How Does Buffett Quickly Analyze a Stock?#
When selecting stocks, Buffett typically filters companies by analyzing financial statements. In the book "Working with a Tap Dance," he mentioned that when asked about his source of inspiration, he replied: mainly relying on reading, with daily work involving a lot of reading. By reading annual reports, analyzing key financial indicators, and conducting preliminary screenings.
1. Return on Equity (ROE)#
This indicator reflects the efficiency of a company in utilizing capital, commonly calculated using the formula ROE = Net Profit / Average Net Assets. Through the DuPont analysis method, it can be broken down into three elements: ROE = Net Profit Margin * Asset Turnover * Financial Leverage, comprehensively reflecting the operational status of the enterprise. Buffett believes that the return on equity should be above 15%. The following analysis references the financial report data of Kweichow Moutai for 2023 and 2024.
For example: Kweichow Moutai's return on equity for 2023 and 2024 is 34.19% and 36.02%, respectively, an increase of 2 percentage points. However, considering that the company holds a large amount of cash that has not been effectively utilized, the return on equity after deducting cash in 2024 may approach 50%. This means that Moutai can recover the initial investment cost within two years.
2. Gross Margin#
Gross Margin = (Operating Income - Operating Costs) / Operating Income, directly reflecting the profit margin of the product. For example, if a product sells for 100 yuan and costs 40 yuan, the gross margin is 60%. Buffett requires a gross margin of over 40%, as a high gross margin indicates that the product has unique advantages, a wide economic moat, and strong risk resistance.
In the Chinese liquor industry, gross margins are generally high. Taking Moutai as an example, the gross margins for 2023 and 2024 are 92.11% and 92.01%, respectively, a year-on-year decrease of 0.1 percentage points.
3. Net Profit Margin#
Net Profit Margin = Net Profit / Operating Income, representing the actual profit after deducting all costs and expenses. If a company has a high gross margin but excessive management or sales expenses, it will erode profits, leading to a poor net profit margin. Buffett believes that the net profit margin should be greater than 5%.
For Kweichow Moutai in 2023 and 2024, the net profit margins are 49.5% and 51.2%, respectively, an increase of 1.7 percentage points year-on-year. This indicates that Moutai may have reduced management or sales expenses.
These are the three core criteria Buffett uses for stock selection, but company analysis also includes other indicators such as price-to-earnings ratio and differentiation.
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