»Profit Hunter by Equitymaster

On This Day - 7 SEPTEMBER 2020
I Recommended this Stock over Page Industries because it's Relevant to Doubling Your Income

Rahul Shah, Editor, Profit Hunter

It's said that investing is simple but not easy.

Why?

Well it's because of a big gap between perception and reality in the market.

It's counterintuitive but things are not often what they seem to be.

In many ways, what you 'think' works in investing and what 'actually' works are almost 180-degrees apart.

Take the case of fundamentally strong companies with good growth prospects.

A lot of people think investing is all about investing in such companies and then just sitting back and enjoying the show.

Well, I'm sorry to be the bearer of bad news but this method is too simple and too obvious.

And in the stock market, this approach has failed much more than it has succeeded.

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A small example will help make it clear.

Take a look at this table...

A Tale of Two Good Quality Stocks

 Company ACompany B
EPS  
FY1459.1127.7
FY1551.2161.8
FY1683.7191.1
FY1789.2224.1
FY1876.0311.1
FY1960.4353.2
FY2057.3307.7
   
Avg D/E*0.00.1
   
Max. ROE*31.3%50.8%
Min. ROE*15.3%18.6%
Average ROE*22.9%39.9%
*Over the last five year period
Data Source: screener.in

From the table, it is clear that Company B has a definite edge over Company A.

Not only has its EPS grown at a good pace between FY14 and FY20, it enjoys better return ratios as well.

However, this does not mean that company A is a complete no-no.

While it cannot be counted upon to grow as fast as Company B, it does have a definite earnings power and its returns ratios aren't bad either.

If the past of both these companies is a good guide for the future, investors would be willing to pay a significant premium for Company B over Company A.

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However, how much should this premium be? Should company B's price to earnings (PE) multiple be twice as high as Company A or should it be 3x higher?

Well, I have no clear answer to that...but what I do know something for sure.

Under no circumstances, I would be willing to pay a PE multiple for Company B that is almost 8x that of Company A.

If you think this is impossible, well, this was exactly the situation back in April 2020.

Company B is a market darling and goes by the name of Page Industries. It was trading at a PE of almost 48x.

Company A is eClerx Ltd and one of India's leading process management and data analytics companies. It was available at a PE of a mere 6.3x.


It was evident that Mr Market was being too pessimistic about eClerx's prospects and too optimistic about Page Industries' future.

And herein lies the counter intuitive principle I was talking about earlier.

You are not going to get good results from investing by doing the simple, obvious thing of picking companies like Page Industries.

The approach that works well is one which gives a clear signal that a particular stock is undervalued or more attractive than another based on historical financials.

And this was certainly the case with eClerx.

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It was clear as daylight that the latter did not deserve to be 8x as valuable as the former.

This is why I promptly recommended my Double Income subscribers buy eClerx and take advantage of its undervaluation.

It has turned out to be a great decision.

The stock is up more than 100% in less than 6 months! In fact, it's our first Double Income stock to achieve this feat.

What is Double Income is all about?

It's project that's close to my heart. By using such counterintuitive yet solid principles, I have set an ambitious goal for my readers.

The goal of achieving the exact same monthly income an investor is earning from his regular job as fast as possible.

So, if someone is earning Rs 50,000 per month, the goal is to earn another 50,000 in a few years time and sustain it.

If someone is earning Rs 100,000 per month, the goal is to earn another Rs 100,000 per month as quickly as possible.

Of course, this is not some get rich quick scheme that can double your income within months.

This is based on a proven, long-term stock picking principles, exactly like the one I used to zero in on eClerx.

I call my strategy, Automatic Income.

If you want to know more about this exciting strategy, I'll tell you all about it in a series of four videos... starting tomorrow.

To receive these videos for free, please register here.

Stay tuned...

Good Investing,

Rahul Shah
Rahul Shah
Editor, Profit Hunter
Equitymaster Agora Research Private Limited (Research Analyst)

PS: Get the details of my Automatic Income strategy by clicking here.

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