ValuePickr Forum

How to find a Compounding Machine

I have been writing this thread after trying out multiple mistake of mine in last one year. Different investment strategies I have tried in this year and to be honest all of them has been a mistake. Last year I have been able to gain 37% CAGR on my portfolio and this year it has struck me with 15% loss . It would have been much more unless I have already booked some losses and some profit this year. Well the loss booking was proven the rightest decision and few profit booking as well but the profit booking in D-Mart haunting me till date.
Well verbose enough let me categorize where I have made the mistake.

  1. Depending too much on the Macro and when things change like LTCG, Import ban etc the macro driven stock gets badly hurt.
  2. Depending on cyclicals like mining stock is my worst mistake this year although I haven’t even invest 2% of my portfolio in this so the loss is minimal in terms of money. In my life I will never try this again.
  3. Due to the rally in Mid & Small Cap segment last year which I was also a beneficiary I was over excited to invest in them instead of going for the market leader.
  4. What I have found that all the cyclicals , small caps , turnaround has fallen apart and only the few compounding machines like Avenue Supermart , Page, Asian Paints, HDFC bank, Gruh , Bajaj Finance, TCS, Titan has kept on going.

So I would like to open this thread on the quest of finding these Compounding Machine. Though each of them belongs to different sector and have distinctly different success stories but few things are common. So let me jot down the common factors :-

1. Consistent Sales Growth and Profit generation:-
This undoubtedly the first and foremost factor of any good business . If in one or two year it has generated exceptional sales growth / profit and in other years it is fluctuating then safely avoid them.
2. High ROE :-
High ROE along with controllable DE ratio [except for the financial sector] is very important along with high ROCE and ROA which will depict the efficiency of the management to run the business.
3. Less Working Capital requirement and high Cash Flow :-
Less Working Capital requirement [relative parameter would be working capital cycle ] is always good since it depict the liquidity of the business along with high operating cash flow. Even if free cash flow is less due to investment activity then it is fine try to discard the cash flow from financing activity.
4. Strong Distribution Network :-
To become the market leader a company has to have established strong, well penetrated , loyal distribution network. Like tie-ups, JVs, distribution strategies like selling incentives, profit sharing etc. Like LT foods have tie-up with big hotels & JV in foreign countries , HDFC Bank on it’s initial days becoming first banker with NSE [making all the broker to open an account with the bank] , Ajanta Pharma is having the highest number of sales force etc.
5. Sustainable Business Model :-
What the company is doing separately than it’s peers in terms of operation why is it so unique ? Like D-Mar owning and long term leasing strategy is giving it way ahead than it’s peers , Bajaj Finance using machine learning to judge customer credit record , HDFC venturing into retail and consumer financing in the day’s of industrial & wholesale financing and depend on CASA ratio highly for source of finance, Asset Light model of TCS.
6. Business Moat of the Company :-
Business Moat I believe is the derivative of above two factors although we can certainly distinguish it other ways like Having a niche business or not e.g. CNS drugs for Sun Pharma, Oncology for Natco Pharma , Operating African region as the source for critical drugs for Caplin , Long term agreement with distributer/customer and JVs with different producer like LT foods , Unique licencing like Page Industry with Jokey , Strong brand and distribution network like Hawkins, Maruti , Nestle [Maggi ], HUL, Titan etc.
7. Trusted Quality Management :-
Management quality is the most important thing in my opinion and generally it has been found that market used to give at least 1.5 times valuation to the management than it’s peers. Like Gruh gets high valuation for HDFC Management , Avenue Supermart always gets high valuation due to Damani.
8. Current and Proposed Market for the product :-
Few things we must calculate after finding all the other above factors i.e what is the current market size and expected growth rate ?, whether it is still under penetrated or not ? If the entry barrier in the Market is very low or high ? etc.
9. Secular Industry and Growth :-
If the industry is secular like Food, Apparel, Medicine, Banking & Finance etc or from some luxurious capital goods ,cars , travel , holiday , amusement, entertainment etc or from some cyclical like metal , mining , agree commodity etc or from some ancillary like auto parts , pharma API, IT etc . One should always go for the secular growth stories and avoid the rest but not always like IT and Auto ancillary industry is a massive wealth builder in Indian context . Also we need to check that if the replacement cycle for those product is short or not since if the replacement cycle is high then the stock will automatically become cyclical.
10. Risk associated with the Industry :-
Risk associated with the industry is prime factor as in the Pharma we have seen risk of ANDA approval, in the banking & finance we have seen NPA, Bad Loans, Credit Risk , Liquidity risk , unseasoned loan book etc. , in the food [like Maggi] we have seen food corporation and authority inspection risk which adhere to quality , in IT currency fluctuation risk so does for any other foreign currency/debt exposer business , commodity price fluctuation risk for food and fmcg etc, consumer demographic & trend changing risk for fmcg .
11. Trade off between valuation and growth :-
In case all the above points are met then it was quite obvious that you can not get tham at cheap valuation so you need to make a certain trade off between how much valuation you should give to them. You not only need to calculate PE,PB, EV/EBITDA or DCF valuation but you need to put proper weightage to the business quality , moat , management , risk , distribution network , brand etc … i.e. all the factor I have discussed . I will be soon publishing such valuation method in this thread itself .

