Warren Buffett is recognised as one of the best value investors in the world. This means that he looks for undervalued companies and buys them. Sounds very simple. Even so, when a stock is cheap, it doesn’t necessarily mean good value. A number of other factors must therefore be taken into account and Buffett has highlighted these factors on multiple occasions. The following UK shares are good examples of stocks I think Warren Buffett would like, and one he’d stay away from.
Quality matters
Although Buffett looks for cheap shares, he also acknowledges the importance of quality. This is shown by his quote: “It’s far better to buy a wonderful company at a fair price than a fair company at a wonderful price”.
The first UK share that I think fits well with this quote is Diageo (LSE: DGE). The drinks company has used debt extremely effectively to make a number of shrewd acquisitions. Most recently this has included capitalising on low interest rates and issuing more debt to acquire Aviation Gin. This adds to the company’s enviable selection of different brands, further cementing it as a market leader. Although issuing too much debt can lead to severe problems, these acquisitions have been accompanied by rising profits. I therefore believe that the slight dip in both profits and the share price this year due to the pandemic offers a good time to “buy a wonderful company at a fair price”.
Packaging company Mondi (LSE: MNDI) is another quality UK share. With the continued rise of e-commerce, packaging is big business. This should allow an innovative company like Mondi to continue growing profits, which have already risen to over £1bn. A price-to-earnings ratio of 12 represents a fair price to pay for such a quality company, I feel.
Buying the dip
Buffett also recognises that “the best thing that happens to us is when a great company gets into temporary trouble”. Although I wouldn’t say that Sage (LSE: SGE) is in trouble, its recent share price dip due to a fairly poor 2020 financial performance is still a worry. But this is what makes it a Buffett-type stock. Changes are already coming for the UK tech stock, and I think this “temporary trouble” makes it a great time to buy.
The UK share I’d stay away from
Cineworld (LSE: CINE) is certainly cheap. This is shown by a market cap of under £1bn, despite it being the second largest cinema chain in the world. Even so, cheap valuations don’t mean value and I think Cineworld is a good example of this. In fact, while I praised Diageo earlier for its use of debt, Cineworld’s debt-fuelled acquisitions have led to £6.1bn in borrowings, compared to shareholders’ equity of just £1.2bn. This represents a severe problem for a company that’s currently unprofitable.
As a result, I don’t think Warren Buffett would buy this troubled UK share. His sale of airlines in 2020 demonstrates his views on many troubled industries and Cineworld is no different. This is one I’m staying away from!