I wrote an article with some very very similar thoughts (and even examples) few year ago. (link here: https://poornicksalmanack.substack.com/p/thoughts-on-investment-conviction). I feel that most "quality" investors of our time hide behind Buffett's words by misinterpreting them. Paying 30x FCF/earnings often requires seeing far into the future. On another note, it would be interesting to have a call at some point if you have time to share some investment ideas. We run a concentrated hedge fund of 8-15 names, based in Helsinki, Finland. All the best, Nikolaos
Far more wealth has been created by companies that carry “high” valuations and that earn high returns in equity than “cheap” companies that have low ROE, little or no growth, and/or require lots of capex.
If you are a long term investor - valuation mean reverts, but exceptional businesses with durable competitive advantage create far more value than lower quality companies with “cheap valuations.”
Agreed, of course investing is far more than what P/E you pay for a stock. The point is that there are so many people who have heard Buffett's "great company at fair price" quote and think to themselves "Oh, I can just go around paying 25x+ earnings for these great companies and do well."
Maybe they can, but 1) that's not what Buffett actually does nor do I believe that's what he meant when he wrote that 2) very few people have succeeded with that approach 3) there is a massive selection bias in the public sphere that the few people who have done well with that approach self-promote while the many who have tried and failed are largely not heard from
Agree with everything you say. What I cannot really get a hand of is, what is considered too high? For example, I find sometimes when valuations get very high maybe >50x, it takes little for the stock price to start wobbling. I think it sometimes becomes a little more about the investors' expectations about growth. The company can still be growing at a high rate, but if the growth falls below investors' expectations for the quarter, the stock price starts to wobble. If price falls, and company has free cash flows, they can buyback stock and provide some support for price. But if the company has reinvestment opportunities with high returns, would it be prudent to buyback stock? Maybe this is a discussion about short vs long term. Are we okay to live with depressed stock prices for extended periods while the underlying business continues to gain strength and price eventually corrects? I am not sure, it seems like it would be based on individual preferences. Open to being corrected.
Far more wealth has been created by companies that carry “high” valuations and that earn high returns in equity than “cheap” companies that have low ROE, little or no growth, and/or require lots of capex.
If you are a long term investor - valuation mean reverts, but exceptional businesses with durable competitive advantage create far more value than lower quality companies with “cheap valuations.”
What do you think is the batting average for experienced investors of identifying a wonderful company that will stay wonderful for 20+ years in advance? Meaning, if we were to pick 100 investors with say 20+ years of experience and asked them to give us their lists of durable, wonderful companies (with reasonable definitions), what do you think their success rate would be?
Identify an exceptional business with durable competitive advantage, understand it, buy it, and most importantly, stay with it.
Batting average is less important than overall portfolio return.
I believe that most successful investors have portfolios where a relatively small percentage of holdings deliver the majority of the overall portfolio return.
That has played out over decades - where different companies end up being large percentages of the SPX.
The media wrings it hands about “concentration” — but the market over time is merely reflecting economic returns of the underlying businesses.
It’s popular to criticize or dismiss the “Mag7” - but over the past 15 years, far more of their return has been due to their growth in revenues and earnings than multiple expansion.
Ultimately - if we assume that the market is a fairly accurate and efficient judge of business performance over the long run, and if we assume for taxable investors low turnover is more efficient than high turnover, a focus on “best companies” is most logical.
It reduces the risk of owning value traps (I e, in the market, you do eventually “get what you pay for”), and increases the probabilities of earning a solid long term return.
Buffett figured this out in 1988 and bought Coke; he essentially stopped buying “cheap” but meh businesses and concentrated on exceptional franchises with long term competitive advantage and high returns on equity and capital deployed. Apple. Amex. Et al.
Examples with a PE over 20 would be would be Amazon, Visa,
Snowflake, Nu bank and Verisign. You could argue they were smaller investments, your general point stands for purchases like Apple. I am not sure what the PE of Moody's was at the time of purchase.
Certainly a lower valuation increases the margin of safety, but sustainable growth rates should be considered.
