Warren Buffett's Favorite Compounders: 3 Stocks to Hold Forever
Key Points
Apple's hardware business feeds into its high-margin services business.
Coca-Cola has unmatched brand equity and distribution.
Alphabet's Google is a great flywheel business, while it is also the most complete AI player.
Investor Warren Buffett may have retired as head of Berkshire Hathaway (NYSE: BRKA) (NYSE: BRKB), but his legacy and influence remain.
One of Buffett's main tenets when investing was to find great business models that could compound over decades. These types of businesses still make up the core of Berkshire's holdings and can be great long-term stocks to buy at any time.
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Three of Buffett's favorite compounders include Apple (NASDAQ: AAPL), Coca-Cola (NYSE: KO), and Alphabet (NASDAQ: GOOGL) (NASDAQ: GOOG). Let's examine what makes each of these businesses so great.
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1. Apple: The Venus flytrap ecosystem
Apple is Berkshire Hathaway's largest holding, and for good reason: It arguably has the best compounding business model on the planet. The smartphone and PC industries typically follow a consistent replacement cycle, and Apple has carved out a strong niche at the high end of the market. Its products work seamlessly within a closed ecosystem, which attracts consumers for its ease and helps it command premium prices.
More importantly, this closed ecosystem eventually traps customers, as it is difficult to switch with each photo taken, app downloaded, and subscription purchased. This then feeds users into Apple's high-gross-margin services businesses. This includes cloud storage, commissions on app purchases to Apple Pay, and its revenue-sharing deal with Alphabet's Google Search.
It's this high-margin flywheel model, backed by an affluent customer base, that makes Apple a great stock to own long-term.
2. Coca-Cola: One of the world's most recognizable brands
Coca-Cola is one of Berkshire's oldest holdings, with Buffett buying the stock back in 1988 and never selling a single share. The reason the Oracle of Omaha loves Coca-Cola so much is that the company has unmatched brand equity and a great compounding business model.
While there are quite a few soda companies around the world, Coca-Cola has created an unmatched global moat through its advertising and distribution. Meanwhile, one key to the company's business is that it doesn't actually sell soda; it sells the syrup used to make its famous soda brands.
This shifts much of the heavy capital expenditures (capex) for owning the plants and delivery trucks onto its independent bottling partners, leaving it with a capex-light, high-margin business. It then feeds this into marketing and innovation, creating a flywheel effect that keeps its brands growing. With soda seeing a resurgence due to the increasing popularity of zero-sugar offerings, prebiotic alternatives, and dirty sodas (sodas mixed with flavored syrups and cream), now looks like a great time to own the stock.
3. Alphabet: The complete AI player
One of the last big purchases Buffett made before his retirement was Alphabet, another example of a great compounding business. This all starts with its core Search business, where it has built a huge distribution moat through its ownership of the web browser Chrome, smartphone operating system Android, and a search deal with Apple that essentially makes Google the gateway to the internet for most people.
Billions of daily search queries provide it with a continuous stream of behavioral data it can use to improve both search results and ad targeting. This, in turn, helps the company serve users more relevant ads, which leads to higher conversions and drives up cost per click. Once again, this is a great flywheel business.
Meanwhile, Google Cloud also has strong business economics, and its proprietary Tensor Processing Units (TPUs) enable Alphabet to run AI training and inference at a lower cost than competitors. This has led the business to achieve strong operating leverage and made the company one of the best-positioned companies for the future of AI, with its own top chips and AI models. This makes Alphabet a stock to own for the long haul.
Geoffrey Seiler has positions in Alphabet. The Motley Fool has positions in and recommends Alphabet, Apple, and Berkshire Hathaway. The Motley Fool has a disclosure policy.