Docker compose won't find $PWD environment variable

You don't need ${PWD} for this, you can just make the path relative and compose will expand it (one major difference between compose paths and those processed by docker run).

version: '2'
services:
  couchpotato:
    build:
        context: ./couchpotato
        dockerfile: Dockerfile
    ports:
     - 5050:5050
    volumes:
     - "./couchpotato/data:/home/CouchPotato/data/"
     - "./couchpotato/config:/home/CouchPotato/config/"

As for why compose doesn't see this variable, that depends on your shell. Compose looks for an exported environment variable, contents of the .env file, and command line flags to the docker-compose command. If each of those comes up empty for the variable, you'll get that warning.

My advice: change all $PWD to .

$PWD will not work if you are running using sudo. Try the recommended settings from Docker for Linux https://docs.docker.com/engine/install/linux-postinstall/.

Sudo will run as a different user, with a different env.

$ sudo env | grep -i pwd
$ env | grep -i pwd
PWD=/home/user
OLDPWD=/