I think it's also hard to pay growth like valuations for large companies (as this is the field Mr Buffett must play in to move the needle), due to the law of numbers, i.e. it might be much easier to grow from 1 to 10 billion than 10 billion to 100 billion.
The other aspect of that quote is how one defines "fair price."
Buffett did not say "cheap price." He said "fair price."
I'd suggest that "fair price" really means "fair value" - and that Buffett is encouraging investors to consider the idea that - if one is truly a long-term investor - say, with a time horizon of 10 years (Buffett and Munger note that their preferred holding period is "forever") or longer, the GROWTH RATE of intrinsic value, or free cash flow, is far more important than the valuation that one pays at time of purchase, because valuation mean reverts, but for exceptional businesses with durable competitive advantage, above average growth rates can persist for a long time.
And - history shows that the market consistently undervalues exceptional businesses (probably because most investors have very short attention spans / time horizons, and/or are unduly "risk averse" ("what happens if I pay 30x for Moody's, and the stock goes down to 15x?!?!?" (answer -buy LOTS more Moody's at 15x).
We can make a list of 50 exceptional companies that 20 or 30 years ago "looked expensive". . . but in hindsight, probably fit Buffett's "great company at fair price" suggestion.
The investor - 20-30 years ago - had to be willing to:
1. Look past an ostensibly "high" valuation
2. Think critically about the durability of the of the competitive advantage of the business - and how management could leverage competitive advantage to drive business value growth over time (think about "what could go right" as much or more than "what could go wrong)
3. Understand that there is immense opportunity cost in allocating capital to "cheap" but non-growth businesses -- because high quality, great businesses can and do generate attractive returns over time (market rewards underlying corporate financial performance), AND - you can just buy the SPX and get 9-10% and call it good. . . .
4. And understand that even paying 30x for a 10% grower with a 1% dividend yield held for 10 years, with multiple compression to 25x after ten years, provides a high single digit return, which is attractive in terms of an equity risk premium with 10- year Treasuries at 4% currently.
Of interest -- BRK (Ted Weschler) bought Apple in 2015. Buffett added significantly to BRK's Apple position a few years later. At peak, BRK's Apple position was roughly 25% of BRK's market cap - and was responsible for much of BRK's performance between 2017 and 2024.
BRK has materially reduced its Apple position (although it may still be 7%ish of BRK's market cap) - selling in the $150-200 range.
Apple probably fits the Buffett definition of "great business at a fair price" . . . .
Ultimately, one's definition of "fair price" is critical to implementing a "wonderful company at fair price" investment process.
Buffett doesn't sell very often, sometimes to his benefit but other times (e.g. Coke) not so much. However, he nearly always makes the initial investment when the implied expectations are moderate at most. In your example, what was the valuation of Apple at the time he bought it?
Also, one challenge with your point that the market consistently undervalued great businesses is that the statement works best with the benefit of hindsight. You are looking at businesses bought at 30x that you already know did well as stocks for the next 10+ years when making that statement. The harder part is doing it ex ante - and there aren't a lot of investors I know who are good at consistently paying 30x+ in the public markets and generating great returns. Doesn't mean there aren't any - just that that is a very high hurdle to overcome, and I suspect only a very small % of those who try succeed.
That being said, there isn't one right way to invest, I always encourage those I teach and mentor to find a style that works best for their strengths and weaknesses. Buffett, however, is not one who consistently (or even frequently) pays a high price, whether the business is "wonderful" or not.
My old mentor at Fidelity had a great cartoon: A customer walks into a store and says "I am looking for high quality and low prices." To which the store owner replies: "I have both, which do you want?"
Thank for sharing! Great article. Also loved the recent podcast at Valued After Hours. Keep up the good work!
