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Depending on the situation, some gauges matter more than others. Take your car’s dashboard, for example. It’s probably wise to keep an eye on the speedometer as you drive to work. But forget to glance at the gas gauge and you may soon be coasting to a halt.
Warren Buffet’s annual letter to shareholders came out last week, advising us that a company’s gauges should include careful attention to the ABC’s. “A” stands for arrogance. It is easy for a business to think its product or offering is better than it really is or that the market is better than reality. The “B” is for bureaucracy and we all know that regulations and rules can be game changers for a business. The “C” stands for complacency and unfortunately, it is found far and wide in today’s business world.
A business school might teach students how to avoid Mr. Buffet’s ABCs, or at least navigate the issues. But for the purpose of this article, let’s focus on ways to identify companies struggling in these areas. Any such sign should serve as possible warning signals that your dollars may be at risk.
Arrogance can be hard to identify. We all expect a CEO to be fully supportive and enthusiastic about the company’s offering. This is where the fundamental aspects of a company become very important. You want to make sure a company is not using too much leverage (debt) in an effort to swing for the fence before its offering gets to first base. You often want to make sure the company’s sales projections reflect expectations of strong yet realistic growth. Arrogance often occurs when a company buys a company with a differing business model or product. Just because a company can excel in one area, doesn’t mean it will achieve similar results in a new category.
Bureaucracy comes into play with changes in tax and social policy or demographic shifts. Horse and buggy makers didn’t go under because of regulations. Instead, they ceded their relevance to the technological improvement of the “horseless buggy” – what you and I call a car. On the other hand, manufacturers have been shut down due to changing EPA requirements imposing higher regulatory costs that put the company’s sales at a disadvantage. This happens a lot in the medical and financial services sectors. Watch Washington closely for changes that could show up negatively in your portfolio.
Complacency has its own bag of troubles. You either get better or worse in business each day. There is no status quo. Jim Collins makes the point in Good to Great that the enemy of great is good! Businesses reach a point where the promise of today is so good, management is reluctant to make changes that could move them from good to great. Companies that achieve consistently good numbers will tend to try and maintain good rather than strive for great. That strategy isn’t necessarily bad, but you need to know the game plan!
Disclaimer: Do not construe anything written in this post or this blog in its entirety as a recommendation, research, or an offer to buy or sell any securities. Everything in this post is meant for educational and entertainment purposes only. I or my affiliates may hold positions in securities mentioned in the blog. Please see my Disclosure page for full disclaimer.[/vc_column_text][/vc_column][/vc_row][vc_row][vc_column offset=”vc_hidden-lg vc_hidden-md vc_hidden-sm”][vc_widget_sidebar sidebar_id=”sidebar-main”][/vc_column][/vc_row]