Business Tenets

1. Is the business simple and understandable?
2. Does the business have a consistent operating history?
3. Does the business have favorable long-term prospects?

According to Buffett, an investors financial success is correlated to the degree in which they understand their investment.
Buffett is able to maintain a high level of knowledge about Berkshire's businesses because he purposely limits his selection to companies that are within his area of financial & intellectual understanding which he calls it his "circle of competence." His logic is this: If you own a company in an industry you do not understand, it is impossible to accurately interpret developments & therefore impossible to make wise decisions.
"Invest within your circle of competence. Its not how big the circle is that counts, its how well you define the parameters."

When a company has demonstrated consistent results with the same type of products year after year, it is not unreasonable to assume that those results will continue.
Buffett avoids purchasing companies - (a) that are fundamentally changing direction because their previous plans were unsuccessful. (b) that are solving difficult problems.

According to Buffett, the economic world is divided into a small group of franchises & a much larger group of commodity businesses, most of which are not worth purchasing.
He defines a franchise as a company whose product or services (1) is needed or desired (2) has no close substitute, and (3) is not regulated.

Individually & collectively, these create what Buffett calls a moat – something that gives the company a clear advantage over others & protects it against incursions from the competition. The bigger the moat, the more sustainable, the better he likes it.

A franchise that is the only source of a product people want can regularly increase prices without fear of losing market share or unit volume. Often a franchise can raise its prices even when demand is flat & capacity is not fully utilized. This pricing flexibility is one of the defining characteristics of a franchise; it allows franchises to earn above-average returns on invested capital.

Another defining characteristic is that franchises posses a greater amount of economic goodwill, which enables them to better understand the effects of inflation.
Another is the ability to survive economic mishaps & still endure.

Conversely, a commodity business offers a product that is virtually indistinguishable from the products of its competitors. Commodity businesses, generally, are low –returning businesses & “prime candidates for profit trouble”. Since their product is basically no different from anyone else’s, they can compete only on the basis of price, which severely undercuts profit margins. The most dependable way to make a commodity business profitable, then, is to be the low cost provider. The only other time commodity businesses turn a profit is during periods of tight supply – a factor that can be extremely difficult to predict.

"I want to be in businesses so good even a dummy can make money."

(Source: The Warren Buffett Way by Robert G. Hagstrom)