Thank you for the kind words
I wrote an article with some very very similar thoughts (and even examples) few year ago. (link here: https://poornicksalmanack.substack.com/p/thoughts-on-investment-conviction). I feel that most "quality" investors of our time hide behind Buffett's words by misinterpreting them. Paying 30x FCF/earnings often requires seeing far into the future. On another note, it would be interesting to have a call at some point if you have time to share some investment ideas. We run a concentrated hedge fund of 8-15 names, based in Helsinki, Finland. All the best, Nikolaos
But it’s not just the P/E that matters.
It’s also:
The company’s growth rate.
It’s margins.
How management allocates free cash flow.
Far more wealth has been created by companies that carry “high” valuations and that earn high returns in equity than “cheap” companies that have low ROE, little or no growth, and/or require lots of capex.
If you are a long term investor - valuation mean reverts, but exceptional businesses with durable competitive advantage create far more value than lower quality companies with “cheap valuations.”
In the market - you get what you pay for.
Agreed, of course investing is far more than what P/E you pay for a stock. The point is that there are so many people who have heard Buffett's "great company at fair price" quote and think to themselves "Oh, I can just go around paying 25x+ earnings for these great companies and do well."
Maybe they can, but 1) that's not what Buffett actually does nor do I believe that's what he meant when he wrote that 2) very few people have succeeded with that approach 3) there is a massive selection bias in the public sphere that the few people who have done well with that approach self-promote while the many who have tried and failed are largely not heard from
Agree with everything you say. What I cannot really get a hand of is, what is considered too high? For example, I find sometimes when valuations get very high maybe >50x, it takes little for the stock price to start wobbling. I think it sometimes becomes a little more about the investors' expectations about growth. The company can still be growing at a high rate, but if the growth falls below investors' expectations for the quarter, the stock price starts to wobble. If price falls, and company has free cash flows, they can buyback stock and provide some support for price. But if the company has reinvestment opportunities with high returns, would it be prudent to buyback stock? Maybe this is a discussion about short vs long term. Are we okay to live with depressed stock prices for extended periods while the underlying business continues to gain strength and price eventually corrects? I am not sure, it seems like it would be based on individual preferences. Open to being corrected.
I could not agree more. And watching the 30x go to 40x and on up day by day tests this discipline. FOMO writ large.
Agreed. That is one of the things that makes Buffett so great - his patience
But it’s not just the P/E that matters.
It’s also:
The company’s growth rate.
It’s margins.
How management allocates free cash flow.
Far more wealth has been created by companies that carry “high” valuations and that earn high returns in equity than “cheap” companies that have low ROE, little or no growth, and/or require lots of capex.
If you are a long term investor - valuation mean reverts, but exceptional businesses with durable competitive advantage create far more value than lower quality companies with “cheap valuations.”
In the market - you get what you pay for.
What do you think is the batting average for experienced investors of identifying a wonderful company that will stay wonderful for 20+ years in advance? Meaning, if we were to pick 100 investors with say 20+ years of experience and asked them to give us their lists of durable, wonderful companies (with reasonable definitions), what do you think their success rate would be?
I’m not sure why that matters?
What matters is YOUR or MY ability to:
Identify an exceptional business with durable competitive advantage, understand it, buy it, and most importantly, stay with it.
Batting average is less important than overall portfolio return.
I believe that most successful investors have portfolios where a relatively small percentage of holdings deliver the majority of the overall portfolio return.
That has played out over decades - where different companies end up being large percentages of the SPX.
The media wrings it hands about “concentration” — but the market over time is merely reflecting economic returns of the underlying businesses.
It’s popular to criticize or dismiss the “Mag7” - but over the past 15 years, far more of their return has been due to their growth in revenues and earnings than multiple expansion.
Ultimately - if we assume that the market is a fairly accurate and efficient judge of business performance over the long run, and if we assume for taxable investors low turnover is more efficient than high turnover, a focus on “best companies” is most logical.
It reduces the risk of owning value traps (I e, in the market, you do eventually “get what you pay for”), and increases the probabilities of earning a solid long term return.
Buffett figured this out in 1988 and bought Coke; he essentially stopped buying “cheap” but meh businesses and concentrated on exceptional franchises with long term competitive advantage and high returns on equity and capital deployed. Apple. Amex. Et al.
