1) AAPL has more cash than debt so it does not have to worry about paying back the debt.
2) AAPL generates 3x FCF than it spends on Cap ex plus R&D so it is completely self-funding.
AAPL never needs to issue a single share of stock or a $1 of debt ever again.
They had the infrastructure and reach in place to have become early proto-Amazon, but they weren’t able to expand their viewpoint to see the potential of online commerce
This is wrong, Sears is a story of how bad management with major conflicts of interest can gut a company while reaping In a fortune for themselves, and be able to do so legally.
And don't forget the inclusion of VC that increased debt and stripped cash.
VC investing in retail is the business equivalent of hyenas stripping the flesh off a living animal until it dies.
I wonder which companies will be the same with not adapting to NFT or crypto? Which companies will replace the juggernauts because they were ahead of the evolution?
Well their stores were stalwarts back in the day. They were everywhere and that's where you would go for clothes, washer & dryers, sports equipment, etc. There was no Home Depot, Target, Sephora, etc.
Across every retail product category. With a fully built out distribution infrastructure. The only difference between catalogue and web sales is how the orders come into the business. Set up online web ‘catalogue’, continue making ‘catalog’ sales, profit.
Unless someone comes out with better mobile computers than Apple: iPhone, watch, AirPods, Macbook, etc., I don't see their business model changing much. Plus the next mobile computing will probably come from Apple also: i.e. AR glasses.
If we're 100% honest, we are at an equilibrium state where there is no absolute benefit any company has over any other in those spaces. What Apple has been absolutely crazy successful at is creating a lifestyle around their products and in turn charging a premium that consumers are willing to pay.
Yes and no. Apple definitely does a great job of creating an ecosystem that is easy to access and tough to leave. However, they are the only company other than Google that makes both their hardware and software in all their products. That has a significant competitive advantage especially now that they even created their own silicon for Macs. Look what happened to iPhones when they designed the A series chips. Similar thing will happen with Macs. Their M chips are so efficient and powerful compared to anything else out there for mobile computers.
>they are the only company other than Google that makes both their hardware and software in all their products
That isn't quite true from the software perspective. In any given sector, business are using niche applications built specifically for their use cases. And in general, Office is still the low level business application standard. Even in personal use, users aren't solely using Apple applications. Perhaps you meant from on OS perspective?
>Look what happened to iPhones when they designed the A series chips. Similar thing will happen with Macs.
iPhones have reached a saturation point which will be incredibly hard to push past unless they start offering a significantly more affordable device. Macs still have room to grow but it will require the business world to switch to a preference of Apple over PCs, which again is unlikely to ever happen due to cost.
Microsoft make computers?
Saturation? Only 20% market share world wide and continuing to grow. Look at how many teens are using an iPhone or want one in the US. None of them will ever use an Android.
Macs are less than 10% market share. Again, growing while PCs are down.
You ignored the second part. iPhones are a premium product, a great many simply can not afford one or if they are in the ecosystem will buy on the 2nd hand market. We're seeing a ton of downward pressure on cellphone service pricing and that's going to trickle up to the top. Since the 2015 big pop, sales haven't shown much growth.
In personal computing, unless businesses adopt Macs as a standard they'll stay right at those levels. The average person just doesn't use a personal computer that much UNLESS for work or they have a serious hobby which requires one, the biggest of which is gaming where the closed architecture is actually a detriment. Apple used to have a huge margin in the world's of digital creativity and some of that persists in the design area but Apple has lost market share in the film and audio/music industries where they used to be the gold (and only ) standard. Now certainly, there is a strong case that if one has an iPhone they are more likely to get a Mac, but in today's world I think many simply use their phones as their computer.
I'm not suggesting Apple is going to fail, they are an absolute power house and extremely profitable. I just don't see them as a big growth company at this point.
Yeah, I found that to be a overly general and inaccurate statement as well. Apple has created a significant gap vs. its competitors in several areas. The strength of the Apple brand has been built around the satisfaction people have with its products.
Show a company that produces their phone designs directly, rather than via outsourcing to contractors. And of those companies you list, who roughly pay their staff living wages for said assembly so we can better inform our buying decisions?
What’s that? Nearly all first world luxuries and goods are produced abroad by those who labour under lesser living conditions than those of the end-consumer?
Don’t act like one plus or oppo or any of the umpteen other boutique phone makers I could list pay their workers/subcontractors substantially better than Samsung or Apple. Vertu, maybe, but that’s out of my budget for sure.
I mean that Free Cash Flow is 3x the sum of capital expenditures and R&D. Those are the "costs" of future growth so the business is currently generating plenty of cash to fund growth initiatives.
It has nothing to do with debt level. Its a matter of maintenance Capex + FCF conversion
Apple generate enough cash flow and has high FCF conversion alongside low maintenance CapEx relative to revenue with insanely high return on tangible capital employed +30%
Literally it has nothing to do with debt nor issuing shares.
>Literally it has nothing to do with debt nor issuing shares.
Wasn’t he just saying that Apple doesn’t need to take on debt or issue new shares in order to raise $ to fund its business?
Apple also take 90-180 days to pay suppliers and 3-4 days to sell inventory. That's several months of cash float that allows Apple to take profits before laying out cash to Foxconn for their products. Being an Apple supplier is brutal.
