0:01 Well, you know, I get asked all the
0:03 time, Warren, how do you decide what to
0:05 buy? People think there's some secret
0:08 formula locked away in Omaha or that you
0:10 need a team of analysts with fancy
0:12 spreadsheets. The truth is much simpler
0:13 than that. And that's what I want to
0:16 share with you today. After more than 70
0:18 years of buying businesses and stocks,
0:20 I've learned that you really only need
0:23 to look at three numbers. Just three.
0:24 Now, Wall Street would love for you to
0:26 believe it's complicated. They want you
0:28 watching screens, reading research
0:30 reports, chasing the latest trends. But
0:32 Charlie Munger and I, we've always
0:34 believed that investing should be simple
0:35 enough to explain to your neighbor over
0:37 the fence. Let me tell you a quick
0:40 story. Back in 1988, I bought my first
0:43 shares of Coca-Cola. Now, everyone told
0:45 me I was crazy. The stock had already
0:47 gone up. The market was expensive. There
0:49 were all these fancy new beverage
0:51 companies coming along. But I sat down
0:53 at my kitchen table, looked at three
0:55 numbers, and I knew this was a wonderful
0:57 business at a fair price. That
0:59 investment is now worth more than $20
1:01 billion for Berkshire Hathaway. Same
1:03 three numbers every single time. Now,
1:05 before I share these numbers with you,
1:06 let me be clear about something. I'm not
1:09 the smartest guy in the room. Never have
1:11 been. I'm 94 years old. I eat McDonald's
1:14 for breakfast. I drink five Cokes a day.
1:16 And I live in the same house I bought in
1:19 1958 for $31,500.
1:21 You don't need to be a genius to invest
1:23 well. You need to be disciplined. You
1:25 need to be patient. And you need to
1:27 focus on what matters. So, let's get
1:29 into it. The three numbers I check
1:32 before buying any stock. And I promise
1:33 you, by the end of this, you'll
1:35 understand exactly how to apply this
1:38 yourself. Number one, return on equity.
1:41 Now, that sounds fancy, but let me put
1:44 it in plain English. Return on equity or
1:47 ROE tells you how good a business is at
1:49 making money with the money shareholders
1:51 have already put in. Think of it this
1:53 way. Imagine you and your neighbor
1:55 decide to open a hamburger stand. You
1:58 each put in $10,000. That's your equity,
2:00 your ownership stake. Now, at the end of
2:02 the year, your hamburger stand makes
2:05 $4,000 in profit. You've got $20,000 of
2:09 equity. You made $4,000. That's a 20%
2:12 return on equity. 20% return on equity
2:14 means for every dollar you've invested
2:16 in the business, you're getting 20 cents
2:18 back in profit every single year. Now,
2:20 here's why this number matters so much.
2:22 If a company consistently earns high
2:25 returns on equity year after year after
2:27 year, that tells you something profound.
2:29 It tells you this business has what I
2:32 call an economic moat. It's got some
2:34 kind of competitive advantage, some
2:37 protection that keeps competitors from
2:39 eating away at those profits. Maybe it's
2:42 a brand that people love like CocaCola
2:45 or Apple. Maybe it's a network effect
2:47 where the product gets more valuable as
2:49 more people use it. Maybe it's lowcost
2:51 production that nobody can match.
2:53 Whatever it is, high return on equity
2:55 sustained over time is the fingerprint
2:57 of a wonderful business. When I look at
2:59 a company, I want to see return on
3:02 equity consistently above 15%.
3:05 Preferably 20% or higher. And I want to
3:07 see that not just for one year, but for
3:09 10 years, 15 years, 20 years. That's the
3:11 test. Let me give you a real example.
3:13 Seize Candies, a company Birkshire
3:16 bought back in 1972 for $25 million.
3:19 People thought we overpaid. But I looked
3:20 at the return on equity, and it was
3:23 north of 30%. Year after year, this
3:24 little candy company would take the
3:26 money we left in the business and turn
3:29 it into more money reliably,
3:31 predictably. Over the years, Se's
3:34 Candies has made us nearly $2 billion in
3:36 pre-tax earnings. From a $25 million
3:38 investment, that's the power of high
3:40 return on equity compounding over
3:42 decades. Now, contrast that with a
3:44 business that earns, say, five or 6% on
3:46 equity. You're barely keeping up with
3:48 inflation. You're not creating real
3:50 value. And usually those low returns
3:52 mean the business is in a commodity
3:54 industry where anybody can compete,
3:56 where there's no moat, no protection.
3:58 Those are the businesses I avoid. You
4:00 can find return on equity in any stock
4:02 screen or any financial website. It's
4:04 public information. But most investors
4:05 never look at it. They're too busy
4:07 watching the stock price bounce around.
