Author Topic: Why so many narrow moat companies with high market share?  (Read 1908 times)

scorpioncapital

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Why so many narrow moat companies with high market share?
« on: November 30, 2019, 04:04:07 AM »
I see several narrow moat companies (at least as defined by Morningstar) with very high market share. Why does this happen? Say Vmware. There are several huge and smaller competitors. Is it just a temporary switching cost issue?

Also some companies in biological lab equipment, reagents, genetic sequencing (e.g. Ilmn). None of them are making anything that can't really be produced by anyone else. Why do competitors have trouble making inroads in such situations or is it just "a matter of time"



Cigarbutt

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Re: Why so many narrow moat companies with high market share?
« Reply #1 on: November 30, 2019, 05:08:09 AM »
Will try to go from micro to macro and back and this thread reminds me of one you started recently which dealt with the issue from a regulatory angle.

I just arrived at a conference where the title includes "dynamic" and "staying ahead" but even if the title is elegant, it's really about maintaining regulatory capture.

There are many reasons/causes but I think this has to do with the fact that we live in a golden era for incumbents (section 4, starts page 23).
https://eig.org/wp-content/uploads/2017/02/Dynamism-in-Retreat.pdf

An interesting area is that we seem to take for granted that financing is easy (financing is important for entrants) but it appears that financing for smaller players is nothing but easy. One way to gain market share is to be at the leading edge; stifling entrants may help. And I wonder if the Great Recession was not a wasted opportunity.

At lunch, I'm sure somebody will take a photo of their meal and send it to "friends" but somehow it seems that the real issues will not have been discussed.

scorpioncapital

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Re: Why so many narrow moat companies with high market share?
« Reply #2 on: November 30, 2019, 08:32:40 AM »
Thanks for the article. Will review. To be fair there are inroads to companies without a solid 'protection'. Or one that is diluted.

no_free_lunch

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Re: Why so many narrow moat companies with high market share?
« Reply #3 on: November 30, 2019, 08:53:57 AM »
Have you ever been involved in the process of acquiring one of these products you mention?  My experience has been that you are under tremendous pressure to get it right, you don't have adequate time to compare and you have other responsibilities.  So if prices are at all comparable, it is so tempting to go with one of the larger competitors.

I also think that a narrow moat is still a moat, they are still advantaged. Once you have market share you have significant operating leverage over your competitors.  It's really hard for them to compete.  They have higher costs and less reputation.

Spekulatius

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Re: Why so many narrow moat companies with high market share?
« Reply #4 on: November 30, 2019, 10:45:40 AM »
I see several narrow moat companies (at least as defined by Morningstar) with very high market share. Why does this happen? Say Vmware. There are several huge and smaller competitors. Is it just a temporary switching cost issue?

Also some companies in biological lab equipment, reagents, genetic sequencing (e.g. Ilmn). None of them are making anything that can't really be produced by anyone else. Why do competitors have trouble making inroads in such situations or is it just "a matter of time"

Because the high market share Is the moat. I know itís sort of a circular answer.
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RuleNumberOne

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Re: Why so many narrow moat companies with high market share?
« Reply #5 on: November 30, 2019, 12:14:57 PM »
ScorpionCapital,

Your question is a very wise one. Such companies are wide-moat, not narrow-moat (though someone like Morningstar may see things differently).

There are a very limited number of people with the specialized skills to build these products. And it takes years to build them even with those specialized skills. Someone who has a large amount of financing would have to still be able to hire away employees en-masse. It is the accumulated talent and experience that gives them the moat. You might have cases where no college grads have entered that field for 10-15 years because they have been lured somewhere else.

For people who work in the same industry, it is easy to see which moats are wide and which aren't (i.e.. they track where their former classmates and colleagues are working, watercooler conversations).

For people who don't work in that industry, GAAP profits are a good indicator of moats. This raises the question - why do VMW and NOW have almost the same market cap. VMW's FCF is almost the same as NOW's revenue. They say VMW is an on-prem company and is getting bypassed due to the move to the cloud. Yeah, but my reply is would NOW ever be able to make a GAAP profit to justify its $56 B market cap? They are an app on AWS, and the number of AWS app companies are in the hundreds. High-tech wide-moat companies should not have any trouble showing GAAP profits.