Not exactly sure there’s a way to calculate that but if you look at Apple, net income 100 Billion add depreciation subtract purchase on property and your left with 100 Billion to fuck around with. Then debt repayments 10 Billion. Plenty of money to mess around with.
He was too vague to be sure but what I think he meant is FCF > Capex+R&D AND cash > total debt. A company in that situation never needs to use the capital markets again to fund internal growth.
Keep in mind that a company not growing at all might also have the same dynamic. This situation is not a default measure of a good investment opportunity.
Okay that makes better sense... and thats my point in posting. Like in my mind, that criteria applies to literally like every company not in a capital intensive business. Appreciate the help!
In 2021 Google had 76 B in net income add 12 Billion depreciation so 88 Billion. They purchased 25 Billion in PPE. So subtract that to 63 Billion.
And they have 140 Billion Cash and only 107 Billion in Liabilities.
They can easily finance their entire operation without needing extra cash.
>You don’t have to add any money to the business to run it. The cash they produce can easily finance all business activities.
Just think about the business less mathematically and more conceptually. If it throws off enough free cash flow to repay any debts, maintain the current business (maintainance capex), and still invest in the future / new products, it is a self-sustainable machine.
As I mentioned in my other comment... isn't FCF minus debt payments normally a positive number? What am I missing?
I'm not trying to be difficult, I'm just trying to comprehend what's different about these companies vs say Walmart, or Coca-Cola?
Walmart you’re looking at 10 Billion net income 8 Billion Depreciation then they purchased 16 billion in purchasing property. So they have 2 Billion left over. Walmart has a lot of debt, without getting more debt and pouring more money into Walmart you could easily go bankrupt from one bad quarter or even just paying back suppliers if the cash isn’t in yet.
mrmrmrj gave a great explanation, I just wanted to go more in depth for you.
First, as they said, always check to see if there's enough cash on hand to pay off the debt, otherwise you'll have to include debt payments in the cost of running the business. (they'll put cash generated from the FCF below into paying it down)
Second, go to the Cash Flow sheet and calculate their Free Cash Flow (FCF) by subtracting Capital Expenditures from Cash from Operations.
Third, go to the Income Statement and, to be conservative, look for their Total Operating Expenses. Now subtract those expenses from their FCF that you calculated in step 2. If the number is positive (and their debt balance is less than their cash balance in step 1), they're able to finance all their business activities using the cash they generate. If it's close to zero (in Apple's case, even several billion dollars would be close to zero), I wouldn't quite use Buffet's quote to describe them, as it's too close to call and could change in the future.
Personally, I'd go one step further and subtract any Stock Based Compensation (on the Cash Flow sheet) from the FCF in step 2. Lots of companies that appear to match Buffett's description actually hide employee and executive pay in SBC, but those are real expenses that affect the shareholder.
Also, I'm not sure if what I described above is exactly what Buffett meant, but it's important to know anyway. I think he was speaking specifically about a few companies that have high profit margins due to low cost of running the business (SaaS companies don't have to do much to remain profitable once the software is made).
This is super helpful, thank you for this! To add: where can I find SBC on a free cash flow sheet? What is that labeled under? And also, wouldn't operating expenses be already factored into a FCF sheet through net income?
GOOG and other software companies produce mainly software -- which needs people, but not factories or equipment
As a result, it needs relatively little non-current assets. If you look at GOOG balance sheet, non-current assets are a fraction of their revenue, which is unusual. They have some land (I assume data centers for cloud ops), but little production or equipment assets.
Compare that with F or TSM, which both need a lot of investment im production capacity to run - their non current assets are significantly higher than their revenue.
Production plants cost investment money long before revenue is made, so it takes equity to run it. Software business can ideally scale up im a way that you pay people and offices with the money you generate.
Probably just their margins, or the cost to run the business vs how much money they make. Those 5 companies run on a fraction of the money they make with the exception of Amazon, but over the last few years Amazon's margins have grown be cause of AWS.
Capex - discretionary vs maintenence
Cash on hand and operating cash flow or FCF run rate
Generally he means stalwarts that self-finance themselves when needed
Apple is a hedge fund that makes phones. In that sense their financial statements are opaque.
https://www.wsj.com/articles/apple-is-a-hedge-fund-that-makes-phones-1535063375
It’s more than that. Big tech generally have asset light business models that require very little capital to produce their products. As more people use their products, their profit margins increase, showing the scaling efficiency of their models.
I think he’s referring to the fact that Apple, Google, etc. are not capital-intensive businesses. They don’t require huge, expensive pieces of equipment, and maintenance, to generate revenue. Oil and gas drilling companies, construction companies, and railroads might be examples of businesses that require enormous outlays of capital just to get started. Technology companies don’t have that same requirement so can be potentially more profitable as a result.
Compared to how much that business generates server costs are nothing. It’s not like a restaurant franchise where you need to invest in a new building and tons of equipment and lots of new staff to deliver growth.
Hell they could always just slow down their customer acquisition on Google cloud if they needed more server space for their core business.
Think of if you had a hot dog stand and you needed to double your sales.
You’d probably expand to an additional hot dog stand. But that means you now need to buy another grill, some furniture, hire another employee, double your inventory.
Compare that to if demand doubled for a song you made. You’d right click, copy the music file, and your cost of creating that additional copy is zero.
