We all know that we are in the midst a major health crisis. This has caused the stock market to crash and the economy to spiral out of control. The COVID-19 pandemic, which is a global event that hasn’t been seen since the 1918 influenza pandemic, is something the world community has never faced.
We know that while the nations are locked down, there is a rare opportunity to purchase the top companies in the world and add them to your stock portfolio.
1. Economic moat
An economic moat refers to a sustainable competitive advantage a company has that allows them to outperform their competitors in the long-term. An economic moat should not only be strong during times of crisis, but it should also be resilient. The best companies today have strong and long-lasting economic moats.
Facebook’s economic moat, as an example, is its network effects – everyone is on Facebook.com and Instagram so you can share your thoughts and photos there. When Facebook has 2.5 billion users, it’s very difficult for a new social media network to attract users. Even Google tried.
A high switching cost is another economic barrier that makes it difficult for customers to switch to a competitor’s product. Adobe is an excellent example of this. Photoshop has been the industry standard in image editing software since its 1990 release. It’s difficult for creative professionals to switch to another software when Photoshop is used within their company.
Moats can also include intangible assets such as intellectual property, brands and patents, licenses, economies of scale and cost benefits. An economic moat is a protection or growth strategy that ensures that customers are satisfied with the company’s products and services. This allows them to make long-term profits and maintain market share.
2. The coronavirus is relatively unaffected
All high-quality companies are able to afford large economic moats. However, each company has a different business model that is affected by different crises. Amazon and other internet-related stocks were more affected by the 2000 dotcom bubble than traditional companies like Nike.
COVID-19, a crisis in health that has forced cities to lock down, is the case. This means that sectors such as travel, retail, foodservice, and manufacturing will be the most affected by the crisis.
Starbucks had to close half of its Chinese stores when the outbreak first began in Wuhan in January. Starbucks has had to shut down almost all of its stores in the U.S.A and Canada now that the epicenter has moved to the West.
Similar to the closing of Disney’s theme parks in Anaheim and Orlando , while its parks in Tokyo and Shanghai remain closed. While Disney has diversified its revenue streams, the revenue from its theme parks accounted for around 38% of total revenue for FY2019.
Although Disney and Starbucks are both quality companies with strong economic moats they have to be aware that their business models make them vulnerable to the coronavirus. This is why I prefer to wait and see before investing in any of these companies.
However, companies such as Alphabet or Mastercard are able to continue using their credit cards while they lock down, search Google and watch YouTube videos. Their short-term performance will be affected by lower overall economic activity. However, they should emerge relatively unscathed after the crisis passes.
3. Long growth runway
High-quality companies may have different growth runways. For example, The Coca-Cola Company has been in existence since 1892. Its economic advantages include a globally recognisable brand, a global distribution network, and the ability to sell 1.9 million drinks per day. However, its growth has been limited. Net revenues have increased from US$30.9billion in 2009 to US$37.3billion in 2019. This is a compound annual growth rate just 1.87% in ten years.
Alphabet’s revenue grew from US$23.7 to US$161.9 billion in the same time period (21.19% CAGR). Alphabet’s revenue has grown from US$23.7 billion to US$161.9 billion over the same period (21.19% CAGR). This is due in part to the fact that Alphabet works in an industry with a long growth runway. It is predicted that the Internet will grow to 5.3 billion users by 2023, and the global digital advertising market will reach US$517.5 million by 2023.
Look for companies with high quality that have the potential to grow and expand. Strong growth drivers can generate more revenue and profit and increase the stock price.
This is why we recommend investing in American companies that have the longest growth runways because of the wealth and size of their home markets.
4. Track record of financial performance
A company of high quality will almost always have a track record of outstanding financial performance over many years. It’s always a good idea to verify your suspicions.
A company that is successful should see its revenue and net profit increase each year. The company’s operating cashflow should also be increasing consistently. A company requires cash to operate its business. Positive cash flow is essential. If a company is not careful with its cash flow and runs out of money, it can become bankrupt.
Also, make sure to check if the company can maintain good gross and net profit margins. Margin erosion could indicate that the company is losing its competitive edge or that its business fundamentals have changed.
5. Solid balance sheet
Cash is the king of all things, especially during times of crisis when revenue and sales are affected. Without enough cash, a company may not be able to survive the crisis.
Companies with excessive debt often end up in a recession or crisis. A company that cannot repay its loans or fulfill its debt obligations may have to file bankruptcy. Or it might be forced to rely on the government for help to survive.
Check to see if the company has low or manageable levels of debt and generates sufficient cash flow for interest payments.
The fifth perspective
This list is not intended to be comprehensive and you should do your research before investing in any stock. Each company has its own unique set of risks and threats that can affect its business model. Make sure you understand them all. It makes sense to research companies within your area of expertise.
Remember that even though the stock price of a company you like has dropped by 20-30% from its peak, that doesn’t mean it is worth less. Before you invest, make sure the stock is trading below its intrinsic value .