Examples with a PE over 20 would be would be Amazon, Visa,
Snowflake, Nu bank and Verisign. You could argue they were smaller investments, your general point stands for purchases like Apple. I am not sure what the PE of Moody's was at the time of purchase.
Certainly a lower valuation increases the margin of safety, but sustainable growth rates should be considered.
I think it's also hard to pay growth like valuations for large companies (as this is the field Mr Buffett must play in to move the needle), due to the law of numbers, i.e. it might be much easier to grow from 1 to 10 billion than 10 billion to 100 billion.
The other aspect of that quote is how one defines "fair price."
Buffett did not say "cheap price." He said "fair price."
I'd suggest that "fair price" really means "fair value" - and that Buffett is encouraging investors to consider the idea that - if one is truly a long-term investor - say, with a time horizon of 10 years (Buffett and Munger note that their preferred holding period is "forever") or longer, the GROWTH RATE of intrinsic value, or free cash flow, is far more important than the valuation that one pays at time of purchase, because valuation mean reverts, but for exceptional businesses with durable competitive advantage, above average growth rates can persist for a long time.
And - history shows that the market consistently undervalues exceptional businesses (probably because most investors have very short attention spans / time horizons, and/or are unduly "risk averse" ("what happens if I pay 30x for Moody's, and the stock goes down to 15x?!?!?" (answer -buy LOTS more Moody's at 15x).
We can make a list of 50 exceptional companies that 20 or 30 years ago "looked expensive". . . but in hindsight, probably fit Buffett's "great company at fair price" suggestion.
The investor - 20-30 years ago - had to be willing to:
1. Look past an ostensibly "high" valuation
2. Think critically about the durability of the of the competitive advantage of the business - and how management could leverage competitive advantage to drive business value growth over time (think about "what could go right" as much or more than "what could go wrong)
3. Understand that there is immense opportunity cost in allocating capital to "cheap" but non-growth businesses -- because high quality, great businesses can and do generate attractive returns over time (market rewards underlying corporate financial performance), AND - you can just buy the SPX and get 9-10% and call it good. . . .
4. And understand that even paying 30x for a 10% grower with a 1% dividend yield held for 10 years, with multiple compression to 25x after ten years, provides a high single digit return, which is attractive in terms of an equity risk premium with 10- year Treasuries at 4% currently.
Of interest -- BRK (Ted Weschler) bought Apple in 2015. Buffett added significantly to BRK's Apple position a few years later. At peak, BRK's Apple position was roughly 25% of BRK's market cap - and was responsible for much of BRK's performance between 2017 and 2024.
BRK has materially reduced its Apple position (although it may still be 7%ish of BRK's market cap) - selling in the $150-200 range.
Apple probably fits the Buffett definition of "great business at a fair price" . . . .
Ultimately, one's definition of "fair price" is critical to implementing a "wonderful company at fair price" investment process.
Buffett doesn't sell very often, sometimes to his benefit but other times (e.g. Coke) not so much. However, he nearly always makes the initial investment when the implied expectations are moderate at most. In your example, what was the valuation of Apple at the time he bought it?
Also, one challenge with your point that the market consistently undervalued great businesses is that the statement works best with the benefit of hindsight. You are looking at businesses bought at 30x that you already know did well as stocks for the next 10+ years when making that statement. The harder part is doing it ex ante - and there aren't a lot of investors I know who are good at consistently paying 30x+ in the public markets and generating great returns. Doesn't mean there aren't any - just that that is a very high hurdle to overcome, and I suspect only a very small % of those who try succeed.
That being said, there isn't one right way to invest, I always encourage those I teach and mentor to find a style that works best for their strengths and weaknesses. Buffett, however, is not one who consistently (or even frequently) pays a high price, whether the business is "wonderful" or not.
My old mentor at Fidelity had a great cartoon: A customer walks into a store and says "I am looking for high quality and low prices." To which the store owner replies: "I have both, which do you want?"