Course 206: More on Competitive Positioning
Types of Narrow Moats
In this course
1 Introduction
2 Porter's Five Forces
3 A Five Forces Example: Consumer Products
4 Getting Back to Moats
5 Types of Narrow Moats
6 Wide Moats
7 Wide Moats Versus Deep Moats
8 The Bottom Line

There are certainly gradations of moat width, and we here at Morningstar describe companies with milder competitive advantages as having "narrow" moats. From our point of view, far more companies have narrow moats than wide ones. Narrow-moat firms are, on average, of a much higher quality than no-moat companies. Generally, narrow-moat companies generate lower returns on invested capital than wide-moat companies but still have returns slightly above their cost of capital. (We will talk about return on invested capital and cost of capital extensively in coming lessons.) Narrow-moat companies typically come in two varieties:

Firms with Eroding Moats. These companies have competitive advantages, but they are eroding due to a shifting industry landscape. This scenario is faced by some of the consumer-products companies, like those we just examined. For example, we consider both General MillsGIS and KelloggK to be narrow-moat firms. The pricing power they once enjoyed is eroding as a result of increased competition and an ever-consolidating retail landscape that is increasing buyer power. The Baby Bells, such asAT&TT and VerizonVZ, are another example; their economic moats are also slowly eroding. In future years, they won't enjoy the monopoly pricing power they once did because of the increased use of wireless phones and, of course, the Internet.

Firms with Structural Industry Challenges. A company in this category dominates its peers, but resides in an industry where wide moats are nearly impossible to create. For example, Waste ManagementWMI has a solid position in thewaste services industry.Thetrash takeristhe largest operator oflandfills in the country, a position that is nearly impossible to replicatedue topolitical and citizens' group opposition. Such barriers to entryinwaste disposalare augmented byregional scale androute density on the collection side of its business, whichmakes life difficult for local independent haulers.This competitive position allows it togarner real pricing increases,which help tomitigaterising diesel fuel prices and cyclicaldeclines in waste volume.

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