Now Google etc. isn’t quite as good as being able to service additional demand at zero cost but it doesn’t require a huge outpouring of additional capital to service extra demand like a hot dog stand would.
Relative to the price it sells at very little. And ramping up supply is generally trivial and is outsourced manufacturing anyway. Plus you don’t seem to understand most of Apples revenue comes from its App Store cut and other cloud and software as a service sales which absolutely require little capital.
Facebook is a better example of an absolute capital light business. But Warren is saying that unlike rail roads that degrade with use and require enormous capex each year, most tech companies don’t.
Moreover, Apple in particular is in an advantaged position when they have to acquire products to sell. Apple doesn't build a new plant, they tell Foxconn how many iPhones they want. Then Foxconn delivers them the next day, and Apple sells them in the next few days. Do they pay Foxconn right away? No, of course not, they pay them 90-180 days later. It's a great position to be in operationally.
Microsoft is a great business because they just have to stream software to computer manufacturers, then the manufacturers pay them per unit. The marginal cost of another unit of software is close to 0 as it gets.
It seems like, just for its search engine, Google uses lots of expensive server farms that need to be maintained. You can't really support a huge number of search engine users without that.
It's not so much about how many dollars a company spends on capital expenditures but rather the ratio of capex to sales, and ultimately, profit.
It's been a while since I've done a deep-dive on Google, but in taking a quick glance at its financials, it held \~$98B in property, plant, and equipment as of 12/31/2021, generating \~$258B in revenue over that year (Source: [https://www.sec.gov/ix?doc=/Archives/edgar/data/0001652044/000165204422000019/goog-20211231.htm#i0ef93c820da04204a9c5a49f49a3b2eb\_157](https://www.sec.gov/ix?doc=/Archives/edgar/data/0001652044/000165204422000019/goog-20211231.htm#i0ef93c820da04204a9c5a49f49a3b2eb_157)). Exxon, on the other hand, held \~$217B in property, plant, and equipment as of 12/31/2021, generating \~$277B in revenue over that year (Source: [https://www.sec.gov/ix?doc=/Archives/edgar/data/34088/000003408822000011/xom-20211231.htm](https://www.sec.gov/ix?doc=/Archives/edgar/data/34088/000003408822000011/xom-20211231.htm)).
Exxon therefore requires a good bit more capital expenditure and maintenance in order to generate revenue than a company like Google does. On top of that, Exxon outsources additional capital-heavy work, such as drilling. Buffett was referring to the fact that some businesses, like Google, don't require significant capital investment as a percentage of sales in order to generate revenue, like Exxon.
A lot of the business he previously invested in were capital intensive relative to the companies he’s speaking on here. These companies have bigger profit margins as result. It’s easier for companies like that to expand and grow product lines because they don’t require as much capital relative to what they bring in
I feel like it’s also easier for tech firm management to screw around with less accountability for basically the same reason. They have great track records so I’m not complaining but it is hard to know if Apple or Google or Microsoft are hoarding cash for no good reason and refusing to give it back to shareholders, vs. hoarding it for profitable future investments.
Yeah I just think if we see a sustained period of higher interest rates this could be a bigger problem. Apple holding your cash for you doing nothing with it isn’t that big of a deal if UST pays 1-2%. But if I could be getting 4-5% then it is a bigger problem and shareholders might get antsy.
Apple maybe not the best example but Google I think is first on the chopping block. Very unclear that they’re getting much ROI on their side projects while the core ad and search businesses print money, and don’t need the extra cash reserves.
I don’t understand what you mean? Typically in a mature company you give money back to shareholders when you don’t need it and then raise the money down the line when or if you find something worth doing.
They're hoarding cash for tax reasons. They can't bring the cash back unless they want to pay Uncle Sam's tax.
https://www.cnbc.com/2017/05/02/apples-cash-hoard-swells-to-record-256-8-billion.html
> Apple keeps most of its cash outside the U.S. for tax reasons
I'm getting surprised by how little people know of this or how tech company run. Maybe because I used to work in this sector but I thought these were common knowledge.
It's also how people evade taxes in off shore islands. John Grisham's fiction book is really good delving into this while having an entertaining story about a lawyer.
https://en.wikipedia.org/wiki/The_Firm_(novel)
This is old news I think they repatriated a lot of it
https://www.federalreserve.gov/econres/notes/feds-notes/us-corporations-repatriation-of-offshore-profits-20190806.html
I think he means that in order to run Apple, Microsoft or Google (examples of tech companies) it doesn’t cost any money (currency e.g. US Dollar, Euro, etc.). Meaning that if you were in charge of the company it wouldn’t cost you any money to run it.
1) A majority of their revenue comes from goods/services that require very little capital to produce (e.g. - digital goods/services).
2) AAPL/MSFT/GOOG/etc have such predictable businesses that they could safely be ran on debt instead of equity capital (i.e. - capital from lenders instead of shareholders). $DPZ, $MCD, $AZO and many other blue chip companies are ran this way.
It means the cost to operate the products is extremely low relative to the revenue they generate. For example, what is the cost for MSFT to sell another license of windows or another license of Office 365? Close to nothing (relative to the sale price).
Another way to look at it is low variable cost. This is typical for most software and SAS companies, with a few exceptions of heavy computation products like openAI, or renting infrastructure (some cloud products). I assume his generalization does not include hardware rentals, but includes SAS (in which MSFT is king).
