What Is an Economic Moat Definition, Types & Examples

Alphabet Inc.’s Google (GOOG) is one of the most dominant and profitable companies in the Internet software and services industry. Both Buffett and his investing partner, Berkshire Hathaway Inc. (BRK.A) Vice-Chair Charlie Munger, have commented on the strength of Google’s moat. Companies with significant cost advantages can undercut the prices of any competitor that attempts to move into their industry, either forcing the competitor to leave the industry or at least impeding its growth. As discussed in the lemonade stand example, a cost advantage that competitors cannot replicate can be a very effective economic moat. Economic moats are difficult to express quantitatively because they have no obvious dollar value, but are a vital qualitative factor in a company’s long-term success or failure and in the selection of stocks. As a result, you see an increase in profits; however, it probably wouldn’t take very long for your competitors to notice your method and employ it themselves.

Why Moats Matter?

An economic moat refers to a company’s ability to maintain an advantage over competitors. Understanding the nature of a company’s moat can offer investors deeper insights into its potential longevity and competitiveness. Companies with the most robust economic moat will excel in multiple areas, which combine to create a robust moat. When it comes to share trading, success often boils down to spotting and seizing opportunities that others might overlook.

The more that Google learns about its users through their searches, the better its targeting ability becomes. Other common financial analogies include referring to the stock market as a casino, bonds being the anchor of a portfolio, and having no financial plan is like skydiving without a parachute. A massive gate in that interior wall looks like something out of a medieval castle — all that’s missing is a moat and guards.

Sources of Economic Moats

This is when more units of a good or service can be produced on a larger scale with lower input costs. This reduces overhead costs in areas such as financing, advertising, production, etc. A company that is able to maintain low operating expenses in relation to its sales compared to its peers has cost advantages, and it can undercut its competition by lowering prices and keeping rivals at bay. Consider Walmart Inc., which has an immense volume of sales and negotiates low prices with its suppliers, resulting in low-cost products in its stores that are hard to replicate by its competitors.

As Warren Buffet explains in his speech about moats, an insurance business like Geico, a lot of defensibility comes with offering lower prices. One of the most powerful business defences is the brand, or the what is a moat direct access to your customer base. For instance, if you take Facebook, it’s still among the most valuable websites on earth, because people recognize its brand. You can’t see the moat day by day but every time you know the infrastructure gets built in some country that isn’t yet profitable for Coke but will be 20 years from now.

What Is an Example of an Economic Moat?

1. There’s no such thing as a perfectly safe bet, but these companies are generally about as safe as it gets.
2. Entire industries can be structured this way, like the airline industry.
3. Learn all about the 12 valuation ratios that allow investors to quickly estimate a business’s value relative to its …
4. These are both huge advantages that appear difficult for any competitor to overcome.
5. The durability of these contributions is likely not as strong, however.

Therefore, in a short period of time, your large profits would erode, and the local lemonade industry would return to normal conditions again. Dry moats were a key element used in French Classicism and Beaux-Arts architecture dwellings, both as decorative designs and to provide discreet access for service. Excellent examples of these can be found in Newport, Rhode Island at Miramar (mansion) and The Elms, as well as at Carolands, outside of San Francisco, California, and at Union Station in Toronto, Ontario, Canada. Additionally, a dry moat can allow light and fresh air to reach basement workspaces, as for example at the James Farley Post Office in New York City.

This time, your competitors will have no way of duplicating your methods, as your competitive advantage is protected by your patent. In this example, your economic moat is the patent that you hold on your proprietary technology. In this case, if your lemonade company was a public firm, your common stock would probably outperform that of your competition in the long run. An economic moat is an investment strategy that involves seeking out companies with a sustainable competitive advantage, or a ‘moat’. Grasping these economic moats gives investors a comprehensive lens to gauge a company’s potential for sustained success.

As a basic method of pest control in bonsai, a moat may be used to restrict access of crawling insects to the bonsai. European colonists in the Americas often built dry ditches surrounding forts built to protect important landmarks, harbours or cities (e.g. Fort Jay on Governors Island in New York Harbor). Scattered pieces of the walls remain in Edo, with material being used by the locals for building purposes.

On this page, neither the author nor The Motley Fool have chosen a ‘top share’ by personal opinion. For investors, recognising this moat isn’t just strategy; it’s foresight. It guides them towards companies poised not just to withstand market challenges but to thrive despite them. As a business grows in size, it will often have opportunities to leverage the benefits of economies of scale. The marginal cost of producing additional units tends to decline as more units are produced.

The most important thing is figuring out how big a moat there is around the business. What I love, of course, is a big castle and a big moat with piranhas and crocodiles. When researching companies, the financial statement is a great place to start. Examples of this are companies that are opening up new markets, that are still yet to be defined (take the Uber case).

Apple has a few economic moats, the primary one being creating products that did not exist before, such as the iPod, the iPhone, and the iPad. After the creation of those products, Apple’s economic moat has consisted of its marketing, its design, and its user-friendly interface. From an investor’s view, it is ideal to invest in growing companies just as they begin to reap the benefits of a wide and sustainable economic moat. The longer a company can harvest profits, the greater the benefits for itself and its shareholders. Moats are a very powerful tool that can help a company to grow and stay highly profitable. Some of the best investors (like Warren Buffett) have made a career specializing in identifying companies with strong moats and paying a relatively low price for them.