Would Warren Buffett buy these 2 stocks?

Reuters

Warren Buffett, also known as the Oracle of Omaha, is widely recognised as one of the most successful stock investors of our generation.

His track record speaks for itself, and his consistency and humility have won him many fans from all over the world.

As such, it's instructive to look at how Buffett chooses the companies that remain in his portfolio for years, even decades.

With these criteria, we can then apply them to two Singapore-listed companies to see if they are candidates that he may consider.

3 KEY CRITERIA

Buffett has a list of criteria when it comes to stock-picking. Here are my three favourite ones:

  1. Is the business easy to understand?
  2. Does the business generate consistent amounts of free cash flow?
  3. Does the business generate a good return on equity?

The first criteria is self-explanatory.

For the second criteria, free cash flow represents the operating cash flow generated by a business from its core activities, minus the spending that it needs to keep the business running.

The last criteria describes the amount of profit that a business generates for every dollar of shareholder's equity.

Let's apply these criteria to two well-known blue-chip companies.

SATS LTD

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SATS Ltd is a leading provider of gateway services and food solutions for major airlines.

Services include airline catering, aviation security services and baggage handling.

Travellers who fly for holidays or business trips have probably come across SATS' services before. Therefore, it's a business that most people would find easy to understand.

SATS has consistently generated free cash flows for the last five years, from the fiscal year 2015 to 2019 (it has a March 31 year-end).

Average free cash flow generated per year is around $194 million.

Finally, SATS has a 5-year average return on equity (ROE) of 15.3 per cent, and its ROE has been above 10 per cent for all five years.

From the above, SATS does fulfil Buffett's three criteria.

SINGAPORE EXCHANGE LIMITED 

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Singapore Exchange Limited, or SGX, is Singapore's sole stock exchange.

The local bourse operator provides a platform for the buying and selling of securities such as equities, fixed income and derivatives.

Investors who purchase shares either for retirement or to grow their wealth would have used SGX's services to check for share prices or company announcements.

Hence, SGX has a business that is easy to understand - it facilities the trading of securities between buyers and sellers.

The exchange has generated consistent free cash flows in its last five fiscal years, from 2015 through to 2019 (it has a June 30 year-end). The average free cash flow level per year was close to $350 million.

ROE was also consistently high for SGX and stood above 30 per cent in each of the last five years. The average ROE generated by SGX was 34.6 per cent over 5 years and demonstrates the strong profitability per dollar of equity capital for the business.

SGX, therefore, easily fulfils the two financial criteria in Buffett's three key criteria list.

GET SMART: INVEST LIKE WARREN

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The Oracle of Omaha is not immune to making the occasional error.

However, there are few, if any, that can match his long-term track record that spans over 50 years.

Buffett is an investor that has decades of experience, and investors will do well to learn from him and observe what he looks for in companies that he invests in.

You can use the same three criteria mentioned above and apply them easily to other companies too.

Try it today.

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This article was first published in The Smart Investor. All content is displayed for general information purposes only and does not constitute professional financial advice. Disclaimer: Royston Yang owns shares in SATS Ltd and Singapore Exchange Limited.