4:09 The stock price tells you what other
4:11 people think. Return on equity tells you
4:13 what the business actually does. Number
4:15 two, debt to equity ratio. This one's
4:17 about safety. It's about making sure you
4:19 don't lose money. Remember rule number
4:22 one, never lose money. Rule number two,
4:24 never forget rule number one. Debt to
4:27 equity ratio tells you how much debt a
4:28 company is carrying relative to the
4:31 equity, the actual ownership value. Let
4:33 me go back to that hamburger stand. You
4:36 and your neighbor put in 10,000 each,
4:38 20,000 total equity. Now, let's say you
4:41 borrow another 20,000 from the bank to
4:43 expand. You've got 20,000 in debt,
4:46 20,000 in equity. That's a debt to
4:49 equity ratio of 1 one or 100%. Now,
4:51 here's the thing about debt. Debt is a
4:53 double-edged sword. When times are good,
4:55 debt can amplify your returns. You're
4:57 using borrowed money to make more money.
4:59 But when times get tough, when sales
5:02 drop, when the economy stumbles, debt
5:04 can kill you. Because debt doesn't care
5:06 if your business is struggling. The bank
5:09 wants its money back regardless. I've
5:11 seen so many good businesses destroyed
5:14 by too much debt. Companies that could
5:15 have survived a recession could have
5:18 weathered a storm. But they had so much
5:20 debt piled up that when cash flow slowed
5:22 down, they couldn't make the payments.
5:24 They went bankrupt. Shareholders got
5:26 wiped out. So when I look at a business,
5:29 I want to see a debt to equity ratio
5:32 that's manageable. For most companies, I
5:36 like to see it below 50%, ideally lower.
5:38 Now, there are exceptions, banks and
5:40 financial companies. They operate
5:41 differently. They're in the business of
5:43 borrowing and lending. But for a typical
5:45 operating company, a manufacturer, a
5:48 retailer, a tech company, low debt means
5:50 you've got a margin of safety. Let me
5:51 tell you about one of my biggest
5:53 mistakes. In the 1960s, I bought
5:55 Berkshire Hathaway. It was a textile
5:57 mill and it was cheap. Boy, was it
5:59 cheap, but it was a terrible business.
6:01 The textile industry was dying. There
6:03 was no competitive advantage and the
6:04 company was struggling under debt. I
6:06 thought I could turn it around. I was
6:08 wrong. I wasted years and millions of
6:10 dollars trying to save a business that
6:11 should have been shut down. That
6:13 experience taught me something
6:15 invaluable. A mediocre business with
6:18 debt is a disaster waiting to happen. A
6:19 wonderful business with little or no
6:22 debt is a fortress. Think about Apple.
6:24 When we started buying Apple back in
6:26 2016, people said, "Warren, you don't
6:28 understand technology." Maybe they were
6:30 right, but I understood the business.
6:32 And one thing I loved was that Apple had
6:35 very manageable debt relative to its
6:38 equity and its cash flow. In fact, Apple
6:40 was sitting on a mountain of cash.
6:42 That's the kind of balance sheet that
6:44 lets you sleep well at night. When
6:46 you're looking at stocks, pull up the
6:48 balance sheet. Look at total debt. Look
6:50 at shareholders equity. Do the simple
6:53 division. If the debt to equity ratio is
6:55 over 100%, be very careful. Ask
6:57 yourself, can this company handle a
6:59 downturn? What happens if sales drop by
7:02 20 or 30%, will they be able to pay
7:04 their bills? If the answer is no, walk
7:05 away. There are plenty of other
7:08 opportunities. Don't take unnecessary
7:10 risk. Number three, price toearnings
7:13 ratio. Or as I like to call it, what you
7:15 pay versus what you get. This is the
7:17 number that tells you whether a stock is
7:20 cheap, expensive, or fairly priced. Now,
7:22 let me be clear. Price matters. I don't
7:24 care how wonderful a business is. If you
7:26 overpay, you're going to get poor
7:28 returns. Price is what you pay. Value is
7:31 what you get. That's a lesson my mentor
7:33 Ben Graham taught me 70 years ago, and
7:35 it's just as true today. The price
7:37 toearnings ratio, PE ratio, is simple.
