My Latest Recommendation: An Infinite Return Business - The 5 Minute WrapUp by Equitymaster
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My Latest Recommendation: An Infinite Return Business

Nov 16, 2018

Sarvajeet Bodas, Research analyst, The 5 Minute Wrapup

We always try to find businesses with little or no competition.

Such companies enjoy robust profits. It also helps them generate above average return on assets and strong cash flows.

In simple words, we call them 'Moat Businesses'.

These businesses are usually insulated from competition in some way.

Lower Competition = Higher Profitability

However, it's very difficult to find such a business because high profitability always attracts competitors.

The best example of a moat business would be a monopoly.

However, absent government support, monopolies are difficult to establish and maintain.

That brings me to the next best scenario - The Duopoly.

Duopolies Can Be Great Businesses to Invest In

Duopolies are industries controlled by just two players. With two dominant players, the threat of new competition is minuscule.

Sometimes, one player tries to undercut another. But if the industry is big enough, both players can grow profitably for a long period.

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When we see such strong monopolies or duopolies, the logical question is - What is protecting them?

There can be many reasons. But the reason why this month's Smart Money Secrets recommendation is protected is one of the best. It's regulated by an industry regulator.

Both players have licenses from the industry regulator and there's almost no chance that any new player will be granted a license.

That's why the Duopoly is very strong.

Even better, the company we are recommending in just a few days, is gaining market share within the duopoly.

It is gaining market share by targeting the lower end of the market. The other player is not focused on that segment.

In more good news, this industry has just one player on a global scale (a monopoly) and only five countries have two players.

A third player has not threatened these strong, well-established companies. So, we are unlikely to see a third player in India as well.

Even if a third license is issued, the pricing is strictly controlled by the regulator. This means the incentives for a new player to enter the market are not great.

At Smart Money Secrets, we want to find not only good business but we also want to see the strength of these businesses reflected in their financials.

And the numbers are totally solid in the case of our upcoming recommendation.

This company has a very good asset working in its favour. It has hardly invested any money in big plants, fancy offices, etc.

The icing on the cake is the company has huge cash on its balance sheet and zero debt.

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If you love crunching numbers as much as I do, here's a very interesting nugget of information.

This company generates an infinite return on its invested capital.

Yes, infinite because the cash on the balance sheet is higher than the company's net-worth!

I call it an infinite return business. I guarantee that you will not find many companies like this one.

It also scores very high on our Smart Money Score. We believe, it is one of the few companies which has a huge run-way for growth in the Indian markets.

We are working on the report right now and will soon share it with our Smart Money Secrets subscribers.

Stay tuned...

If you would like to sign up for Smart Money Secrets, you can do so here.

Chart of the Day

Talking about moat businesses, I believe the moat should be reflected in the financials.

Keeping things simple, a business with competitive advantage, should earn above average margins. It should have an asset and working capital light business model.

The low investment in assets and working capital should be reflected in strong cash flows. The balance sheet should be strong with minimum or no debt.

Growth in profits should surpass the growth in sales.

Today's chart shows the last five-year performance of the company we are about to recommend in Smart Money Secrets in the coming week.

Financials Like These Are Seen Only in Duopoly Markets

A company operating in a duopoly market with limited competition fares very well on key financial metrics.

As we can see in the chart, this company has grown its profits faster than its sales.

It earns margins in north of 50% (a very rare feat to achieve), and pays a dividend that's more than 35% of its profits.

It's asset light with no big capex requirements to grow. In fact, it barely invests any money at all in working capital (see the cash conversion cycle in the chart).

The big question is - are these financials sustainable?

If yes, at what price should you consider buying the stock?

Find out soon...

Regards,
Sarvajeet Bodas
Sarvajeet Bodas
Research Analyst, Smart Money Secrets

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1 Responses to "My Latest Recommendation: An Infinite Return Business"

R Rau

Nov 19, 2018

Looks like CDSL

Like (7)
  
Equitymaster requests your view! Post a comment on "My Latest Recommendation: An Infinite Return Business". Click here!