COMPOUNDING MACHINES

“The ideal business is one that earns very high returns on capital and that keeps using lots of capital at those high returns. That becomes a compounding machine.” Warren Buffett

"A compounder is a competitively advantaged business that earns superior returns on invested capital. As cash earnings are reinvested back into the business, the value of the business grows year after year compounding our investment. If we buy at a discount to what we believe the business is worth, we will benefit twofold: by the growth of the intrinsic value and the market correction for the discount. There are two key variables when we evaluate a compounder: the competitive advantage of the business and the discrepancy between intrinsic value and quoted price. Competitive advantage can be fluid and fleeting, thus having a deliberate way to qualify this attribute is critical to success in this category."  Christopher Begg

“The compounding machine stocks are the Holy Grail of investment” Mohnish Pabrai

“To his son, [Shelby] Davis passed along his infectious passion for owning shares in carefully chosen companies (he called them “compounding machines’), his conviction that owning the best compounding machines would lead to unimagined rewards, his distrust of unnecessary spending (why waste money they could be invested?), and his workaholic tendencies” The Davis Dynasty

“What we learned is that if you buy a good and sustainable business, then over time the return of that business will do the natural compounding for you” William Browne

“We expect most or our return to come from compounding of intrinsic value rather than a return to intrinsic value” Ira Rothberg

“Discounts to asset value are not enough, in the long run you need earnings to be able to sustain and nurture the corporate values” Peter Cundill

"The three areas of analysis – business, management, and reinvestment – are the key components of what we call our “three-legged stool.”  When we find a business that satisfies all three of our requirements, we refer to it as a “compounding machine,” and we seek to purchase shares at a modest valuation."  Chuck Akre

“I think it is always better to buy compounders, it’s always better to buy growth. If you are buying an asset because it’s cheap your upside is limited. Buying cheap assets in my opinion, it’s not the name of the game. You want to get to high growth, where intrinsic value increases over time." Mohnish Pabrai

“Compounders are generally market leaders, with high barriers to entry and high returns on capital, whose intrinsic values are growing at a healthy rate. The reason they can be mispriced is typically a function of time horizon. When investor’s don’t focus on the distant compounding merit of a great business, they may not assign that merit a fair value” Christopher Begg

“Our strategy is to own high quality, modestly valued business over many years, to take advantage of the power of compounding as earnings grow. To do that successfully only works if we avoid mistakes – unforced errors – that interrupt the power of compounding” Ira Rothberg

“If you’re going to own a company for a long time, the earnings it generates today will be a small component of the eventual return. Much more important will be how those earnings can be reinvested over time to build value. When companies with positive compounding characteristics become available at really attractive prices, we’ll hope to take advantage” Chris Davis

“A penny doubled every day for a month turns into $10.7m, that’s the effect of compounding. When we are looking for businesses that can do this we are looking for businesses that can reinvest their free cash flow back in the business to continue to earn above average rates of return on that capital and therefore compound the owners capital” Chuck Akre [on compounding machines]

"What I have learnt is don’t sell the compounders when they get fully priced or they get over-priced. Only sell the compounders when its absolutely obvious to you that is’t egregiously priced. The big money is in riding the compounders but you have to try to get in at a reasonable valuation and you have to be right on the fact they are compounders. It’s a forgiving business, so you can be wrong quite a few times and still be ok. It was a difficult lesson for a cheapstake for me. It was a very difficult lesson for Warren and Charlie. I think they learnt the lesson from See’s Candy, that was a seminal lesson for them." Mohnish Pabrai