The Power of Monopolies
Warren Buffett's Strategy for Market Domination
The single most important decision in evaluating a business is pricing power.
If you’ve got the power to raise pricing without losing business to a competitor, you’ve got a very good business. If you’ve got a good enough business — if you have a monopoly newspaper, if you have a network television station ... your idiot nephew could run it. — Buffett’s testimony to Congress in 2011
Warren Buffett’s favorite types of businesses are those with huge economic moats, which are near-monopolies in their industries. Once, when asked at an annual meeting what his ideal business was, Buffett argued that it was one that had “high pricing power, a monopoly.” According to Buffett, the message is clear: If you’re investing in a business with competition, you’re doing it wrong.
Buffett has walked the talk by buying into industries with little competition (and controversially killing competition in some industries he invests in). Most of Berkshire’s investments are in monopolistic industries (% of his portfolio in brackets)
Moody’s (2.6%) — A rating agency that shares a monopoly with S&P and Fitch
DaVita (1.3%) — DaVita and Fresenius owns 92% of the dialysis markets
Apple (42%) — Apple and Google virtually owns 100% of the app ecosystem
American Express (9%) — Visa, Mastercard, and AmEx controls 99% of payments
Finally, one of our personal favorites from Buffett’s portfolio is FlightSafety. The company was started in 1951 and provides flight training for pilots. Berkshire acquired FlightSafety in 1996 & Buffett argued that it had one of the best durable competitive advantages: Being a pilot is a highly skilled job with no room for error. Anyone who wishes to be a pilot would like to be trained by the best, and FlightSafety is arguably the best flight-training provider.
In Buffett’s own words:
Going to any other flight-training provider than the best is like taking the low bid on a surgical procedure.
Big Tech Monopolies
The names have changed, but the story is the same.
The big story of 2023 was the remarkable performance of the “magnificent 7”, or the seven largest technology stocks in the S&P 500 (Alphabet, Amazon, Apple, Meta Platforms, Microsoft, NVIDIA, and Tesla). In 2023, all of these stocks outperformed the market by at least 2x and the S&P 500 equal weight index by 4x.
It can be argued that this performance is directly connected to the extreme power and distribution accumulated by these companies. Apple and Google virtually own all of our mobile ecosystem, Amazon dominates the e-book and e-commerce business, and Facebook controls almost all social media.
This monopoly makes it extremely difficult for newcomers to challenge them. Whenever a breakthrough occurs, these companies can instantly distribute to billions of users (think about how many features Meta “copied” from upstarts) or flat-out acquire the company (like Microsoft did with OpenAI).
While Big Tech captures all the headlines, a few companies now dominate almost all industries. Look around your store the next time you go grocery shopping - you might think that as a consumer, you have a plethora of choices. But in reality,
There are arguments for and against a few companies controlling the majority of market share that are beyond the scope of our discussion. We believe the question we should be asking is whether these companies tend to create outsized investor returns.
Investing in Monopolies
In the U.S., the top 1% of corporations own 97% of all corporate assets.
If you try to do a backtest on the biggest monopolies of today, you will quickly run into hindsight bias. The companies that are monopolies now might or might not have been monopolies a decade back. For example, there was no way of knowing Google and Apple would dominate the in-app ecosystem in phones, and that Amazon would be the king of cloud services back in 2010.
We can overcome this by going back in time (using this nifty little feature from Google) and searching for publications covering monopoly investments. We found two relevant articles that we can use for our analysis.
The next 7 American Monopolies - Business Insider (2010)
The Forbes.com Monopoly Index - Forbes (2001)
The two reports covered 17 stocks. We can benchmark the performance of individual companies and create an equal-weighted monopoly portfolio to see if monopolies outperform the market.