Date: March 18, 2014
If you thought that this week’s article would be about the well-publicised bond default in China or about the conflict in Ukraine, then you might be a little disappointed.
Whilst those two topics appear to have caught the attention of the mainstream financial media, I have something far more important to write about this week.
Today I would like to draw your attention to the disappointing news that the famous nasi padang restaurant in Zion Road will close at the end of the month. After 57 years of delighting customers with, what I consider to be, one of the best beef rending in town, the restaurant will be calling it a day.
According to the Straits Times, the owner of the restaurant blamed a lack of manpower, rising rental costs and high food prices as the main reasons for the closure.
Without taking a close look at the books – and I am pretty certain the owners would politely tell me where to go if I asked to see the accounts – it is hard to establish where the problem lies. But I am not surprised that inflationary pressures were behind its decision to shut up shop.
Controlling rental costs, labour costs and food costs are paramount to running any successful restaurant. And when those three costs rise together – a triple inflation whammy – it can form a powerful cocktail of destruction. That is unless the costs can somehow be defrayed.
But in order to pass on rising costs a business must have pricing power. And not all businesses have that.
Let us pray
You don’t have to take my word for it. Warren Buffett once said that the single most important decision in evaluating a business is pricing power.
He added that if you have the power to raise prices without losing business to a competitor, then you have got a good business. He also joked that if you have to have a prayer session before lifting prices by 10%, then you have a terrible business.
Pricing power can come in various shapes and sizes. Perhaps one of the clearest indicators of pricing power is a strong brand. Companies such as Coca-Cola, for instance, have pricing power.
At a superficial level, Coca-Cola might appear to be just a purveyor of black, fizzy, sugary water. But the fact that consumers ask for it by name is telling. Coca-Cola can slip in a price increase without consumers even batting an eyelid.
Tobacco companies, casinos and brewers such as Thai Beverage also have pricing power. That is because the products they sell and the services they provide border on being addictive. That’s probably also why governments can target those types of products and services whenever they need to raise taxes.
When looking for businesses with pricing power, examining Net Income Margins could be a good place to start. A business with a stable or even rising margin could imply that profits as a percentage of sales are largely unaffected by what is happening in the wider economy.
One company with a strong margin is Singapore Exchange. And it is not too difficult to see why. SGX operates the only integrated securities exchange in Singapore, so its position is almost unassailable.
Recently, there have been concerns that rising food prices could raise inflation concerns in Asia. But according to economists, inflation in Singapore is likely to be contained by our strong currency. They also point out that food is unlikely to be that much of a worry for us since it only accounts for about a-fifth of our Consumer Prices Index.
But try telling that to the owners of nasi padang restaurant in Zion Road, where food is likely to be a much larger component of its input costs.
The lesson for us is to be mindful of how inflation can affect the businesses we invest in. And as for me, I either have to find another good nasi padang restaurant or quickly learn how to make a good beef rendang myself.
To your investing
This article is contributed by The Motley Fool Singapore
The information provided is for general information purposes only and is not intended to be personalised investment or financial advice. Motley Fool Singapore Director David Kuo doesn’t own shares in any companies mentioned.