Moody’s (NYSE:MCO) is Warren Buffett’s 8th largest stock investment. According to its most recent filing, Berkshire Hathaway owns around 13% of the company.
Whilst Buffett doesn’t talk about Moody’s often, it’s easy to see what attracts him to the stock. The ratings agency provides an indispensable service, is difficult to disrupt, and generates big returns on its fixed assets.
I think that Experian (LSE:EXPN) has a lot of the features that make Moody’s a desirable investment to Buffett. As a result, I’m looking at buying shares for my portfolio.
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Indispensability
Experian provides data and analytics that help lenders evaluate potential borrowers. Its data allows customers – the majority of which are banks – to assess the risk involved with making loans.
Buffett loves Moody’s because it provides a service that businesses cannot do without. They need their credit rating from Moody’s in order to be able to raise funds by issuing bonds.
Likewise, Experian’s data and analytics are indispensable to the lending process. Whilst Equifax and TransUnion also provide credit evaluation services, banks typically use data from all three to get the best possible insights.
Difficult to disrupt
Experian’s business is also extremely difficult to disrupt. It has a vast database of information that would be very hard for any new competitor to emulate.
Emulating Experian’s database would involve gathering information from thousands of sources. Experian has data on 1.2bn individuals and 145m businesses.
This means that a new competitor setting up would have a huge task to build a product comparable to Experian’s. I think that the protection from disruption here is similar to what Buffett sees in Moody’s.
Big returns
Ultimately, a powerful business is only any good if it results in strong cash generation. Both Moody’s and Experian are able to put their competitive positions to good effect in producing significant returns.
According to its most recent set of accounts, Moody’s has $785m in fixed assets. Using these, it generates $2.6bn in operating income, which I view as very impressive.
I think Experian is equally strong here, though. With $415m in fixed assets, the company produces just under $1.4bn in operating income.
Risk
Any investment brings risk and Experian is no different. At the moment, economic conditions are tightening and this may well impact on demand for Experian’s services as lending slows down.
In my view, though, the risk here is offset by the rate at which Experian is growing outside its core markets. As it expands into emerging markets, its available market grows and I think that this should offset any slowdown in loan demand in the USA.
Conclusion
It’s easy enough to see why Buffett owns such a large stake in Moody’s. The company has a dominant position in a market that is likely to remain durable and the business produces strong cash returns.
I think that Experian has all of the properties that make Moody’s attractive to Buffett. As a result, I’m looking at buying shares for my portfolio today.
