Looking for Consistent Compounding Stocks? Here's a Watchlist for You

Warren Buffett has time and again talked about the power of compounding. After all, it's what has made him perhaps the most successful investor of all time.

But does this mean that you can invest in any stock and hope that the returns compound over time?

Unfortunately, no.

For the power of compounding to do its work, you must invest in consistent compounders.

What are consistent compounders?

Simply put, these are companies that have shown a consistent increase in revenue and profitability over a long period.

They come with clean accounts, prudent capital allocation, and strong competitive advantages, making them the perfect low-risk route to generating long term wealth.

The stock price of such companies compounds over time as the market rewards them for their consistent performance.

So, which companies have been consistent compounders over the last couple of years?

Here are four.

#1 Bajaj Finance

The first consistent compounder on our list is Bajaj Finance.

The company is one of the largest non-banking finance companies (NBFC) in India with approx. Rs 1.7 tn of assets under management (AUM). It's the financial services arm of the Bajaj group and a subsidiary of Bajaj Finserv.

Bajaj Finance (BFL) started its journey in the year 1987 as a vehicle financing company but later diversified into other segments.

It operates in the housing finance segment through its subsidiary Bajaj Housing Finance and in the depositary business through Bajaj Finance Securities.

It also derives synergies from being a captive financier for Bajaj Auto. Bajaj Finance financed around 36% of Bajaj Auto's sales volume in the financial year 2021, up from 20% in the financial year 2020.

The company has emerged as one of the largest retail asset financing NBFCs in India in the last decade on the back of its two-pronged strategy of building scale and maximising profit.

Segments such as mortgages, small business loans, and commercial lending are focused on building scale, while consumer durable loans, personal loans, and two and three-wheeler financing are focused on maximising profit.

As a result, the company has seen strong revenue growth of 29.6% over the past five years. Its profits have also grown at a CAGR of 28.2%.

Going forward, the launch of digital platforms, which is aimed at a seamless customer shopping experience, is expected to yield significant benefits.

This will be done through a business transformation initiative in which the company will transition into a new app ecosystem of five apps.

The company has also increased efforts to diversify earnings by focusing on various fee-based income avenues, such as existing member identification cards, co-branded credit cards and third-party product distribution.

In its latest quarterly results, Bajaj Finance reported a 53.5% YoY increase in net profit on the back of higher net interest income. Net interest income during the quarter rose 28% YoY to 53.5 bn.

To know more, check out the latest financial factsheet of Bajaj Finance.

#2 Grasim Industries

The next consistent compounder on our list is Grasim Industries (GIL).

Grasim Industries is the flagship company of the global conglomerate Aditya Birla group. The company has various businesses ranging from chemicals and textiles to cement.

In 1947, the company started as a textile manufacturer in India. However, since then it has evolved into a leading diversified player with a leading presence across many sectors.

It's the largest producer of viscose rayon fibre in the world and one of the largest Chlor-alkali, linen and insulator players in India.

Apart from this, through its subsidiaries, UltraTech Cement and Aditya Birla Capital, it's also India's largest cement producer and a leading financial services player.

As a result of its operating efficiencies over the years, the company has a strong balance sheet despite investments in subsidiaries/related parties and ongoing capex.

Its revenue has grown at a CAGR of 20.3% in the last five years while net profit has grown at a CAGR of 15.8%.

The company was a leading agri-solutions provider to the agro-industry in India but has recently decided to divest its interest in its fertilisers business.

It has announced it will enter the paint industry and plans to spend about Rs 50 bn over the next three years towards this.

Grasim has also earmarked over Rs 26 bn as capital expenditure (capex) for the financial year 2022 towards its Viscose Staple Fibre (VSF) business.

This expansion will increase Grasim's VSF capacity by about 40%, which will cater to the growing demand for sustainable man-made cellulosic fibres in the country.

In the long term, the company plans to enhance its value-added products portfolio to create a meaningful speciality chemicals segment. The aim is to increase the share to 40% for both VSF and chlorine value-added products by 2025.

In its latest quarterly results, Grasim Industries reported a 67% YoY increase in revenue at Rs 49.3 bn. Net profit jumped 180% YoY to Rs 9.8 bn on the back of strong operating performance.

#3 Avenue Supermarts

The third consistent compounder on our list is Avenue Supermarts (ASL).

