What makes a stock a 100-bagger? A 6-point guide to spot the treasures

Making money in the market requires taking lessons from history.

The dream of stocks delivering a 100 percent return drives every investor on a hunt for such 100-baggers. But it's not an easy task to spot such treasures. One can expect certain degree of success if some traits of these money-makers are known.

ICICI Securities has analysed all 100-baggers of the last two decades that have gone through multiple market cycles. Traditional manufacturing, commodities (chemicals, cement, etc.), building materials, home appliances, capital goods, engineering, discretionary consumption, staples, pharma and a few service companies like financials and rating agencies form the bulk of the 100-baggers, sporting more than 25 percent compounded annual growth rate in stock price appreciation (ex-dividends) in the last 20 years.

Vinod Karki, Equity Strategist at ICICI Securities, said that he found certain virtues common among them. Let's take a look at the findings of Karki's research.

Focussed business model

Perhaps the most striking feature of the 100-baggers was their focussed business model. None of the stocks had a diversified business approach while there was a sharp focus on core business, said the broker. It also speaks volumes about the quality of the management and the clarity in the objective they brought to the business strategy, it added.

Value creating growth

Another common factor was that their earnings growth and the return on equity (RoE) have been more than the cost of equity. “This is again a virtue of the management quality and indicates prudent capital allocation while the tailwinds of economic cycles propelled earnings growth,” Karki said.

Strong cash flow

A major characteristic has been that the cumulative ‘operating cash flow’ (OCF) of the companies exceeded the cumulative capex over the past two decades, excluding one-off acquisitions. This signals high quality of the business.

Catch them cheap

It is pertinent to start with a cheap valuation if you want a big-bang return, proving the Gujarati adage Bhav Bhagwan Che (Price is God) true. Median-trailing price-to-earnings of the stocks was around 11 times at the beginning of the 20-year period, while it now stands at 55 times. In the same period, median earnings CAGR for the 100-baggers was 19 percent while the price CAGR was 28 percent.

Substance, not narrative

While today we have the new-age stocks like Zomato and Paytm, at the start of the new millenium, we had new age sectors such as telecom, media and technology (TMT), comprising stocks with high growth expectations. But not a single one from them made it to the 100-baggers list. It only shows that often high growth stories do not materialise.

Avoiding debt

ICICI Securities said what these 100-baggers did was to avoid high financial leverage. They also worked hard to trim debts over time. Moreover, most of them come from unregulated sectors.