7:39 It tells you how many dollars you're
7:40 paying for every dollar of annual
7:42 earnings the company generates. Let's
7:45 say a company earns $5 per share, and
7:47 the stock is trading at $100. That's a
7:50 PE ratio of 20. You're paying $20 for
7:52 every $1 of earnings. Now, here's where
7:55 it gets interesting. A low PE ratio
7:57 might look like a bargain, but you have
7:59 to ask, why is it low? Is the business
8:02 dying? Is it in a terrible industry? Are
8:04 earnings about to collapse? Sometimes a
8:07 low PE is a value trap. It looks cheap,
8:08 but it deserves to be cheap. On the
8:11 other hand, a high PE ratio might be
8:13 justified if the business is growing
8:15 rapidly and has a long runway ahead. But
8:18 you've got to be careful. When PE ratios
8:20 get up into the 30s, 40s,50s, you're
8:22 paying for a lot of future growth, and
8:25 the future is uncertain. Let me tell you
8:27 what I look for. I want to buy wonderful
8:30 businesses at reasonable prices. For
8:31 most great companies, I'm comfortable
8:34 paying a PE ratio in the mid- teens to
8:36 low 20s. That's the sweet spot. If I can
8:38 find a business with high return on
8:41 equity, low debt, and a PE ratio under
8:43 20, I'm very, very interested. Now,
8:45 here's the thing. You have to look at
8:47 these three numbers together. They tell
8:50 a story. Return on equity tells you if
8:53 it's a good business. Debt to equity
8:55 tells you if it's a safe business. Price
8:57 to earnings tells you if it's a good
9:00 deal. All three have to check out. If
9:02 even one is off, I usually walk away.
9:04 Let me walk you through a real world
9:06 example. Let's look at Coca-Cola when I
9:09 bought it in 1988. Return on equity over
9:12 30%. Year after year after year. This
9:13 was a business that took shareholders
9:15 money and turned it into more money with
9:17 incredible efficiency. The brand was
9:19 unbeatable. The distribution was global.
9:22 The moat was a mile wide. Debt to equity
9:24 low. Coca-Cola didn't need to borrow
9:26 much. It generated so much cash from
9:28 operations that it could fund growth,
9:30 pay dividends, and still have money left
9:33 over. Safe? Absolutely. Price to
9:35 earnings. When I started buying, it was
9:38 around 15. Not dirt cheap, but
9:40 reasonable for a business of that
9:42 quality. I wasn't trying to steal it. I
9:44 was trying to buy a piece of a wonderful
9:46 business at a fair price. All three
9:48 numbers checked out. So, I bought and I
9:50 held and I held and I held. That's the
9:52 secret, by the way. Once you find a
9:54 wonderful business at a fair price, you
9:56 hold it. You let compound interest do
9:58 the work. Our favorite holding period is
10:00 forever. Now, let me address something I
10:01 know you're thinking. You're thinking,
10:02 Warren, what about growth? What about
10:04 innovation? What about all these
10:06 exciting new companies? Here's my
10:07 answer. Growth is wonderful if it's
10:09 profitable growth. But growth for the
10:11 sake of growth is foolish. I've seen so
10:13 many companies chase revenue without
10:15 caring about profitability. They spend
10:16 and spend and spend. They've got a great
10:19 story, the stock goes up, and then
10:20 reality sets in. and they can't make
10:22 money. They burn through cash. The story
10:24 falls apart. These three numbers keep
10:26 you grounded in reality. Return on
10:29 equity tells you if the growth is
10:31 actually profitable. Debt to equity
10:33 tells you if the growth is sustainable
10:35 or if they're borrowing their way to
10:38 disaster. Price to earnings tells you if
10:40 the market has gotten way ahead of
10:41 itself. Let me give you a counter
10:45 example. I famously passed on Google and
10:47 Amazon. A lot of people have asked me
10:48 about that over the years. And you know
10:51 what? They're right to ask. I missed two
10:52 of the greatest businesses of the last
10:55 25 years. Charlie jokes that I was
10:56 sucking my thumb while the world changed
10:59 around me. Why did I pass? Well, in the
11:01 early days, both companies were growing
11:03 like crazy, but they weren't yet
11:05 generating the kinds of returns on
11:07 equity that I look for. They were
11:08 investing heavily. They were building
11:10 infrastructure. And honestly, I didn't
11:12 fully understand their business models.
11:14 I stayed within my circle of competence,
11:16 and tech was outside that circle. Now,
11:18 does that mean my three number test
11:20 failed? No, it means I didn't apply it
11:22 correctly. Or more honestly, I didn't
11:24 see what those businesses would become.
11:26 By the time they had the return on
11:28 equity, the low debt, and the proven
11:29 business model, the stock price had
11:32 already run up. I was late. That's the
11:33 thing about investing. You're going to
11:35 miss opportunities. You're going to make
11:38 mistakes. What matters is that you don't
11:40 make catastrophic mistakes. You don't
11:42 lose money permanently. Which brings me
11:44 back to why these three numbers matter
11:47 so much. They protect you. They keep you
11:49 from chasing fads. They keep you from
11:51 overpaying. They keep you from buying
11:52 businesses that are going to blow up.