The company is in the business of organised retail and operates supermarkets under the brand name D-Mart. It was incorporated in 2000 and is promoted by Mr Radhakishan Damani, an equity market investor.

It has a strong market position in the domestic organised F&G (food and grocery) retail market via its subsidiaries - Align Retail Trade (ARTPL) and Avenue Food Plaza (AFPL).

ARTPL procures grocery items from local agricultural produce market committees and supplies them to ASL while AFPL runs fast-food counters outside DMart stores.

The company also has a wholly-owned subsidiary dedicated to its e-commerce business called Avenue E-Commerce (AEL).

The company's market position over the years has been reinforced by its steady same-store growth, retail productivity, and short gestation for new stores.

Strong procurement abilities, low-priced products along with high-cost control has led to greater while high inventory turnover and revenue per square foot (sq. ft) has translated into industry-leading retail store productivity.

As a result, in the last five years, the company's sales have grown at a CAGR of 22.4% while net profit has grown at a CAGR of 28%.

Going forward, its strong merchandising and value proposition and benefits of economies of scale are expected to strengthen its market share over the medium term.

The company has recently announced an expansion plan that will entail a sizeable increase of about 20% per annum in existing retail space, to over 10 m sq. ft by 2023. The company will continue its cluster-based approach by investing in regions they already understand.

For the September 2021 quarter, Avenue Supermarts reported a 46.8% YoY increase in revenue. The company's net profit also more than doubled during the quarter.

#4 HDFC Bank

The last consistent compounder on the list is HDFC Bank.

The bank is India's largest private sector bank by assets and by market capitalisation. It has an approx. 10% market share of the total banking industry.

The bank is present in the broking business via HDFC Securities, which also operates as a third-party distributor of mutual fund products, insurance, initial public offering, fixed deposits, bonds and non-convertible debentures.

Further, HDB Financial Services, a non-deposit-taking non-banking financial company provides products such as loans against property, commercial vehicle and construction equipment loans, and small and medium-sized enterprises financing.

When it comes to servicing retail customers, the bank relies on the model of a wide franchise and low-cost deposit base. This ensures good pricing power and sustainability of above-average NIMs (net interest margins).

That sourcing home loans for parent HDFC is a huge advantage for the bank cannot be undermined. But even otherwise being extremely conservative with margins and provisioning policies has been very rewarding.

As a result, in the last five years, the bank's net profit has grown at a CAGR of 20%. Revenue growth has also been steady at a CAGR of 15.3%.

HDFC Bank also holds the distinction of reporting more than 20% YoY profit growth every quarter for over 40 quarters. All this while, its net NPAs have never crossed 0.5% of loans!

Even in the year 2020, where the entire banking industry was hit due to the pandemic, HDFC Bank reached out to large corporates for their funding requirements, which it could do because of its strong balance sheet.

Going forward, an improvement in asset mix, robust CASA growth, and strong resumption in credit card issuances are expected to aid margins. The bank is also likely to maintain its relatively high profitability, given its better interest spreads and healthy fee income.

In its latest quarterly results, HDFC Bank reported a 14.7% YoY increase in revenue on the back of an increase in net interest income. Net profit also rose by 17.1% YoY.

Snapshot of consistent compounder stocks from Equitymaster's stock screener

Here's a quick view at the above-mentioned companies based on some crucial financial parameters.

Please note that these parameters can be changed according to your selection criteria.

Why you should invest in consistent compounder stocks

With the spectacular bull run we have witnessed in the last couple of months, investors may be tempted to buy stocks for short term gains.

However, it makes more sense as well as pays to buy quality businesses (consistent compounders) and hold them for a long period.

With market volatility at all-time highs, investing in consistent compounders will ensure stable returns in the short term and market-beating returns in the long term.

Investing in such companies also takes away the stress of timing the market. As long as you are patient and are willing to let compound interest do its work, you will be able to create immense wealth.

Note that while we have talked about wealth creators of the past, the real talent is in finding the big wealth creators of the future.

If you are interested in investing in such stocks, you can sign up for Co-Head of Research at Equitymaster, Tanushree Banerjee's recommendation service - Forever Stocks.

The service will provide you with a curation of around 20 stocks that can be bought and held for a very long period of time up to several years or decades.

Disclaimer: This article is for information purposes only. It is not a stock recommendation and should not be treated as such. Learn more about our recommendation services here...