Munger’s Moats: Bank Of America, Paypal And Square

Charlie Munger is famous for stressing the role of moats in successful investing. He argues that only strong moats allow a business to earn returns in excess of the cost of capital for substantial periods of time. The big problem is maintaining a moat. Potential competitors, eyeing those excess returns, will want to enter. What is worse, they will target those aspects of an incumbent’s business that are the most profitable and offer the best opportunities for growth. Technology serves to exacerbate the difficulty of maintaining a moat. It often allows an entrant to use software and electronic communication to reduce the cost of grabbing an incumbent’s most profitable business.


Tesla's Dominance Of The EV Market

For example, Tesla (TSLA) took advantage of the fact that electric cars are simpler to build and require less service to revamp the manner in which cars are built, serviced, and sold. As I have stated numerous times with the emergence of Tesla the brand names of auto incumbent manufacturers switched from being a plus to, in many cases, a minus as the incumbents failed to produce attractive, desirable electric cars in any volume leaving the field to Tesla.


The Performance Of Bank Of America, Paypal And Square

But the story is not limited to automobiles. Another example I turn to here is electronic financial transactions. One would think that with their infrastructure and history major banks would have had a large moat around these transactions. That has not proved to be the case. It turns out that with respect to the stock market’s perception, in the past few years investors have come to believe that banks may be having a “Tesla” moment with respect to processing electronic transactions. To dig deeper into the story, consider the performance of three competitors: Bank of America (BAC), Paypal (PYPL), and Square (SQ).

Bank of America is well known. One of the oldest, largest, and most successful banks in the country, it became a financial conglomerate with the acquisitions of Countrywide and, more importantly, Merrill Lynch. The company’s largest investor is Berkshire Hathaway, of which Mr. Munger is Vice-chairman, which owns more than 10% of the stock.

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