes him one of the investing community’s all-time greats. From 1965 to 2016, he generated an incredible annual return of 19%. In Buffett’s 1989 letter to his shareholders, he shared his key considerations when evaluating a company as an acquisition opportunity.
Given his accomplishments, it would be useful for any investor to learn from Buffett. (Since Buffett looks at stocks as a piece of a business, stock market investors can still benefit from understanding how Buffett thinks through whole acquisitions.) There are six criteria in Buffett’s checklist.
“An offering price (we don’t want to waste out time or that of the seller by talking even preliminarily about a transaction when price is unknown).”
This criterion seems irrelevant to stock market investors on the surface, since stocks have quoted prices and are traded daily. But, Buffett’s sixth criterion actually brings across a very important point: If you overpay when buying stocks, your returns can be mediocre. This is why Buffett is so particular about having a known price before engaging in any acquisition-related discussion – he needs the price to be able to assess if a deal possesses value.
It’s worth noting that the price of a business in itself is not the important thing. What is crucial is the price in relation to the underlying value of the business. So, as stock market investors, we should not be buying a stock unless we are able to value the underlying business of the stock.
To sum up, if you use Buffett’s six criteria for choosing acquisitions when making investment decisions in the stock market, you can increase your odds of success. His criteria reminds us to look for a company with a simple, high-quality business and reliable earnings power; a management team with both ability and integrity; and a price that gives us value.
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