Everyone loves the idea of earning large amounts of wealth in the least amount of time and with minimal effort. Some wise men might tell you that such a thing is simply not viable and that there are no shortcuts in life. However, the stock market will tell you otherwise. The stock market is a great way to supplement income and sometimes even earn a lot in the least amount of time with the help of multibaggers.
What is a multibagger?
A multibagger is a stock that gives returns that are several times over the original value for which it was purchased. These are undervalued stocks which have a lot of potential to rise in value in the near future. But the question arises of how one could identify such a stock? The key is to take a deep look into a company’s financial statements and analyse their fundamentals, their product and the potential that it holds, the kind of management and other such factors. It is important to look at company oriented, industry specific and economy wide factors.
A great instance of a person earning great returns through a multibagger is Ramesh Damani, a legendary Dalal Street stock market investor. He had purchased stocks of United Spirits at Rs. 40 in 2003-04 and the stock rose to Rs. 1400 in 2008. This was when he sold them and gained multi-bagging returns of about 2900% in four short years. Mr. Damani observed an increasing trend of consumer demand post the technology boom coupled with the increase in party culture amongst the youth, he decided to invest in a spirits company. He believed that the demand for this would surge since he believed that the liquor industry was recession proof. After studying a number of companies in this industry, he went with United Spirits due to its strong financial health.
Along with a detailed study on the general trends in the economy and the industry, it is crucial to The important factors that one should look for while looking for a small cap multibagger stock are –
- Type of Industry
While selecting an industry to invest in, it is crucial to study the general trends and growth prospects of the industry. An industry which has forward linkages to other rapidly growing industries has a very high potential for growth. For instance, the chemicals industry provides base materials to both pharmaceuticals and electric vehicles (lithium batteries) industries, both of which are rapidly growing and hence, have a great potential for growth.
- Financial Health
It is very important to look at a company’s fundamentals such as current ratio, amount of debt that they hold, revenues, profit, earnings per share and more. It is important that the debt of a company does not constitute more than 30% of its total equity. It should have a healthy leverage ratio (0.5 or less is considered to be ideal). It must showcase high and sustainable levels of profits and margins. A company which does not exhibit good financial health at the initial stages will not exhibit a sustainable growth pattern in the future.
- Competitiveness
This is the most important indicator to be kept in mind while finalizing firms to invest in. The chosen firm must have a product that is truly unique in one or the other aspect and have an edge over its substitutes. Companies with a great research and development unit have better products in terms of quality and lower costs of production. It is also beneficial if the country is in such an industry wherein the ease of entry of new firms is very low due to high barriers to entry. This prevents destructive price wars and increases profits.
- Management
It is crucial that a company’s management is efficient, disciplined and have the ability to steer the company in the proper direction so as to ensure maximum growth. It is also important that a retail investor’s goals and the management’s goals align with respect to the company. Additionally, one should ensure that the company does not indulge in illegal activities such as diverting the funds invested in the company into other projects and such. Complete transparency in transactions and deals is ideal.
- Future Growth Prospects
A company with plenty of potential and space for growth has the highest chance to become a multibagger. The company must be able to increase the scale of production with ease when necessary and invest in growth-fuelling projects which keep up with current economic trends.
Overall, it is crucial to study the overall trends in the economy, industry and company wise to be able to pinpoint the most profitable stocks. It is advisable to identify a few stocks whose companies fulfil the above characteristics and invest in the most promising ones instead of stacking all your bets in favour of one particular firm. Most of all, it is pertinent to remain patient since it takes some time for these multibaggers to reach their peak.
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