Lesson 2 of 4 · 8 min read
The 'moat': why some companies win
An economic moat protects a company's profit against competitors.
What is a moat?
The term comes from Warren Buffett. A moat is a durable advantage that makes it hard for competitors to take market share. Without a moat, high profit is quickly competed away; with a moat, a company keeps earning a lot for years.
Did you know?
Buffett said: 'I look for economic castles with wide moats, guarded by an honest and capable knight.'
Type 1: network effects
Some products get better the more people use them. Think of a marketplace or social network: buyers go where the sellers are, and vice versa. New competitors start from zero and can barely break in.
In practice
A payment app that 'everyone' is on is hard to beat: your new competitor is useless if your friends aren't on it.
Type 2: switching costs
If switching to a competitor takes a lot of hassle, time or money, customers stay put — even when something cheaper exists. Business software that a whole company runs on is the classic example here.
Type 3: scale & brand
A huge player can buy and produce more cheaply than small competitors (economies of scale). And a strong brand makes people pay more for the same product, purely through trust and recognition. Both are moats.
Stocky says
Ask yourself with every stock: 'What stops a competitor from copying this tomorrow?' If the answer is 'nothing', there is no moat.
Why this matters to you
A moat explains why a company can sustain high margins and growth year after year. For long-term investors, a wide moat is often more important than one good quarter: it protects your investment against the inevitable attack from competitors.
Remember this
- A moat is a durable competitive advantage that protects high profit against competitors.
- Network effects, switching costs and scale/brand are the main types of moats.
- Ask with every stock: what stops a competitor from copying this tomorrow?
- For the long term, a wide moat often weighs more heavily than one good quarter.
There is a quiz for this lesson
3 questions that check whether it stuck. They live in the app, because a quiz nobody grades teaches nothing.
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