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  • Writer's pictureRyan

Mark Leonard Letters

If you haven't heard of Mark Leonard, allow me to introduce him.

There he is. A beard as long as his experience in VMS (vertical market software). Ok, that's a terrible simile. Forgive me.

Moving on, it's an understatement to say that he is a BRILLIANT capital allocator. Since acquiring its first software business in 1995, Constellation Software's revenues have compounded at roughly 30% for the last 25 years. And nearly all of that growth is from acquisitions.

The company's strategy is simple. Acquire small vertical software businesses with little competition, apply best practices from past experience and repeat as often as possible.

Some examples of past acquisitions include the software that golf courses use to schedule tee times, software for home builders and window salespeople, and many more niche markets that use software to run their business. These small software businesses aren't necessarily growing quickly but they spit off cash since they require very little incremental capital and average annual churn rates are only about 4%.

After two and a half decades of hundreds and hundreds of acquisitions, Constellation has a huge amount of pattern recognition and a very experienced, decentralized culture. Birthed by Mark Leonard, the company has a huge focus on all the right things. Intentional incentive structures, decentralization to give manager's ownership, focus on ROIC along with growth, etc. For example, managers are strongly encouraged to buy Constellation stock with 75% of their bonuses.

In 1995, Constellation was doing $7 million in revenue. Now that number is closer to $3.5 billion. The stock has compounded at a similar rate since its 2006 IPO, at around 30%. Very few companies on the planet have compounded at such a high rate for such a long time.

Ok, I think you get the idea. Mark Leonard is a genius. Fortunately for us, he wrote annual shareholder letters up until 2017. This post is a collection of the best sections from every letter Mark Leonard wrote to shareholders. I will provide a little commentary under each quote.

Let's dive in...

Q4 2007

Our favourite single metric for measuring our corporate performance is the sum of ROIC and Organic Net Revenue Growth (“ROIC+OGr”). For Q4, ROIC+OGr was 25%

Leonard uses a lot of metrics to give shareholders insight into the business but this one is his favorite for measuring intrinsic value. The organic growth piece is easier to understand. It's the growth from the actual underlying VMS businesses. The ROIC is the combination of adjusted net income (the adjusted part excludes goodwill amortization because he argues that these businesses are actually getting more valuable over time and not less. In some instances, the acquired businesses have EBITA's multiple times greater than Constellation's purchase price. The denominator for ROIC is basically shareholder's equity since the company sparingly uses debt and most of the cash is plowed straight into acquisitions.

So you can sort of think of it like the cash on cash returns from acquisitions but then add on organic growth from the underlying businesses. See, right off the bat, Mark Leonard is speaking an investor's language.

Q1 2008

It is trivial for an experienced GM to run a software company to generate high profitability and shrinking revenues. Far more challenging, is generating reasonable short term profits while continuing to grow revenues, in an industry where investment cycles often exceed 10 years. Understanding a GM’s performance as they make these long term trade-offs is the most difficult part of a perpetual owner’s job.

This is an interesting point because it gets at the trade-off between growth and profitability. Growth without sufficient ROIC is value-destroying but without any growth, it's tough to grow intrinsic value. This is where Constellation's strategy is great. When growth isn't very good, they can just be more acquisitive. This can work for a serial acquirer, but that's not what you want for a single company. Empire-building without any regard for IRR is also value-destroying.

Q2 2008

Rapid acquired growth is not an imperative, it is a choice. For most of the last decade we struggled to find enough attractive acquisitions to consume our operating cash flows. We believe that the situation has now reversed, and we are sorely tempted to buy as many attractive vertical market software businesses as and while we can.

Notice the time period. Constellation did a ton of acquisitions during the financial crisis. That's when the best allocators make their mark; in the tough times.

Q3 2008

I am leery about using short term financing for acquisitions, so we are exploring financing options: Either we slow down the pace of acquisitions and live within our cash flow from operations, or we raise long term financing, whether that be equity or debt flavoured. The capital markets are volatile right now, so I wouldn’t hazard a bet as to whether we will find the right investors. If we do, you can expect our acquisition pace in 2009 to continue… if not, it will slow. Irrespective of our acquisition prospects, I continue to be optimistic that our long term performance will be attractive.

Leonard is doubling down when everyone else is falling apart.

Q4 2008

The facile answer is that we have robust businesses with inherently attractive economics run by good managers whose compensation is tightly aligned with that of shareholders.

A pretty great formula for success.

Q1 2009

The toughest challenge in the software business is intelligently trading off profitability and organic growth. Many entrepreneurs have a huge bias towards growth at the expense of profits. Most private equity owned software firms have the opposite bias. At Constellation we try to find an optimum position where incremental investment still generates good incremental long term returns.

Constellation seeks the mid-point between entrepreneurs and private equity in terms of the growth vs. profits continuum.


* from now on, the letters move to annual instead of quarterly

For an annual cost that rarely exceeds 1% of a customers’ revenues, our products help them run their businesses efficiently, adopt their industry’s best practices, and adapt to changing times

This is one reason churn can be so low for software businesses. The customer value prop is extremely high.


I used to maintain that if we concentrated on fundamentals, then our stock price would take care of itself. The events of the last year have forced me to re-think that contention. I'm coming around to the belief that if our stock price strays too far (either high or low) from intrinsic value, then the business may suffer: Too low, and we may end up with the barbarians at the gate; too high, and we may lose previously loyal shareholders and shareholder-employees to more attractive opportunities.

