The Little Book that Builds Wealth: The Knockout Formula for Finding Great Investments by Pat Dorsey

I just finished this short book, and it was pretty good.  A long article on moats, or competitive advantages would have probably sufficed.  It was probably a good exercise to think about them for at least a few hours and go through some exercises.  Here are my notes on the book about how to follow his process.

Companies fall into 1 of 3 categories:

1. Wide Moat
2. Narrow Moat
3. No Moat

Questions to ask to identify the size of a company’s moat:

1. Has the firm historically generated solid returns on capital? (morningstar.com - Key Ratios)
2. Does the firm have one or more of the competitive advantages listed below?
3. How strong is the competitive advantage? Is it likely to last?

Competitive Advantages:

1. High Switching Costs - business services typically are great here. Consumer services are frequently poor.
2. Network Economics - great distribution network (visa), monopoly-like companies (eBay).
3. Low-Cost Production - better process (Dell) (temporary?), location, asset. size advantage (ups).
4. Intangible Assets - brands (premium, not popularity), patents, regulatory licenses.

Drivers for valuation:

1. Risk
2. Return on capital (will be >15% if the company has a moat)
3. Competitive advantage
4. Growth

He likes the price to cash-flow ratio for determining a fair value.

Only sell when one of the following conditions have been met:

1. Did I make a mistake?
2. Has the company changed for the worse?
3. Is there a better place for my money?
4. Has the stock become too large a position?