How to Find The Next 100 Bagger

What is a 100 bagger stock?

 These are the stocks that return Rs 100 for every Re 1 invested. It means your Rs 10,000 investment turns into Rs 1,000,000. Sounds interesting right? The real question is how can one identify the next 100 bagger. Luckily, Chris Mayer (CIO of Woodlock House Family Capital) conducted a research of 100 baggers between 1962 and 2014 and the result of his analysis is available in his book “100 bagger: Stocks that Return 100-to-1 and How to find them.”

Without further ado, here is a summary of how to find next 100 bagger

1)Growth, Growth and more Growth

Almost all 100 bagger in the history were substantially bigger at the end than they began. So, look for companies with growth and lots of growth potential. But be careful and looks for companies with ‘good growth.’ There is no use of investing in a company which has doubled its sales but also doubled its outstanding shares. Likewise, if a company generates lots of sales by cutting prices and driving down its return on equity, it may not be worth to invest in such companies. So, focus on growth in sales as well as earnings per shares. If you can find a company with both – sales and earnings growth then it will be amazing. But, in history there are examples of companies with high sales growth but low growth in earnings (Amazon and Comcast are example of this).

2) Lower multiples are preferred

Don’t prove yourself stupid by paying expensive prices. Let’s assume that you invest in a company that is trading at 50 times its earnings. In other words, you are paying Rs 50 for every Rs 1 of earnings. For this stock to become a 100-bagger, you need earnings to go up by hundredfold and p/e ratio remains constant at 50. If in-between, p/e ratio falls to 25, then earnings has to rise by 200 folds to give 100 bagger.

However, great businesses are often traded near to their 52-week high and it is rare to get great business at dirty price. If you find some then consider yourself lucky.  

That’s why I said lower multiple are “preferred.” There are instances where a stock trading at high p/e turned out to be 100 baggers. Over long term, it is difficult for a stock to give better results than its underline business earns irrespective of the fact that whether the stock was bought at discount or premium.

 

3)Twin Engine of 100 Bagger #1 and #2 together

When you find a company with lots of growth and low multiple you get the twin engine for 100 baggers. With both these factors working in your favor, you can get some great lift. Consider the example of Avanti Feeds. In 2009, it was trading at a multiple of -3.6. In last 11 years, earnings multiple went from -3.6 to 18.6 and earnings per share rose by 44 times during this period. As a result of twin engine, Avanti Feeds has been 250 bagger in last 11 years.

 

4)Economic Moat is necessary

A 100 bagger requires high return on capital for a long period of time. Economic moat gives pricing power to the company which helps them to earn high return on capital for a long period of time. Economic moat can be generated through cost advantage, network effect and intangible assets. High return on capital will be of no use if the company do not have ability to reinvest profits in business at high rate. Assume that a company earns 15% return on capital, then in 5 years its book value will double and in 33 years it will be 100 folds. On other hand, if the company pays one third of its earning as dividend then only be 23 folds in 33 years instead of 100 folds. So, look for high return on capital along with ability to reinvest and produce high returns for years and years and for this economic moat is a must. To know more about economic moat and factors that help to develop economic moat Click Here.

5)Smaller companies are preferable

Growth rate of a sapling is much higher than a gigantic tree. Similarly, growth rate of a small company is higher than large company. Tata Consultancy Service (TCS) is currently trading a market capitalization of approximately 11.42 lakh crore. If TCS to turn into 100 bagger from current level, its market capitalization will be 1142 lakh crore which is much, much higher than the size of Indian Economy which seems impossible. On the other hand, this does not mean that you should invest in 10 and 20 paise stocks. By small, I mean companies with small market capitalization and not low price. As a general rule, focus on companies which comes under small cap category or companies which have just entered mid cap category.

6)Owner-Operated Stocks preferred

Many of the great business in last 50 years had a visionary and talented owner behind them: Mukesh Ambani at Reliance, Ratan Tata at Tata groups, Narayana Murthy at Infosys, Jeff Bezos at Amazon, Steve Jobs at Apple, Warren Buffet at Berkshire Hathaway, Sam Walton at Walmart and many more. This can a fairly long list. Owner operated stocks usually perform better as owners enjoy greater degree of freedom and since their personal capital is being at risk, they will take decisions which will enhance long term business value.

 

7)You need time: Use Coffee-Can Approach

Once you find a potential stock that can turn into 100 bagger in future, you need to give some time to the stock to grow. On an average it takes 26 years to achieve a 100 bagger. Knowing this fact, we need to defeat our worst instincts i.e impatience. To defeat this, we can use coffee can approach.  Coffee Can approach refers to “buy and forget” approach to investing in stocks. This approach focuses on identifying the right stock and investing in it for at least 10 years. Coffee can approach says that by using this approach you can perform better than actively managing your stocks. At the end of 10 years, you can track the performance of your stocks and take decision regarding further investment.

 

8)You should be a reluctant seller

When should you sell a stock? When the stock becomes 100 bagger or when stocks falls by 20%?

If you had sold Avanti Feeds when it became 100 bagger then you would have missed another 150 bagger. The correct answer is NEVER. You should never sell a stock.  One should never sell a stock for non-investment reason such as stock price is too high, or stock price is not moving much. One should sell the only when they commit that they have made a mistake. Mistake here refers to inability to pick right stock. Suppose you invest in a company looking at its growth history but since last couple of years the company is experiencing degrowth or no growth then you have to accept your inability to pick right stock and exit the stock.

Final Words

An owner-operated small cap company with a great history of sales and earnings growth which is preferably trading at a lower multiple can probably be the next 100 bagger if you hold it for a long period of time. As an investor, look for Companies with above mentioned characteristics and do your exhaustive research before investing in it. Remember this acronym SG-LOLER i.e "Small Cap, Growth, Lower multiple, Owner Operated, Long term, Economic Moat, Relucant Seller."

Happy Investing.

Disclaimer: Companies used as an example in this blog are for educational purposes and not an investing advice.