Welcome to the introduction to Rule #1 course, I’m Phil Town and this is Tutorial 4: Moat (Part 2): The Big Four.
This is part 4 of a 9-part series on How to Invest using Rule #1 strategies
Part 1: Rule #1 Strategy- Overview of the Basics
Part 2: Meaning- The Three Circles
Part 3: Moat- A Durable Advantage
Part 4 [You are Here]: Moat- The Big Four
Part 5: Management- Owner Oriented
Part 6: Margin of Safety- The Growth Rate
Part 7: Margin of Safety- Sticker Price and MOS
Part 8: Margin of Safety- Payback Time
Part 9: Zombie Value- Tangible Book Value
The Big 4 Growth Rates and Moat
The big four growth rates are the key to knowing if your company has a big moat. They are book value per share plus dividends, you find that on the balance sheet. Earnings per share, on the income statement. Operating cash flow per share, that’s in the cash flow, and sales per share, which is on the income statement.
These four numbers answer these important questions:
- Does the business have a moat? If the numbers are good then it probably does.
- Is the business growing predictably? We want to see these numbers staying predictable over time.
- If the future is like the past, what is the expected earnings growth going to be in the future? We can get that from these numbers too.
Moat: How Apple Stacks Up
Let’s take a look at the toolbox and see if we can figure out some of these answers. Here on Rule #1 Investing at my watch list, I want to take a look at the big four numbers on let’s say, Apple Computers (AAPL). If I don’t know the symbol of the company I just type in the name of the company, it finds the symbol for me and I hit go. I see in the upper right-hand part of the screen, the Rule #1 score for this company is a 99. Which is extremely good. Part of that score is the big four numbers. So, let’s take a look at where they are.
First click on the numbers view, and scroll to moat. Here on the moat section of the numbers view, are the book value per share plus dividend growth rate, earnings per share growth, operating cash flow per share growth, sales growth, and then a total overall score. We can see that it’s all green, green is good. Yellow is not so good, and red is bad. So Apple has some good big four numbers. We’re looking back 10 years with this column, and then seven years with this column, and then five years, and then three years, and then one year. You can see that Apple scores a perfect 100 on all of the big four numbers, on all of the different times we’re looking at them.
The Company Should Be Predictable
What this tells us is that Apple is a very predictable company, or at least it has been so far and that it has some kind of big moat. Now if we want to see the numbers all broken down into their specific individual year, we simply scroll down and we can see all the big four numbers laid out year by year. Book value per share growth rate, earnings per share growth rate, sales growth rate, and operating cash flow growth rate.
And you can see again, that there’s a lot of consistency in these numbers just by looking across all the years. So the tools make it really easy to identify a big moat company. Let’s go back again and take a look at those Apple numbers. All green, all good. This company has some kind of big moat.
The big four growth rates should be ten percent or better, each year. And they should not be getting worse over time. Looking Apple computer again, we can see that the big four are a certain number like big four book value per share growth rate is 30% percent over 10 years, and then last year it was 58% percent. So we can see that it’s getting better over time.
That really looks good for Apple, and we want that kind of growth consistently in all four of the big four growth numbers. Look at Apple and look at near perfection. This is why it has a 100 score on its moat.
The big four growth rates are book value per share growth, earnings share per growth, operating cash per share growth, and sales growth. And we can find them all right on the Rule #1 Toolbox by looking at the numbers and then at the moat compound growth rate.
Now, your homework is going to be to go to ruleoneinvesting.com and find the big four growth rates for your big moat company. Then answer this, what is the moat score for your company and when you have that you’re ready to go on to Tutorial 5: Management- Owner Oriented.
Phil Town is an investment advisor, hedge fund manager, 3x NY Times Best-Selling Author, ex-Grand Canyon river guide, and former Lieutenant in the US Army Special Forces. He and his wife, Melissa, share a passion for horses, polo, and eventing. Phil’s goal is to help you learn how to invest and achieve financial independence.