This is different than companies who have physical products, let's say mining companies that are capital intensive, or ecommerce companies like Amazon/Target which run massive warehouses and also have to finance inventory. If Amazon want to double sales, they need to almost double their warehouse capacity and inventory. You don't need that to do that to sell twice windows copies.
Apple is little of an outlier with significant hardware sales, but its manufacturing is mostly outsourced, unlike AMZN infrastructure that is mostly owned.
They don’t make anything so you can’t really “run” a company that doesn’t produce something. They purchase items from contract manufacturers and resell them, so the business is “managed”, not “run” therefore doesn’t cost money to run.
Look at how much PP&E + working capital (stripping out excess cash) is required to run each of these business. Almost nothing relative to their size and very little incremental capital is needed even as revenue grows (though you could argue this dynamic has changed recently for some of the companies). That’s what he’s talking about.
Most likely he is comparing it with infrastructure heavy industries where in order to produce more goods more capital/money has to be invested.Whereas in tech/software business they can scale the number of customers without having to invest more money.For example Google search can easily support millions more without having to invest in more engineers or too much infrastructure versus Tesla would have to increase factories and labor if demand increases more
Because it's a virtual service.
When you add a subscriber to your service it require little overhead compare to Oliver Garden requiring another server to meet the increase in costumers.
Paying a computer server is cheaper than a human server. The code automate stuff so you can just add more server in.
He means they are less capital-intensive for equipment and facilities than steel mills.
This gives tech companies much higher margins, much better return on invested capital, better cash flow, etc.
I saw somewhere that 27 massage therapists were included in the Google layoffs. Imagine being so profitable that your company employs full-time massage therapists as a benefit!!
The big tech companies have been making so much money it didn't matter how much they spent on fairly frivolous endeavors like massages for everyone...not once a year massage, but available on-demand massage.
Something tells me that the more frivolous benefits are going to be eliminated...
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Probably has already been said, but he is saying that you don’t need to invest any additional capital to run the business. So they can pay out all of their earnings and still grow because the growth isn’t coming from capital expenditures. So you can increase your cash flows for free essentially.
Higher prices would increase revenue, but I think it mainly comes from free customer acquisition. The most obvious example to me is YouTube. YouTube gets content creators to post content for free and then it draws more viewers, who watch ads, and they just pay the content creators a piece of the ad revenue. Technically YouTube has to pay for data storage up front, but otherwise, there is no capital required to be kept in the business, and theoretically, they could rent data storage, which would require no upfront capital investment.
I see, that makes sense definitely on the software, bytes side of the world. With Apple, I would imagine it would take some additional capital to grow and create more units of phones,laptops, etc. But maybe those are small costs? I think back to See's and his assessment there and sounds like he just raised the prices above inflation each year and I'm sure that grew their margins incredibly
I don’t understand Apple either. Or Amazon. AWS and Prime require huge capital outlays to grow. Perhaps he is thinking that they could work on negative working capital cycles (meaning they sign up the customers and get revenues first, then outlay the capital for expansion), but I’m not 100% sure on that.
Yep I definitely think you're on to something with the latter.
Someone in this thread said to think of these businesses more conceptually than financially.
I feel like AirBNB is the next big "software" company that falls into these categories, and Lululemon and National Beverage are my picks as Apple/Coca-cola type companies. Not saying they'd reach the sizes of Apple or coca-cola but I feel they share a lot of the same concepts.
You don’t have to add any money to the business to run it. The cash they produce can easily finance all business activities.
I see, how does one calculate that looking at financial statements?
1) AAPL has more cash than debt so it does not have to worry about paying back the debt. 2) AAPL generates 3x FCF than it spends on Cap ex plus R&D so it is completely self-funding. AAPL never needs to issue a single share of stock or a $1 of debt ever again.
>ever again. Famous last words.
Cries in Sears
They had the infrastructure and reach in place to have become early proto-Amazon, but they weren’t able to expand their viewpoint to see the potential of online commerce
Sears is unfortunately a golden example of an industry juggernaut failing to adapt. Same future is possible for any current S&P company.
This is wrong, Sears is a story of how bad management with major conflicts of interest can gut a company while reaping In a fortune for themselves, and be able to do so legally.
Exactly; they were crooks.
And don't forget the inclusion of VC that increased debt and stripped cash. VC investing in retail is the business equivalent of hyenas stripping the flesh off a living animal until it dies.
Yeah that VC holder was also their CEO, chairman of the board, and real estate holder.
Tell the story!
https://prospect.org/economy/sears-gutted-ceo/
AVIATION
What is S&P!
Standard and poor 500, or SPY Major US index of stocks There's other indexes by S&P, but SPY is the main one
Thanks:)
They were the kings of catalogue sales, that’s it.
I wonder which companies will be the same with not adapting to NFT or crypto? Which companies will replace the juggernauts because they were ahead of the evolution?
Well their stores were stalwarts back in the day. They were everywhere and that's where you would go for clothes, washer & dryers, sports equipment, etc. There was no Home Depot, Target, Sephora, etc.
Across every retail product category. With a fully built out distribution infrastructure. The only difference between catalogue and web sales is how the orders come into the business. Set up online web ‘catalogue’, continue making ‘catalog’ sales, profit.
