“If you have a castle in capitalism, people are going to try to capture it. You need two things – a moat around the castle, and you need a knight in the castle who is trying to widen the moat around the castle.” – Warren Buffett
Readers sent in some thoughtful responses to my recent post, “What Is and Isn’t a Moat.” Most of the comments centered on whether or not a company’s management can be an economic moat source.
Those who say that management can be a moat make a fair point: management can create cultural advantages or make value-creating investments.
I don’t disagree; however, while management can build (or destroy) a moat, I don’t think they are a moat themselves. Consequently, I find it better to analyze moat and management separately.
In theory, an executive can leave a company at any time. Surprise retirements are not uncommon, for example, particularly following a successful stretch. With smaller companies, a larger firm with deeper pockets can lure away promising leaders. And in rare cases, individuals depart the company due to family issues or tragedy.
Given that the median tenure of S&P 500 CEOs is about six years, according to data company Equilar, it’s hard to judge beforehand which CEOs will remain in place over the next decade.
As such, management alone can be an unreliable source for long-term competitive advantages.
A different take
Even if you think you’ve found the next Jeff Bezos or Mark Zuckerberg, I still find it more instructive to consider what will endure beyond a leader’s tenure. In other words, how is management creating or strengthening the economic moat? It is these advantages which, if successfully cultivated, can be durable across decades.
Consider Disney CEO Bog Iger’s acquisitions of Pixar, Marvel Entertainment, and Lucasfilm over the last eleven years. These investments added, among others, the Star Wars, X-Men, Toy Story, Finding Nemo, Spider-Man, and Iron Man franchises to Disney’s already-impressive portfolio of characters and intellectual property.
In the event you had billions of dollars at your disposal to create characters to take on Disney, you’re up against some major obstacles. Ultimately, there’s only one Darth Vader, one Wolverine, and one Dory. Good luck competing with that.
Iger recognized the distribution potential of these unique characters, as he explained in the 2009 Marvel acquisition conference call. “The popularity of Marvel characters and stories transcends gender, age, cultural and geographic boundaries,” he noted, “and can be told successfully across a wide range of both traditional and new media platforms.”
These strategic investments widened Disney’s intangible asset-based moat, which should benefit Disney shareholders well past Iger’s retirement date. Though subsequent Disney CEOs will need to maintain, and ideally further improve, Disney’s moat, Iger himself is not the moat. Rather, he is the “knight” responsible for widening it.
Understanding the intersection of moat and management is a framework that I’ve found helpful for evaluating a business’s long-term viability. Both are critical components of a company’s – and by extension, its investors’ – success. As such, I find it most useful to separate the two when conducting research.
Once you’ve identified a company’s moat source, you have a good filter through which you can view management and determine how they might be widening (or narrowing) the moat through capital allocation and corporate culture.
Stay patient, stay focused.
You can contact the author by email.
Also by the author:
- What Is and Isn’t a Moat
- How to Avoid Stock Market Distractions
- Why Culture Should Matter to Investors
- The Difference Between Price and Value
- The Transience of Economic Moats
You can also follow Johnson Investment Counsel on Twitter @johnsoninv
(Cover image: Armor for Man and Horse, Kunz Lochner. Metropolitan Museum of Art)
Todd Wenning is a Research Analyst with Johnson Investment Counsel (“Johnson”). Some Johnson clients own shares of Disney.
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