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‘Wide moat’ companies losing competitive edge


Andrew Leckey

Andrew Leckey

Every company is looking over its shoulder these days.

The number of firms with a “wide moat” that presents an almost insurmountable obstacle to potential competitors has been declining.

Rapid-fire innovation, technology and globalization mean challengers can arise from almost anywhere. A company can also have a wide moat in a business that isn’t the money-maker it once was. Or a firm can become so enormous that it is difficult for it to significantly increase its profits.

Take personal computers, for example. Dell Inc. was No. 1 in PCs not so long ago, but that is no longer the case. A decade ago, IBM was dominant in PCs, but chose to exit that commoditized business altogether.

News events, such as the oil spill of BP or the government’s civil suit against Goldman Sachs Group Inc., can also hammer a prominent brand.

“Competitive advantage these days is difficult to obtain and it is difficult for a business to have an indefinite wide moat,” said Richard Cripps, chief market strategist with Stifel Nicolaus in Baltimore. “Pay careful attention not only to a company’s competitive advantage today, but also how good the company will be in adapting to inevitable changes from technology and globalization.”

Coca-Cola Co., a long-time favorite of investor Warren Buffett, was for many years considered to have the widest of moats because no one could ever replicate its business. Yet Coca-Cola really hasn’t made money for its investors in 15 years, Cripps noted.

“Wide moat companies don’t necessarily correlate to good investments, because if they did, why do they have to spend so much money on advertising?” asked Arthur Hogan, director of global equity product for Jeffries & Co. in Boston. “If you go to a restaurant and ask for Diet Coke and they say they only have Diet Pepsi, most people say that’s fine. Does that mean the impact of Coca-Cola’s advertising has gone out the window?”

The combination of Coca-Cola and PepsiCo Inc. spends more money on advertising each year than the gross domestic product of most emerging countries, Hogan noted, and that means they give up a lot in profit margins to pay for that advertising.

“Companies are nipping at the heels of wide-moat companies such as Phillip Morris, Coca-Cola, Clorox and Procter & Gamble, but not really taking huge market share away because those firms’ marketing and global distribution are so formidable,” said Paul Nolte, managing director at Dearborn Partners in Chicago. “Where a wide moat really helps you out is in a tumultuous market, such as 2008, providing decent rates of return and downside protection.”

Discount powerhouse Wal-Mart Stores Inc. had a positive rate of return during the deep recession, but hasn’t performed as well since the market bottomed out in March, said Nolte. Instead, retailers such as Target Corp. and Aeropostale Inc. have prospered from the economic upturn.

Apple Inc. (AAPL) is pointed to by both Cripps and Hogan as a wide-moat company because of its innovative offerings such as iPad, iPod, iPhone and iTunes, as well as its ability to attract consumers. It can tell its fans to “stay tuned” for months when it’s going to be coming out with something new and “really cool,” said Hogan.

Despite plenty of competitors and the fact that cheaper versions of its products can be produced by others, Apple’s brand image and products keep it well ahead of the pack. One challenge it faces, however, is that it is best known in the U.S. and not as popular in growing international markets.

Here are stocks of additional firms enjoying wide moats:

•Tiffany & Co. (TIF), the luxury jewelry and specialty brand known internationally for its little blue box, continually reinvents itself and reinvents demand, said Hogan. With more than 170 years of experience, it now also offers its trademark merchandise through a website and catalog.

• Boeing Co. (BA), the airplane and defense contractor, because no one else can effectively produce the product its makes, said Cripps. “Manufacturing can’t be digitized,” he said. It is one of the largest U.S. exporters with a massive backlog of orders. Europe’s Airbus has a difficult task trying to compete with it.

• United Technologies Corp. (UTX), a conglomerate mostly in construction and aerospace, has unique businesses such as Carrier air conditioners, Pratt & Whitney engines, Sikorsky helicopters and Otis elevators. “If you’re a builder, you almost have to pick Otis elevators because any other choice would almost be seen as a lesser option,” said Cripps. “That gives it a huge moat.”

• Johnson Controls Inc. (JCI), by far the largest provider of controls for heating, ventilating and air-conditioning in buildings, is noted by Cripps. It’s also a leading manufacturer of automotive interior products and vehicle batteries. Emerging markets offer greater potential for its control products.

More recent arrivals on the corporate scene than such storied companies can also have a wide moat.

“It could be argued that the search engine Google Inc. (GOOG) has a wide moat, though technology companies have the potential to lose their moat pretty fast,” concluded Nolte. “In the same way, before Nike Inc. (NKE) shoe manufacturing was fragmented, while before Starbucks (SBUX) there wasn’t much reason to go out to buy your coffee.”

Andrew Leckey answers questions only through the column. Address inquiries to Andrew Leckey, 555 N. Central Ave., Suite 302, Phoenix, Ariz. 85004-1248, or by e-mail at andrewinv@aol.com.

About Andrew Leckey

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