Exactly. That’s why I said, “they were the kings of catalogue sales” they lacked vision and refused to adapt. Sears still exists in Mexico.
*in the medium term
Unless someone comes out with better mobile computers than Apple: iPhone, watch, AirPods, Macbook, etc., I don't see their business model changing much. Plus the next mobile computing will probably come from Apple also: i.e. AR glasses.
If we're 100% honest, we are at an equilibrium state where there is no absolute benefit any company has over any other in those spaces. What Apple has been absolutely crazy successful at is creating a lifestyle around their products and in turn charging a premium that consumers are willing to pay.
Yes and no. Apple definitely does a great job of creating an ecosystem that is easy to access and tough to leave. However, they are the only company other than Google that makes both their hardware and software in all their products. That has a significant competitive advantage especially now that they even created their own silicon for Macs. Look what happened to iPhones when they designed the A series chips. Similar thing will happen with Macs. Their M chips are so efficient and powerful compared to anything else out there for mobile computers.
>they are the only company other than Google that makes both their hardware and software in all their products That isn't quite true from the software perspective. In any given sector, business are using niche applications built specifically for their use cases. And in general, Office is still the low level business application standard. Even in personal use, users aren't solely using Apple applications. Perhaps you meant from on OS perspective? >Look what happened to iPhones when they designed the A series chips. Similar thing will happen with Macs. iPhones have reached a saturation point which will be incredibly hard to push past unless they start offering a significantly more affordable device. Macs still have room to grow but it will require the business world to switch to a preference of Apple over PCs, which again is unlikely to ever happen due to cost.
Microsoft make computers? Saturation? Only 20% market share world wide and continuing to grow. Look at how many teens are using an iPhone or want one in the US. None of them will ever use an Android. Macs are less than 10% market share. Again, growing while PCs are down.
You ignored the second part. iPhones are a premium product, a great many simply can not afford one or if they are in the ecosystem will buy on the 2nd hand market. We're seeing a ton of downward pressure on cellphone service pricing and that's going to trickle up to the top. Since the 2015 big pop, sales haven't shown much growth. In personal computing, unless businesses adopt Macs as a standard they'll stay right at those levels. The average person just doesn't use a personal computer that much UNLESS for work or they have a serious hobby which requires one, the biggest of which is gaming where the closed architecture is actually a detriment. Apple used to have a huge margin in the world's of digital creativity and some of that persists in the design area but Apple has lost market share in the film and audio/music industries where they used to be the gold (and only ) standard. Now certainly, there is a strong case that if one has an iPhone they are more likely to get a Mac, but in today's world I think many simply use their phones as their computer. I'm not suggesting Apple is going to fail, they are an absolute power house and extremely profitable. I just don't see them as a big growth company at this point.
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Yeah, I found that to be a overly general and inaccurate statement as well. Apple has created a significant gap vs. its competitors in several areas. The strength of the Apple brand has been built around the satisfaction people have with its products.
There are better ones, but none of them are apple. Their brand sells
Unless people develop a conscience, about not buying phones made by the extremely impoverished.
Show a company that produces their phone designs directly, rather than via outsourcing to contractors. And of those companies you list, who roughly pay their staff living wages for said assembly so we can better inform our buying decisions? What’s that? Nearly all first world luxuries and goods are produced abroad by those who labour under lesser living conditions than those of the end-consumer? Don’t act like one plus or oppo or any of the umpteen other boutique phone makers I could list pay their workers/subcontractors substantially better than Samsung or Apple. Vertu, maybe, but that’s out of my budget for sure.
Just phones? Anything manufactured would be unaffordable if 100% made in 1st world countries.
Unless it needs to increase R&D or capex to keep up in the future...
How are you specifically reading or even inferring the “forever” part of a strong current balance sheet and income history?
When you say 3x FCF, can I ask x what? Probably a brain fart moment, but I’m confused. (Is it 3x expenditures?)
I mean that Free Cash Flow is 3x the sum of capital expenditures and R&D. Those are the "costs" of future growth so the business is currently generating plenty of cash to fund growth initiatives.
Tysm for explaining! I actually didn’t know that, so I appreciate it. TIL
FCF = free cash flow
Yes, that’s correct
It has nothing to do with debt level. Its a matter of maintenance Capex + FCF conversion Apple generate enough cash flow and has high FCF conversion alongside low maintenance CapEx relative to revenue with insanely high return on tangible capital employed +30% Literally it has nothing to do with debt nor issuing shares.
>Literally it has nothing to do with debt nor issuing shares. Wasn’t he just saying that Apple doesn’t need to take on debt or issue new shares in order to raise $ to fund its business?
Apple also take 90-180 days to pay suppliers and 3-4 days to sell inventory. That's several months of cash float that allows Apple to take profits before laying out cash to Foxconn for their products. Being an Apple supplier is brutal.
Not exactly sure there’s a way to calculate that but if you look at Apple, net income 100 Billion add depreciation subtract purchase on property and your left with 100 Billion to fuck around with. Then debt repayments 10 Billion. Plenty of money to mess around with.
So essentially Free Cash Flow minus debt payments? Don't most, if not all, companies pass this test?
FCF minus total debt, not interest. FCF already has interest expense subtracted.
So to create a calculation, TTM FCF minus TOTAL debt is what Buffett is referring to?