It is kind of like the negative-yielding debt. The momentum is the only justification for a while. A bond is supposed to pay interest, stocks are supposed to show a profit (at least eventually). $17T of -ve debt suddenly went to $12T of -ve debt, can't hear even a whimper from Draghi-loving FT.

Also, such specialized skills employees do get hired away by cloud companies like Amazon, Microsoft, Google. They bypass VMW by changing lanes to the cloud (i.e. attack from a different angle). Around 10 years ago VMW debated whether or not they should build their own cloud, and elected not to.

BTW, I am not invested in VMW currently.

Jurgis

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Re: Why so many narrow moat companies with high market share?
« Reply #6 on: December 01, 2019, 08:47:56 AM »
I see several narrow moat companies (at least as defined by Morningstar) with very high market share. Why does this happen? Say Vmware. There are several huge and smaller competitors. Is it just a temporary switching cost issue?

Also some companies in biological lab equipment, reagents, genetic sequencing (e.g. Ilmn). None of them are making anything that can't really be produced by anyone else. Why do competitors have trouble making inroads in such situations or is it just "a matter of time"

Because the high market share Is the moat. I know itís sort of a circular answer.

VMW might be toast longer term (let's discuss on VMW thread though). It did have a huge first-mover advantage, great (way better than others) tech, real switching costs, and a real moat through now though.

I think ILMN also has a large first mover advantage and possibly better tech than competition and likely switching costs. But I know that area way less than VMW.

Like others said, "narrow moat" is still moat. And large market share may lead to some moat (of network effect, switching costs, low cost provider, etc.).

And getting capital for head-on competition is very tough. Getting capital for something that is different and may displace the incumbent by a side swipe is possible and easier though. So no guarantees for long term.
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RuleNumberOne

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Re: Why so many narrow moat companies with high market share?
« Reply #7 on: December 01, 2019, 12:06:20 PM »
There are some product areas where there are at most 2 or 3 teams in the entire country that can build a quality product. For example, no college grads have entered operating systems related areas since the Google IPO 15 years ago, they have all gone into Big Data and AI.

Right now capital is unlimited (e.g. Gusto just raised $200 million Series D for head-on with WDAY).

But you can't find the teams to build certain products, another example would be networking products - routers/switches. In such areas you find high GAAP profitability and dividends because competition is limited.

These are very tricky times. We have a whole generation that hasn't seen a bust, the bull market is closing in on 11 years.


I see several narrow moat companies (at least as defined by Morningstar) with very high market share. Why does this happen? Say Vmware. There are several huge and smaller competitors. Is it just a temporary switching cost issue?

Also some companies in biological lab equipment, reagents, genetic sequencing (e.g. Ilmn). None of them are making anything that can't really be produced by anyone else. Why do competitors have trouble making inroads in such situations or is it just "a matter of time"

Because the high market share Is the moat. I know itís sort of a circular answer.

VMW might be toast longer term (let's discuss on VMW thread though). It did have a huge first-mover advantage, great (way better than others) tech, real switching costs, and a real moat through now though.

I think ILMN also has a large first mover advantage and possibly better tech than competition and likely switching costs. But I know that area way less than VMW.

Like others said, "narrow moat" is still moat. And large market share may lead to some moat (of network effect, switching costs, low cost provider, etc.).

And getting capital for head-on competition is very tough. Getting capital for something that is different and may displace the incumbent by a side swipe is possible and easier though. So no guarantees for long term.

scorpioncapital

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Re: Why so many narrow moat companies with high market share?
« Reply #8 on: December 01, 2019, 02:56:31 PM »
I'm starting to see why Buffett prefers even a moat that dies slowly than one that dies in a blink of an eye. Perhaps the only assurance is that the world puts a bid under most companies, if only because we're all in the same boat of demanding a return, any return within our lifetimes )


RuleNumberOne

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Re: Why so many narrow moat companies with high market share?
« Reply #9 on: December 03, 2019, 09:18:48 AM »
My current employer uses Gusto instead of Workday - it is faster and cheaper and better. I have an analogy for unprofitable SaaS companies like WDAY.

Suppose you have a great office building in a great location (your capital). You lease your building for eternity to a tenant who will never pay rent. Your only option is to sell it to someone else who hopes to extract rent - but that day never comes.

But what if the office building gets sold and re-sold year after year at ever higher prices without seeing a single rent check.