What kind of CEO doesn't want their stock price as high as possible?! 😁

I love this thoughtful explanation of why it's important for stock price to follow the growth in intrinsic value.


If you believe that intrinsic value is closely correlated with Maintenance Revenue and factor in our unchanging share count, but adjust for CSI’s increasingly leveraged balance sheet, then arguably CSI’s value per share incremented somewhere in the high teens percent range last year. That seems an attractive increase in intrinsic value for a relatively high dividend yielding stock. Unfortunately, our stock price has increased at over twice that rate during the last year, a differential that would seem difficult to be sustain in future years.

"Unfortunately, our stock price has increased at over twice that rate during the last year..."

Wow, I don't think I've seen that anywhere (maybe besides Buffett).


The $32 million increase in CSI’s ANI in 2012 translates to roughly a buck and a half a share. Concurrent with that increase in ANI, CSI's stock price increased something like $40/share, (depending on the exact beginning and end points that you choose). My back of the envelope math says shareholders accorded us a better than a 25 times multiple on the 2012 incremental earnings. Those sorts of market multiples create a growth imperative… you have to either rapidly grow into your multiple or disappoint your shareholders, analysts and board. So ultimately, it seems to me that it is our stock price that has catalysed the spate of questions about our "ability to scale", rather than our practices and performance. Irrespective of the questions' genesis, some context for what we do to generate growth seems appropriate.

Ok, last one on the stock price.


If managers have the discipline to monitor the IRR’s on their investments in organic revenue growth, then they’ve taken a critical step towards understanding the most powerful lever in software. Some of our managers are there. I suspect others are using crude heuristics like “make 20% EBITA, and you can invest the rest”. I dislike the latter approach, but many managers change their hard-won beliefs at glacial speed.

Focus on the IRR, not the margins. Margins are an output, not an input.


I've been the President of CSI for its first 20 years. I have waived all compensation because I don't want to work as hard in the future as I did during the last 20 years. Cutting my compensation will allow me to lead a more balanced life, with a less oppressive sense of personal obligation. I'm paying my own expenses for a different reason. I've traditionally travelled on economy tickets and stayed at modest hotels because I wasn't happy freeloading on the CSI shareholders and I wanted to set a good example for the thousands of CSI employees who travel every month. I'm getting older and wealthier and find that I'm willing to trade more of my own cash for comfort, convenience, and speed … so I’m afraid you’ll mostly see me in the front of the plane from here on out.

Leading by example.

I find that some of our shareholders confuse CSI’s strategy with that of our business units. While there are terrific moats around our individual business units, the barrier to starting a “conglomerate of vertical market software businesses” is pretty much a cheque book and a telephone. Nevertheless, CSI does have a compelling asset that is difficult to both replicate and maintain: We have 199 separately tracked business units and an open, collegial, and analytical culture. This provides us with a large group of businesses on which to test hypotheses, a ready source of ideas to test, and a receptive audience who can benefit from their application. More quickly and cheaply than any company that I know, we can figure out if a new business process works.

Constellation's moat.


Each quarter we try to study an admirable company and discuss it with our Operating Group managers and board members. We focus on high performance conglomerates that have demonstrated at least a decade of superior shareholder returns. We started by studying those that have generated superior returns for multiple decades. That narrowed the field a lot, so we are beginning to let some single decade performers slip into the candidate pool.

Two that Leonard talks about are Jack Henry and Illinois Tool Works. It seems like he is constantly learning. At this point, he grew cash flows over 30% annually for two decades and he is still learning from other companies!!


A huge body of academic research confirms that complexity and co-ordination effort increase at a much faster rate than headcount in a growing organisation

Complexity grows as the organization does.

I have a bias towards developing our Portfolio Managers internally or having them join us via an acquisition. Our best managers have risen through the ranks and developed a following

Prefers internal promotions.


I have difficulty forecasting long-term growth in Constellation’s intrinsic value per share that exceeds 12% per annum.

Leonard is constantly understating the potential of his company. He doesn't talk a big game. He would rather say why he's pessimistic Constellation will continue its torrid pace and then outperform than the opposite.

I find there is no magic to managing and leading. If you are smart, work harder than everyone else around you, treat people fairly, do not ask them to do anything you would not or have not done, share the credit, keep learning and keep teaching, then pretty soon you have followers.

Great advice.


Mark Leonard has a wealth of knowledge and I highly recommend reading his shareholder letters. Some of my takeaways include his focus on ROIC and organic growth, the benefits of a decentralized culture, the importance of incentives and rationality.


Thanks for reading, feel free to check out more of the free resources Investing City has to offer.

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Love this. Thanks for sharing!


Sep 15, 2020

Thanks so much Mike! Those are some awesome companies, thank you for sharing. I haven’t heard of Enghouse or Kinaxis. Canada has produced some amazing investors and companies.


Thanks for sharing Ryan! I'm from Canada and was investing solely in the TSX for the last 10ish years up until March of 2020. CSU had always been a major holding for me as I believed Mark Leonard to be one of the best capital allocators in the world. Also CSU is a very shareholder friendly company. It was actually my favourite TSX company due to their roll up strategy, perfected execution and the fact that they never dilute existing shareholder value. For those interested, some of the other Canadian companies that I held that have performed extremely well have been Enghouse Systems (ENGH), Descartes Systems (DSG), Kinaxis (KXS) and Boyd Group (BYD) - and of course, Shopify (SHOP). Note…

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