About: Compass Group is the world’s leading contract catering company. It operates at 55,000 client locations across 50 countries, serving schools, hospitals, oil rigs, corporate offices, to big entertainment venues. Clients include Google, the Cleveland Clinic, Harvard University and the Dodger’s Stadium. Compass’s customer retention rate has been an impressive 95% for many years.

Why it’s in the portfolio: Compass has shown uncommon discipline in recently announcing its exit from the weakest 5% of operations in order to focus on what it does best: ‘We are at our best when we focus on food’. Removing the tail will ease management distraction and provide incremental capital to be invested in areas of strength where Compass can extract the best returns. Management’s clarity of thinking around what kind of acquisitions the business is willing to engage in, and at what price, is noteworthy – small bolt-ons within core sectors with emphasis on achieving returns greater than cost of capital by the end of year two. This is a very high hurdle rate and demonstrates a value-oriented ROIC mindset. The largest deal in early 2018 – for US$280 million – has achieved its return targets ahead of the end of year two objective.

Fundamentals: Unlike peer Sodexo, which runs a multi-service strategy (food catering as well as fitness centres, equipment maintenance, landscaping, security, and a host of other services), Compass is focused on staying true to its core and strengthening its market position by growing organically in doing what it does best. This strategy has led to expanding return on capital, which steadily increased from around 15% a decade ago, to 20% currently. Compass consistently reinvests 50–60% of its internally generated cashflows to deliver stable organic sales growth of 4–5% p.a. and EPS growth of around 10% p.a.

What could go wrong?