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Apple was a classic Berkshire stock long before the firm bought it

Berkshire Hathaway's purchase of $1 billion of Apple stock surprised many in the investment world this week, and it's not hard to see why, given some of Warren Buffett's past tech-sector comments.

"We share the general view that our society will be transformed by [technology companies'] products and services," Buffett wrote in his 1999 letter to Berkshire shareholders. "Our problem — which we can't solve by studying up — is that we have no insights into which participants in the tech field possess a truly durable competitive advantage."

It must be noted that the Apple purchase appears to have come not from Buffett directly, but instead from Berkshire portfolio managers Todd Combs and Ted Weschler, who make many of the firm's smaller moves of $1 billion or less. But the Validea Market Legends ETF (VALX), which uses a Buffett model, among other guru screens, to score stocks, has held Apple over time because it scores highly in our Buffett model (Apple is a current VALX holding).

A closer and more up-to-date look at the tech sector and big tech stocks shows that Berkshire Hathaway's Apple buy is indeed rather Buffett-like. Part of the proof, I believe, involves how the tech sector in general has changed; the other involves the specifics of Apple's business.

Warren Buffett
Lacy O’ Toole | CNBC
Warren Buffett

Let's start with broader tech-sector issues. Buffett wants companies that can generate predictable earnings, and for a long time tech firms didn't fit that bill; the tech landscape changed so rapidly in the '80s, '90s and 2000s that it was incredibly difficult to count on any one company over the long term. That's just what Buffett doesn't like.

"A fast-changing industry environment may offer the chance for huge wins, but it precludes the certainty we seek," he wrote in his 1996 letter to shareholders.

Technology may still be more prone to disruption than any other sector, but many tech companies' products and services have gone from cutting-edge luxuries to business and home staples. Cellphones have been fairly common for nearly two decades; personal computers have been part of our lives for three. How many people do you know today who don't have a cellphone or a personal computer? Can you name a business that doesn't require computers?

Amid all of this, companies like Apple and Microsoft and IBM (a Berkshire holding) have gone from risky upstarts to big, steady stalwarts. Apple has upped earnings per share in every year of the past decade. That persistent earnings growth fits a Buffett-based model.

The book "Buffettology," written by Mary Buffett, Buffett's former daughter-in-law and colleague, also advises Buffett-minded investors to look for companies with reasonable debt — long-term debt should be no greater than five times annual earnings. Apple again delivers: It has $69 billion in debt versus $50 billion in annual earnings.

"We share the general view that our society will be transformed by [technology companies'] products and services. Our problem — which we can't solve by studying up — is that we have no insights into which participants in the tech field possess a truly durable competitive advantage." -Warren Buffett, from his 1999 letter to Berkshire Hathaway shareholders

One of the qualities Buffett most cherishes in a company is a "durable competitive advantage." Apple appears to have a couple.

One is its immense size ($500 billion market cap, $250 billion in annual sales), which certainly gives it economy-of-scale advantages over smaller competitors (and at this point, who isn't smaller?).

In addition, Apple has tremendous brand recognition and customer loyalty. Many Mac users are so loyal that they'd probably line up around the block to get a new iPhone if the only change involved the color of Siri's hair (or, as she calls it, "electrostatic cilia").

ROE and Buffettology

Mary Buffett wrote in "Buffettology" that Warren Buffett looks for confirmation of a durable competitive advantage in quantitative metrics, like return on equity (ROE).

For the Buffett-inspired model we use as part of our exchange-traded fund stock selection process, firms need to average 15 percent ROE over the past decade. Apple just about doubles that, at 29.9 percent. In addition, Apple generates a ton of cash, more than $10 a share, for a free cash flow yield of 8.5 percent. And it has averaged a return on retained earnings (those not paid out as dividends or used for capital expenditures) of more than 28 percent over the past decade. That's a sign of strong management.

Apple shares have stumbled over the past year, losing about 30 percent. For most investors, that's a negative, but to the value-conscious Buffett and his team, it's probably an opportunity: Apple shares now trade at a price-earnings ratio of just 10.

On the surface, Apple might not seem like a typical Berkshire pick. But remember, to Buffett it's all about looking at the numbers on the page unemotionally and objectively. With its solid balance sheet, excellent free-cash generation, persistent growth and cheap shares, Apple fits the Buffett/Berkshire model, regardless of its tech-industry affiliation or its shares' rough past 12 months.

John Reese is founder of Validea.com and manager of the Validea Market Legends ETF (VALX). The ETF uses computer models based on legendary investor strategies for stock selection. Its Buffett model has scored Apple highly for over a year and is an ETF holding.