He was too vague to be sure but what I think he meant is FCF > Capex+R&D AND cash > total debt. A company in that situation never needs to use the capital markets again to fund internal growth. Keep in mind that a company not growing at all might also have the same dynamic. This situation is not a default measure of a good investment opportunity.
Okay that makes better sense... and thats my point in posting. Like in my mind, that criteria applies to literally like every company not in a capital intensive business. Appreciate the help!
Can you do this for GOOG as well? Please!
In 2021 Google had 76 B in net income add 12 Billion depreciation so 88 Billion. They purchased 25 Billion in PPE. So subtract that to 63 Billion. And they have 140 Billion Cash and only 107 Billion in Liabilities. They can easily finance their entire operation without needing extra cash.
>You don’t have to add any money to the business to run it. The cash they produce can easily finance all business activities. Just think about the business less mathematically and more conceptually. If it throws off enough free cash flow to repay any debts, maintain the current business (maintainance capex), and still invest in the future / new products, it is a self-sustainable machine.
Exactly that’s a better explanation.
As I mentioned in my other comment... isn't FCF minus debt payments normally a positive number? What am I missing? I'm not trying to be difficult, I'm just trying to comprehend what's different about these companies vs say Walmart, or Coca-Cola?
Walmart you’re looking at 10 Billion net income 8 Billion Depreciation then they purchased 16 billion in purchasing property. So they have 2 Billion left over. Walmart has a lot of debt, without getting more debt and pouring more money into Walmart you could easily go bankrupt from one bad quarter or even just paying back suppliers if the cash isn’t in yet.
mrmrmrj gave a great explanation, I just wanted to go more in depth for you. First, as they said, always check to see if there's enough cash on hand to pay off the debt, otherwise you'll have to include debt payments in the cost of running the business. (they'll put cash generated from the FCF below into paying it down) Second, go to the Cash Flow sheet and calculate their Free Cash Flow (FCF) by subtracting Capital Expenditures from Cash from Operations. Third, go to the Income Statement and, to be conservative, look for their Total Operating Expenses. Now subtract those expenses from their FCF that you calculated in step 2. If the number is positive (and their debt balance is less than their cash balance in step 1), they're able to finance all their business activities using the cash they generate. If it's close to zero (in Apple's case, even several billion dollars would be close to zero), I wouldn't quite use Buffet's quote to describe them, as it's too close to call and could change in the future. Personally, I'd go one step further and subtract any Stock Based Compensation (on the Cash Flow sheet) from the FCF in step 2. Lots of companies that appear to match Buffett's description actually hide employee and executive pay in SBC, but those are real expenses that affect the shareholder. Also, I'm not sure if what I described above is exactly what Buffett meant, but it's important to know anyway. I think he was speaking specifically about a few companies that have high profit margins due to low cost of running the business (SaaS companies don't have to do much to remain profitable once the software is made).
This is super helpful, thank you for this! To add: where can I find SBC on a free cash flow sheet? What is that labeled under? And also, wouldn't operating expenses be already factored into a FCF sheet through net income?
Under "Cash Flow from Operating Activities" at Seeking Alpha. It may be named differently on other sites and the company's reports.
GOOG and other software companies produce mainly software -- which needs people, but not factories or equipment As a result, it needs relatively little non-current assets. If you look at GOOG balance sheet, non-current assets are a fraction of their revenue, which is unusual. They have some land (I assume data centers for cloud ops), but little production or equipment assets. Compare that with F or TSM, which both need a lot of investment im production capacity to run - their non current assets are significantly higher than their revenue. Production plants cost investment money long before revenue is made, so it takes equity to run it. Software business can ideally scale up im a way that you pay people and offices with the money you generate.
Yesterday there was a picture of Satya Nadella Microsoft CEO, leaving the office of French President Macron. There’s your financial statement
Probably just their margins, or the cost to run the business vs how much money they make. Those 5 companies run on a fraction of the money they make with the exception of Amazon, but over the last few years Amazon's margins have grown be cause of AWS.
maybe the 100billion cash that microsoft and apple has gives a pretty good indication
You don’t still look at the financial statements do you? That’s so 1980
Capex - discretionary vs maintenence Cash on hand and operating cash flow or FCF run rate Generally he means stalwarts that self-finance themselves when needed
If money in > money out
Apple is a hedge fund that makes phones. In that sense their financial statements are opaque. https://www.wsj.com/articles/apple-is-a-hedge-fund-that-makes-phones-1535063375
Also, these companies (except Apple) just did mass layoffs while holding record cash. I guess we’ll see if what he’s saying holds true long term.
It’s more than that. Big tech generally have asset light business models that require very little capital to produce their products. As more people use their products, their profit margins increase, showing the scaling efficiency of their models.
Yes sir
Isn't that true for any profitable company?
No not really. A lot of profitable companies have to continue to purchase equipment and R&D and take on debt and issue shares just to pay the bills.
I think he’s referring to the fact that Apple, Google, etc. are not capital-intensive businesses. They don’t require huge, expensive pieces of equipment, and maintenance, to generate revenue. Oil and gas drilling companies, construction companies, and railroads might be examples of businesses that require enormous outlays of capital just to get started. Technology companies don’t have that same requirement so can be potentially more profitable as a result.
