It's hard to argue with results, and the Oracle of Omaha has an extensive track record of great investments. He doesn't necessarily hit on every one of his convictions, but it's a good idea for investors to pay attention to his logic.
The two stocks below offer a compelling combination of growth, cash flow, sustainable competitive advantages, and reasonable valuation. They should at least be on every investor's radar.
1. Visa
Warren Buffett loves to own companies that produce cash flow and have sustainable competitive advantages. Berkshire Hathaway's significant investment in Visa (V -0.70%) reflects those qualities.
Consumers often associate Visa with banks because the brand features prominently on credit and debit cards, but it isn't a financial institution. Visa provides payment-processing services; it's a fintech business that provides the "plumbing" for transactions all over the globe.
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Visa holds the largest market share among its peers, so its financial results depend on competitive performance and overall economic activity. Payment volumes rise and fall with economic cycles, and there's not much that Visa can do to avoid that. However, the processing industry is projected to average double-digit annual growth over the next decade. If investors can manage the cyclicality, the long-term trends create a bullish foundation for continued growth.
The financial sector is being disrupted by blockchain and other fintech innovations. Disruption is a challenge for dominant incumbents like Visa, so investors need to be wary of the new forces shaping the market right now.
Fortunately, incumbents can also benefit from disruption if they embrace innovation and stay at the forefront of emerging trends. That's easier said than done, but Visa appears to be navigating those challenges so far. It has maintained a large market share, continued to expand, and raised its already impressive return on invested capital (ROIC) throughout recent years. These are all signs that new technologies aren't forcing Visa off its perch.
V Return on Invested Capital data by YCharts.
Visa's forward price-to-earnings (P/E) ratio is 23.5 right now. That's an attractive valuation for a reliable cash-flow powerhouse that's delivering 10% revenue expansion and nearly 20% earnings growth.
2. Amazon
Amazon (AMZN -1.45%) is maturing, so it may have lost some of its appeal to growth investors who were enamored with unrelenting sales expansion in years past. However, the company is settling comfortably into a cash-flow generation role, which is exactly how it got on Buffett's shortlist.
Amazon reported 10% revenue growth in its most recent quarter, which is respectable. Much of those gains are falling straight to the bottom line as the company carefully controls its operating expenses. It delivered 75% growth in operating profits and cash flow.
While the e-commerce industry normalizes from pandemic-related distortions, Amazon continues adding to its dominant market share. Its scale and focus on logistics and technology create a fearsome economic moat, which is difficult for any competitor to match, even a retail powerhouse like Walmart.
Amazon has supplemented its core e-commerce operations with a market-leading, cloud-infrastructure business, Amazon Web Services (AWS). Making yourself an indispensable part of the modern technology sector is a shrewd move, even if it's a relatively low-margin business that competes with giants like Alphabet and Microsoft.
Amazon has also become a major player in content streaming. That's proven to be a challenging business model for other streaming platforms, but Amazon minimizes the challenges of acquiring and retaining subscribers thanks to Prime's reach. The media world changed drastically over the past 15 years, tossing many legacy powerhouses aside. Amazon swiftly stepped in to assume a leadership role in the new landscape.
This tech giant has successfully transformed into a profitable enterprise that's delivering impressive cash-flow growth. The company's substantial competitive advantages bode well for future cash flows. Its enormous scale should fuel key investments in AI and other emerging technologies in the years to come by funding acquisitions and internal research and development (R&D) spending.
With a forward P/E ratio above 35, Amazon's valuation is a bit more expensive than Visa's. However, the price is acceptable for long-term holders who want exposure to a high-quality company with clear growth prospects.