11:54 They give you a margin of safety. Now,
11:56 let me give you some practical advice on
11:59 how to use this. First, don't look at
12:01 just one year. Look at trends over 5
12:04 years, 10 years if you can. Is return on
12:06 equity getting better or worse? Is debt
12:08 going up or down? Are earnings growing
12:10 consistently or bouncing all over the
12:12 place? Second, compare the company to
12:15 its competitors. If one company in an
12:18 industry has a 25% return on equity and
12:20 another has 8%, ask yourself why. What's
12:22 the difference? That difference is the
12:24 moat. Third, be patient. You don't have
12:26 to swing at every pitch. In investing,
12:28 unlike baseball, there are no called
12:30 strikes. You can watch a 100 pitches go
12:31 by and wait for the one that's right in
12:34 your sweet spot. Wait for the fat pitch.
12:35 Wait for a company with high return on
12:37 equity, low debt, and a reasonable PE
12:39 ratio. When you find that combination,
12:41 buy it and hold it. Let me tell you one
12:42 more story before we wrap up. In the
12:45 early 1990s, American Express got into
12:47 trouble. There was a scandal involving
12:49 one of their subsidiaries. The stock got
12:51 hammered. People were scared. But I
12:53 looked at the numbers. Return on equity
12:54 still strong. The core business, the
12:57 card business was unaffected. Debt
12:59 manageable. Price to earnings. Now it
13:01 was cheap because everybody was
13:03 panicking. I bought heavily. And sure
13:05 enough, the scandal passed. The business
13:07 recovered and we made a lot of money. Be
13:08 fearful when others are greedy and
13:10 greedy when others are fearful. That's
13:12 what these three numbers let you do.
13:14 When everyone else is panicking and the
13:16 stock price is down, you can look at the
13:18 fundamentals and ask, "Is this still a
13:20 good business?" If return on equity is
13:22 still high, if debt is still low, then
13:24 the price drop might be a gift. That's
13:26 when you buy. Now, I want to be honest
13:28 with you. These three numbers won't make
13:30 you rich overnight. They won't help you
13:32 pick the next hot stock that doubles in
13:34 a month. That's not what this is about.
13:36 This is about building wealth slowly,
13:38 steadily over decades. This is about not
13:41 losing money. This is about compounding.
13:43 Compound interest is the eighth wonder
13:46 of the world. If you can earn 15 or 20%
13:49 a year on your money consistently for 20
13:52 or 30 or 40 years, you will get very,
13:55 very wealthy. Not by timing the market,
13:57 not by trading in and out, by owning
13:59 great businesses and letting them work
14:01 for you. So, here's my challenge to you.
14:03 Before you buy your next stock, pull up
14:05 the numbers. Look at return on equity
14:08 over the last 10 years. Look at the debt
14:10 to equity ratio right now. Look at the
14:12 price toearnings ratio. Ask yourself, is
14:14 this a wonderful business? Is it safe?
14:16 Is the price reasonable? If the answer
14:18 to all three is yes, you might have
14:20 found something worth owning for a very
14:22 long time. If the answer to anyone is
14:25 no, move on. There's always another
14:26 opportunity. Let me close with this.
14:29 Investing is not complicated. Wall
14:31 Street wants you to think it is because
14:32 if you knew how simple it was, you
14:34 wouldn't need them. But the truth is,
14:36 you can sit at your kitchen table, look
14:38 at three numbers, and make decisions as
14:39 good as any professional. You don't need
14:41 a Bloomberg terminal. You don't need to
14:43 watch CNBC all day. You don't need to
14:45 trade constantly. You need to find
14:47 wonderful businesses, buy them at fair
14:49 prices, and hold them. That's it. That's
14:52 the whole game. Return on equity, debt
14:55 to equity, price to earnings. Three
14:57 numbers. Simple but powerful. I've used
14:59 these three numbers to build Berkshire
15:01 Hathaway into one of the largest
15:03 companies in the world. I've used them
15:05 to make myself and my shareholders a lot
15:07 of money. And I'm telling you, you can
15:08 use them, too. Now, I'm not saying
15:10 you'll never make a mistake. I've made
15:12 plenty. But if you stick to these
15:14 principles, if you stay disciplined, if
15:16 you're patient, you will do well. You'll
15:17 sleep well at night. You'll avoid
15:19 catastrophic losses, and over time,
15:21 you'll build real wealth. So, go ahead,
15:23 pull up a stock you're interested in.
15:25 Look at the numbers. Apply the test. And
15:26 remember, you don't need to be
15:27 brilliant. You just need to be
15:29 disciplined. Thanks for listening. Now,
15:31 if you'll excuse me, I've got about 500
15:34 pages left to read today, and I'm only
15:36 94, so I'd better get to it. And
15:37 remember, if an old guy who eats
15:39 McDonald's every morning and drinks
15:41 Coca-Cola all day can figure this out,