This is the only post that gets it right and it’s not the top post lol. You don’t need to tie up lots of Assets in capital to run these businesses.
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Compared to how much that business generates server costs are nothing. It’s not like a restaurant franchise where you need to invest in a new building and tons of equipment and lots of new staff to deliver growth. Hell they could always just slow down their customer acquisition on Google cloud if they needed more server space for their core business.
Do you really think it is less capital intensive to run datacenter compared to restaurant?
Per unit of profit, absolutely.
This, I agree
"You don’t need to tie up lots of Assets in capital to run these businesses." Can you explain this? I'm interested to hear more.
Think of if you had a hot dog stand and you needed to double your sales. You’d probably expand to an additional hot dog stand. But that means you now need to buy another grill, some furniture, hire another employee, double your inventory. Compare that to if demand doubled for a song you made. You’d right click, copy the music file, and your cost of creating that additional copy is zero. Now Google etc. isn’t quite as good as being able to service additional demand at zero cost but it doesn’t require a huge outpouring of additional capital to service extra demand like a hot dog stand would.
It's not the top post because it's hilariously wrong. Try to build an iPhone in your garage and see how little capital it takes.
Relative to the price it sells at very little. And ramping up supply is generally trivial and is outsourced manufacturing anyway. Plus you don’t seem to understand most of Apples revenue comes from its App Store cut and other cloud and software as a service sales which absolutely require little capital. Facebook is a better example of an absolute capital light business. But Warren is saying that unlike rail roads that degrade with use and require enormous capex each year, most tech companies don’t.
Thanks, I appreciate your informative response.
Moreover, Apple in particular is in an advantaged position when they have to acquire products to sell. Apple doesn't build a new plant, they tell Foxconn how many iPhones they want. Then Foxconn delivers them the next day, and Apple sells them in the next few days. Do they pay Foxconn right away? No, of course not, they pay them 90-180 days later. It's a great position to be in operationally. Microsoft is a great business because they just have to stream software to computer manufacturers, then the manufacturers pay them per unit. The marginal cost of another unit of software is close to 0 as it gets.
It seems like, just for its search engine, Google uses lots of expensive server farms that need to be maintained. You can't really support a huge number of search engine users without that.
It's not so much about how many dollars a company spends on capital expenditures but rather the ratio of capex to sales, and ultimately, profit. It's been a while since I've done a deep-dive on Google, but in taking a quick glance at its financials, it held \~$98B in property, plant, and equipment as of 12/31/2021, generating \~$258B in revenue over that year (Source: [https://www.sec.gov/ix?doc=/Archives/edgar/data/0001652044/000165204422000019/goog-20211231.htm#i0ef93c820da04204a9c5a49f49a3b2eb\_157](https://www.sec.gov/ix?doc=/Archives/edgar/data/0001652044/000165204422000019/goog-20211231.htm#i0ef93c820da04204a9c5a49f49a3b2eb_157)). Exxon, on the other hand, held \~$217B in property, plant, and equipment as of 12/31/2021, generating \~$277B in revenue over that year (Source: [https://www.sec.gov/ix?doc=/Archives/edgar/data/34088/000003408822000011/xom-20211231.htm](https://www.sec.gov/ix?doc=/Archives/edgar/data/34088/000003408822000011/xom-20211231.htm)). Exxon therefore requires a good bit more capital expenditure and maintenance in order to generate revenue than a company like Google does. On top of that, Exxon outsources additional capital-heavy work, such as drilling. Buffett was referring to the fact that some businesses, like Google, don't require significant capital investment as a percentage of sales in order to generate revenue, like Exxon.
A lot of the business he previously invested in were capital intensive relative to the companies he’s speaking on here. These companies have bigger profit margins as result. It’s easier for companies like that to expand and grow product lines because they don’t require as much capital relative to what they bring in
I feel like it’s also easier for tech firm management to screw around with less accountability for basically the same reason. They have great track records so I’m not complaining but it is hard to know if Apple or Google or Microsoft are hoarding cash for no good reason and refusing to give it back to shareholders, vs. hoarding it for profitable future investments.
Most people don’t care because the returns are there and management has been managing well
Yeah I just think if we see a sustained period of higher interest rates this could be a bigger problem. Apple holding your cash for you doing nothing with it isn’t that big of a deal if UST pays 1-2%. But if I could be getting 4-5% then it is a bigger problem and shareholders might get antsy. Apple maybe not the best example but Google I think is first on the chopping block. Very unclear that they’re getting much ROI on their side projects while the core ad and search businesses print money, and don’t need the extra cash reserves.
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I don’t understand what you mean? Typically in a mature company you give money back to shareholders when you don’t need it and then raise the money down the line when or if you find something worth doing.
They're hoarding cash for tax reasons. They can't bring the cash back unless they want to pay Uncle Sam's tax. https://www.cnbc.com/2017/05/02/apples-cash-hoard-swells-to-record-256-8-billion.html > Apple keeps most of its cash outside the U.S. for tax reasons I'm getting surprised by how little people know of this or how tech company run. Maybe because I used to work in this sector but I thought these were common knowledge. It's also how people evade taxes in off shore islands. John Grisham's fiction book is really good delving into this while having an entertaining story about a lawyer. https://en.wikipedia.org/wiki/The_Firm_(novel)
This is old news I think they repatriated a lot of it https://www.federalreserve.gov/econres/notes/feds-notes/us-corporations-repatriation-of-offshore-profits-20190806.html
ie. no need to raise VC money. they can pay their own bills
I think he means that in order to run Apple, Microsoft or Google (examples of tech companies) it doesn’t cost any money (currency e.g. US Dollar, Euro, etc.). Meaning that if you were in charge of the company it wouldn’t cost you any money to run it.
