How to screen for the best compounders to buy

We've often talked about quality businesses and the process of valuation. You can use this screener to easily find a list of solid companies

looking paley center GIF by The Paley Center for Media

Key Takeaways

  1. Use a watchlist to monitor top companies and buy when the price matches their true worth.

  2. Check financial health with key metrics like debt management and cash flow.

  3. Look beyond numbers to understand a company's business model and leadership.

  4. Avoid banks and complex sectors unless you have specialized knowledge.

  5. Be patient, wait for market dips to buy quality stocks at a better price.

The Quest for Quality

When we're putting our money into companies, it's like building a big, strong building. We want the best companies to be the strong beams that hold everything up. Think of a watchlist as your tool belt. It's where you keep a list of the best companies you're watching. You don't just throw your money in right away. You watch, learn, and wait for the perfect time when the price is just right. Really good companies usually cost more because they're that good. But if you're patient and smart, you can grab them when they're worth it, even if they usually have a big price tag.

Starting with Numbers

Think of numbers as the quick health check for a company. Like a doctor uses a stethoscope, we use a special tool to listen to the heartbeat of businesses. We want to make sure they're healthy, strong, and ready for a long run. So, we look at things like EBIT to Interest Expense, that's like checking if a company can breathe easy with the debt it has. We peek at their Free Cash Flow compared to Operating Cash Flow to make sure they've got cash in their pockets to create new things and keep the lights on. We check how much money they keep after paying costs (that's the gross margin) and how much money they make after all the bills are paid (the operating margin). We also want to know if they're growing, so we look at how much their earnings per share (that's like their financial scorecard) and their total sales are going up every year.

Understanding More Than Just Numbers

Now, let's talk about getting to know a company like you're meeting a new friend. It's not just about how much money they have in the bank. It's about their story. What's their plan? How do they stay ahead in the race? Are they leaders in their playground? We look at giants like Microsoft, Apple, and Alphabet, not just because they've got a good financial report card. They're looking ahead, making big moves, and changing the game. They have something special maybe it's a super-smart way of doing things or something no one else can make or do. And they've got bosses who know how to steer the ship through stormy seas and keep their crews happy and hardworking. It's about seeing the whole picture - the numbers, sure, but also what makes them tick, what their dreams are, and how they're working to make those dreams real.

Example of a simple and effective stock screener

Why No Banks?

You might wonder why we don't talk much about banks or some really tricky businesses. It's because they're incredibly complicated and need people who really get that stuff. Banks have all these crazy rules and products that can make your head spin. We want to keep it clear and confident for our smart investor friends. So, we leave out the stuff that's too hard to figure out, just like Warren Buffet.

The Premium Price of Excellence

Great companies are like the best seats at a show, they cost more. Their prices reflect how well they're doing and what they could do in the future. But sometimes, even the best companies can get too pricey. That's why I try to figure out what a company's really worth. Knowing this helps us not overpay, even for the stars of the stock market. The stocks can sit on my watchlist for months or even years.

The Value of Waiting

Being patient with your money is a smart move. We make a list of great companies and wait for the perfect time to buy them. Good companies can have ups and downs just like anything else. When the market gets moody, it might mean we can buy at a good price. We're in it for the long haul, looking for the right moment without giving up on quality.

A Guide for Modern Investors

So, we've come to the end of our little post about screening. All the smart stuff you've learned is like your own artwork. Now it's your turn to talk. Use our new comment area to tell us what you think about this article and how it looks. We really want to hear from you. Your ideas help all of us get better at this. Let us know what you think about the depth of this article and the new design. Whether you've been doing this for ages or just started, your thoughts are a big deal. So, dive in, ask questions, and let's all help each other out. The best thing we can do is learn from one another.

Happy investing!
Josh

P.S. I want to give a special shoutout to the newsletters I currently enjoy reading:

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The information is provided for educational purposes only and does not constitute financial advice or recommendation and should not be considered as such. Do your own research.

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