Principles of Company Selection
If companies are to be used as compounding vehicles then the ability of our portfolio companies to consistently grow their businesses is crucial.
Companies selected for our portfolio will have many of the following characteristics:
- Consistency of past growth is exceptional.
- Predictability of future growth is relatively high.
- Company’s product has no close substitutes. It is differentiated from its competition, leading the customer to in effect grant it a monopoly or oligopoly.
- Product pricing is free from regulation.
- Product is a necessity: recession resistent, and/or either of a small enough price, or of a significant enough value as part of its purchaser’s budget and purchase consideration that product escapes cost scrutiny.
- Product is not subject to obsolescence and a rapid product cycle.
- Long term endurance of positive economics for product is likely.
- Potential competitors find entry into business difficult.
- Company does a significant amount of business in foreign markets and has the ability to choose where to allocate its resources.
- Company has the ability to blanket the world with its products.
- Company consistently generates more cash than it uses to maintain the growth of its business, and the amount of such cash generation grows every year.
- Cash reinvested in the business earns a high rate of return, somewhat above the cost of capital. The level of reinvestment of cash in the business, and the rate of return earned on it, is sufficiently steady to allow projection of long-term earnings growth.
- Company owns an innovation that improves the lives of people or facilitates the operation of a business.
 Economic profit or EVA™ (Economic Value Added): The difference between the return on an investment and the cost of capital invested in it. Stock prices have a very high correlation to the amount of economic profit generated by a business. EVA is a registered trademark of Stern Stewart & Co.