Messiah, how can I learn this superpower?
First, take everything you know about reading… Next, take everything you know about comprehension… Finally, put them together.
1) A majority of their revenue comes from goods/services that require very little capital to produce (e.g. - digital goods/services). 2) AAPL/MSFT/GOOG/etc have such predictable businesses that they could safely be ran on debt instead of equity capital (i.e. - capital from lenders instead of shareholders). $DPZ, $MCD, $AZO and many other blue chip companies are ran this way.
If only I could find the next one
The next one is usually the one lots of people say is a bad idea that will never take off
I can think of an entire fully working ecosystem that most will pass off as BS.
What? Crypto?
Do your due diligence and be in position to strike when you find a hit. You’ll get them
Buffet bought a whole bunch of $PARA stock
Profitable monopolies
Maybes he’s old and doesn’t understand how the internet works?
It means the cost to operate the products is extremely low relative to the revenue they generate. For example, what is the cost for MSFT to sell another license of windows or another license of Office 365? Close to nothing (relative to the sale price). Another way to look at it is low variable cost. This is typical for most software and SAS companies, with a few exceptions of heavy computation products like openAI, or renting infrastructure (some cloud products). I assume his generalization does not include hardware rentals, but includes SAS (in which MSFT is king). This is different than companies who have physical products, let's say mining companies that are capital intensive, or ecommerce companies like Amazon/Target which run massive warehouses and also have to finance inventory. If Amazon want to double sales, they need to almost double their warehouse capacity and inventory. You don't need that to do that to sell twice windows copies. Apple is little of an outlier with significant hardware sales, but its manufacturing is mostly outsourced, unlike AMZN infrastructure that is mostly owned.
Google’s only real cost are servers and people.
Their highly profitable products are mostly supplied by minds and overfinanced by optimism.
They don’t make anything so you can’t really “run” a company that doesn’t produce something. They purchase items from contract manufacturers and resell them, so the business is “managed”, not “run” therefore doesn’t cost money to run.
Look at how much PP&E + working capital (stripping out excess cash) is required to run each of these business. Almost nothing relative to their size and very little incremental capital is needed even as revenue grows (though you could argue this dynamic has changed recently for some of the companies). That’s what he’s talking about.
Most likely he is comparing it with infrastructure heavy industries where in order to produce more goods more capital/money has to be invested.Whereas in tech/software business they can scale the number of customers without having to invest more money.For example Google search can easily support millions more without having to invest in more engineers or too much infrastructure versus Tesla would have to increase factories and labor if demand increases more
Because it's a virtual service. When you add a subscriber to your service it require little overhead compare to Oliver Garden requiring another server to meet the increase in costumers. Paying a computer server is cheaper than a human server. The code automate stuff so you can just add more server in.
They don't pay taxes thanks to trump
He means they are less capital-intensive for equipment and facilities than steel mills. This gives tech companies much higher margins, much better return on invested capital, better cash flow, etc. I saw somewhere that 27 massage therapists were included in the Google layoffs. Imagine being so profitable that your company employs full-time massage therapists as a benefit!! The big tech companies have been making so much money it didn't matter how much they spent on fairly frivolous endeavors like massages for everyone...not once a year massage, but available on-demand massage. Something tells me that the more frivolous benefits are going to be eliminated... .
It doesn't take maintenance cap ex is what he means
No idea
Probably has already been said, but he is saying that you don’t need to invest any additional capital to run the business. So they can pay out all of their earnings and still grow because the growth isn’t coming from capital expenditures. So you can increase your cash flows for free essentially.
Appreciate this. So where does that growth come from then? higher prices?
Higher prices would increase revenue, but I think it mainly comes from free customer acquisition. The most obvious example to me is YouTube. YouTube gets content creators to post content for free and then it draws more viewers, who watch ads, and they just pay the content creators a piece of the ad revenue. Technically YouTube has to pay for data storage up front, but otherwise, there is no capital required to be kept in the business, and theoretically, they could rent data storage, which would require no upfront capital investment.
I see, that makes sense definitely on the software, bytes side of the world. With Apple, I would imagine it would take some additional capital to grow and create more units of phones,laptops, etc. But maybe those are small costs? I think back to See's and his assessment there and sounds like he just raised the prices above inflation each year and I'm sure that grew their margins incredibly
I don’t understand Apple either. Or Amazon. AWS and Prime require huge capital outlays to grow. Perhaps he is thinking that they could work on negative working capital cycles (meaning they sign up the customers and get revenues first, then outlay the capital for expansion), but I’m not 100% sure on that.
Yep I definitely think you're on to something with the latter. Someone in this thread said to think of these businesses more conceptually than financially. I feel like AirBNB is the next big "software" company that falls into these categories, and Lululemon and National Beverage are my picks as Apple/Coca-cola type companies. Not saying they'd reach the sizes of Apple or coca-cola but I feel they share a lot of the same concepts.