Warren Buffett's stock analysis: what to look for and what to watch out for?

Today I would like to follow up on my previous article that was a success last week. I analyzed how Warren Buffett's above-average performance garnered positive feedback. Today, I would like to follow up on that and look at the specific criteria or parameters that the great man uses to select individual stocks.

Warren Buffett (Oracle of Omaha)

Warren Buffett, the legend, the genius or the oracle, this is how this great man is often referred to, who has really achieved a lot in his career. Investors should never blindly follow or copy someone's actions, but in this case, it is the case that we can learn a lot by watching his actions, advice, statements, etc. From the previous article, you know how Buffett picks individual companies and what they must meet as a guide 👇

How to achieve the average annual return of 20% achieved by Warren Buffett?

Today, however, we'll focus on the specific numbers Buffett requires to even consider a potential investment. The Oracle of Omaha is rightfully considered the most successful investor of the 20th century, which prompts us to look at his moves, strategies, and more.

(338) Warren Buffett: How To Achieve A 30% Return Per Year (7 Investing Rules) - YouTube

"The key to investing is to pick the right stocks at the right time and hold them as long as the company is doing well."

There are a few things worth noting about Buffett's value investing strategy. Buffett uses several key considerations to evaluate the attractiveness of a potential investment. Let's look at specific criteria 👇

Return on Equity = ROE

Companies that deliver positive and acceptable ROEs over many years are more desirable than companies that have had only short periods of solid returns. The longer the number of years of good ROEs, the better. To accurately assess historical performance, an investor should review at least 5-10 years of a company's ROE.

  • It is also important to compare ROEs with industry peers, which will provide a deeper picture of the company and its strength.

Company debt

A large debt-to-equity ratio should cause some concern, as a larger portion of a company's profits will go to managing and reducing that debt, especially if growth only comes from adding more debt, which is a negative characteristic.

  • Buffett prefers to grow earnings from equity. A company with positive equity means that the company generates enough cash flow to cover its liabilities and does not rely on debt.

Profit margins

An investor should look for companies that have good profit margins, but especially margins that are growing. As with other metrics, Buffett is mindful of the longer time horizon and looks back several years to identify opportunities for the future, but he also rules out the possibility that this is a short-term trend that may fade.

  • To stay on Buffett's radar, management should be adept at growing profit margins year over year, a sign that management is also good at controlling operating costs.

P/E and P/B other important metrics

Buffett mainly considers return on equity and earnings per share trends when determining the future value of a company.

  • To determine whether he can continue to follow the company or ignore it, Buffett looks at the P/E and book value. In the past, he has aimed for a P/E of 15 or lower.
  • Warren Buffett, the greatest value investor of this century, tends to buy stocks with P/B ratios around 1.3. If, for example, the price of Company A, is $500, but its book value is $250, then its P/B ratio will be 2.00. The share price is therefore twice the book value.

He takes these criteria into account in his analysis:

Earnings per share over the last 10 yearssteady growth
Long-term debt< 5x earnings (ideally < 2x earnings)
Return on equity (ROE) over the last 10 years> 15%
Return on assets (ROA) (borrowed capital + equity)> 12%
Business must not depend on large capital expenditures
Free cash flow> 0%
(Last year's profit after tax - profit 10 years ago after tax) / total retained earnings> 15%

I also found this interesting table from the LYNX website that shows other interesting indicators for stock selection and analysis according to Buffett - link here.

If I wasn't looking at specific numbers, Buffett obviously also looks for stocks that are trading at a discount. That's the core of value investing: finding companies that have good fundamentals but are trading below where they should be - the bigger the discount, the more room for profitability.

The goal of value investors like Buffett is to discover companies that are undervalued relative to their intrinsic value. The opportunity to buy at a discount exists when a company's current market value is cheaper than its intrinsic value. While there is no exact formula for calculating intrinsic value, investors will look at a number of factors - such as a company's corporate governance and future earnings potential.

In estimating a company's intrinsic value, the Oracle of Omaha uses what is known as the discounted cash flow method (DCF method), taking into account the next 10 years. Since even Warren Buffett cannot know what the value of the company will be 10 years from now, his selection criteria, which I noted above, are all the more important to him. On the basis of which he is then able to make at least some meaningful predictions.


Of course, with this article I am not saying to anyone - Stick to these metrics and you will be as successful as Buffett. The article serves as inspiration from someone who has been and still is very successful and very experienced, at the same time Buffett's strategy may not be the right one for you. Personally, I take it that in order to move on and make some progress, it's good to learn from the best, take something from it and create your own ideal metrics to choose from. Again, I point out that this is not the complete package of metrics that Buffett tracks. If there is interest in a sequel, I'll be happy to follow up with another installment. Let me know in the comments if you are interested in this topic and if you would be interested in an analysis and perspective on the strategies of other well-known investors.

Please note that this is not financial advice. Every investment must go through a thorough analysis.

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