Dependent

A Dependent company is a business that relies excessively on a single external entity—be it a customer, supplier, technology platform, or key individual—for a significant portion of its success. This over-reliance creates a precarious situation where the company's fate is not entirely in its own hands. Imagine a small boat being towed by a massive ship; the boat goes wherever the ship goes, and if the tow rope snaps, it's left adrift. For a value investor, identifying such dependencies is a crucial part of risk assessment. A company might boast impressive growth and profitability on paper, but if those profits can vanish overnight because a single large client walks away or a platform like the Apple App Store changes its rules, the underlying business is far more fragile than it appears. This hidden vulnerability is a classic red flag, as it undermines the long-term predictability and durability that investors should seek.

A dependent business is the opposite of a company with a strong competitive Moat. Instead of having control over its destiny, it operates at the mercy of others. This weakness manifests in several dangerous ways. First, it severely limits a company's Pricing Power. A small supplier that sells 80% of its goods to Walmart can't exactly play hardball during price negotiations. The larger entity knows it has the upper hand and can squeeze the dependent company's profit margins down to the bone. Second, it introduces a massive, concentrated risk. The “single point of failure” is a terrifying concept in engineering and is just as scary in business. If the key customer goes bankrupt, finds a cheaper supplier, or decides to bring production in-house, the dependent company's revenue can evaporate almost instantly. This is not a hypothetical risk; it happens all the time. Finally, it indicates a weak strategic position. Great businesses build resilient operations with diversified revenue streams, multiple suppliers, and direct relationships with their end-users. A heavy dependency suggests the company has failed to achieve this, making it a fundamentally riskier investment.

Be on the lookout for these classic dependency traps. They can often be found by digging into a company's annual reports or just by thinking critically about how the business actually works.

• Customer Dependency: This is the most common type. The business relies on one or a handful of clients for a huge chunk of its revenue. A company that generates 50% of its sales from a single customer is in a very fragile position.
• Supplier Dependency: The company needs a specific raw material, component, or service from a single source. This creates a significant Supply Chain Risk. If that supplier has production issues, raises prices dramatically, or goes out of business, the company's entire operation could grind to a halt.
• Platform Dependency: Many modern businesses are built entirely on another company's ecosystem. Think of sellers on Amazon, developers on the Google Play Store, or content creators on YouTube. A simple algorithm change or an update to the platform's terms of service can destroy their business model overnight, and they have zero recourse.
• Key Person Dependency: This is common in smaller companies or firms in creative/technical fields. The business's success is tied to the unique skills, reputation, or connections of one person (often the founder). If that “star player” leaves, retires, or has an accident, the company's value could plummet.

Uncovering dependencies requires a bit of detective work, but the clues are usually there if you know where to look.

1. Read the Annual Report (10-K): This is your best friend. Public companies are legally required to disclose major risks. Head straight for the “Risk Factors” section. They will often state explicitly if they have significant customer or supplier concentration.
2. Check for Customer Concentration: Look for language like, “Our top three customers accounted for 47% of our revenue last year.” As a general rule, if any single customer makes up more than 10% of revenue, you should pay close attention and understand that risk.
3. Analyze the Business Model: Ask simple questions. Does this company own its customer list, or is it effectively “renting” them from Facebook through advertising? Is its key product feature based on its own technology or a license from another company?
4. Listen to Earnings Calls: Financial analysts are paid to find these weaknesses. Often on an earnings call, you'll hear them press management with questions like, “What's your revenue concentration with Customer X?” or “What are your plans to mitigate the risk of platform changes from Y?” The answers (or non-answers) can be very revealing.

A truly great business is the master of its own destiny. It commands its prices, owns its customer relationships, and controls its production processes. A dependent company, by definition, is not. It has handed over a critical piece of its future to an outside party. This doesn't mean you should never invest in a company with some dependencies. However, you must recognize the elevated risk and demand a much larger Margin of Safety to compensate for it. Before you invest, always ask the crucial question: “Who's really in charge here?” If the answer isn't the company itself, you might want to look for a business that stands on its own two feet.