Remember That Infinite Return Business? This One Could Be Even Better! - The 5 Minute WrapUp by Equitymaster
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Remember That Infinite Return Business? This One Could Be Even Better!

Dec 7, 2018

Sarvajeet Bodas, Research analyst, The 5 Minute Wrapup

I wrote to you about an infinite return business a few weeks back.

  • 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.

We recommended that company's stock to our Smart Money Secrets subscribers.

As we always say, we like to find businesses with little or no competition.

Absent intense competition, companies can generate robust profits, above average return on assets, and strong cash flows.

Lower Competition = Higher Profits

However, it is not easy to find companies with these characteristics because high profitability always attracts new players.

Thus, the best possible way to find such companies is to look for some barriers to entry in the industry itself.

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The best example is a monopoly.

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

The next best example would be a duopoly - like our last recommendation.

But there is a third category as well - The Oligopoly.

An Oligopoly is a market with limited number of companies, usually 3 or 4.

Thus, in such a market, the competition is limited.

If You Can't Find Monopoly or Duopoly - Find an Oligopoly

Just like monopolies and duopolies, oligopolies are also very difficult to find.

Tanushree Banerjee, co-head of research at Equitymaster and editor of StockSelect, was bang on in October 2018, when she recommended one such company to her subscribers.

The company in question is a market leader in a regulated industry which has just three major players.

Its industry operates under licences issued by the regulator. This acts as a major entry barrier for new players.

Tanushree is very bullish on the prospects of the company.

Not only has it maintained its leadership position in its core business but has also diversified into other areas of growth... and has done it profitability.

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It is also debt-free.

Tanushree's investing approach is all about finding safe stocks. This stock passes all Tanushree's strict safety checks.

To top it all, the company is run by a professional management with foreign parentage.

But I saved the best news for the end - the stock is trading at a 30% discount from its peak.

Tanushree believes this is the best time to buy this stock before it runs up.

Chart of the Day

Talking about Oligopolies, I believe the strength of the business should be reflected in the financials.

Companies in an oligopoly should not indulge in a pricing war like in the case of telecom industry (few players but intense competition).

The market should allow companies to command above average margins and return ratios.

Tanushree's latest recommendation certainly has the financial strength to qualify in this regard.

And since the industry is regulated, the competition among the companies is not intense.

Players in an Oligopoly Should Have Financials Like This

The company, in last fifteen years, has earned an average return on capital employed of 51%.

That's incredible!

It has also maintained a robust dividend pay-out.

With minimum capital requirement, this company has, what I call, a very strong asset light business model.

With the recent correction, this makes for an excellent safe stock recommendation.

Sarvajeet Bodas
Sarvajeet Bodas
Research Analyst, Smart Money Secrets

PS: Tanushree Banerjee is Equitymaster's co-head of research and editor of StockSelect. She has a long and illustrious track record of picking safe stocks. For over 16 years, StockSelect subscribers have received safe stock recommendations that delivered double and triple digit gains. You can receive Tanushree's safe stock recommendations by signing up here.

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