Well to find out the compounding machine I believe the logic is simple a company having all the above-mentioned criteria and consistent 20-30% revenue and 40-50% PAT grower is the key to go. Requesting all the VP member to share their thoughts on this and if I am missing out on anything. Some companies like Natco,Supreme Industry I found still in a consolidation phase so might be a good opportunity to buy other non-tested stocks like Bandhan Bank, HDFC AMC [Will be trading from 6th August good read for AMC and Insurance story] seems good one to me, please share your thoughts on them also if any other you find is matching the criteria kindly mentioned them as well.


Hi Krishnendu,

I think most investor try to chase the returns and that could be the problem. Last year midcap and small cap was doing well hence everyone was chasing it. This year so called quality compounders are doing well hence everyone is chasing it now. So the problem essentially is your thought process is consistently changing based on how market performs.

My take on this is you need to be consistent in your investment process .Each of the approach might be right but often changing your investment thesis is not beneficial as an investor. So one needs to analyze his or her approach and see what he is comfortable with, then stick to it for a long period time. Chasing your thesis quite often doesnt help your fetch good returns over long period of time. Hence its better you discover your style of investing first that you would be comfortable with.


Karthik Kamath


Hi Karthik,

Last year D-Mart gives me most of the returns than anything else in my portfolio. The point is not changing the investment thesis but about getting the right thing. Mid cap or Small cap is not that bad specially the stocks like Bandhan Bank , HDFC AMC, Supreme Industries, Natco etc also Large Caps like D-Mart, HDFC Bank,TCS, Baja Finance are one of a kind. So point is not changing any investment style but focusing on proper quality check.


Hi Krishna,

You mentioned “Different investment strategies I have tried in this year and to be honest all of them has been a mistake.” Well the loss booking was proven the rightest decision and few profit booking as well but the profit booking in D-Mart haunting me till date."

The broader point i am trying to make is "Your judgement has been based on a small time frame of one year. You based on judgement of price movement of one year. I understand that you are trying to create set of checklist to find a compounding stocks. But all i am saying is once you come up with this checklist you need to stick to this process for some reasonably long time frame. Just because a stock goes down 20% based on checklist doesnt mean your strategy is wrong. Market and Business goes through a cycle so you need to be patient. If you want to add or delete something in the checklist is fine or sell some stock because you were wrong in your analysis is fine. But changing your entire checklist based on short term performance does not help.

Thanks and Regards

Karthik Kamath


One of the key things emphasized is - quality of management.
How does one go about evaluating that?

PS - newbie here, so pardon my naivete :slight_smile:

There is an ongoing perception that this recent correction in small and mid cap is cyclical and out-performance of Quality companies will be short live ,they will get also corrected like those small/midcap companies 30-50% (to catch up the market breath) .There is a bubble in quality companies.

Actual Fact is (Agreed with you),no quality small/midcap companies get corrected @30-50% , they were pretty stable. Those got corrected who had either some management/business issues(Kachra/Bhangar/Chor companies).Quality never corrects (at least not more than 20%) , they just time corrects ,like they will stay in same price for next 1-1.5 year in case of extreme pessimism and again start moving . They will never correct like those junk stocks. If you remain invested on those , you will not loose capital , whether in junks anybody bound to be come out after looking at capital get eroded 50% or the waiting will be eternal to get meaningful gain from there.
Good company may not implies Good stock but that does not mean that Bad company will become Good Stock. Either find out Quality companies at Good valuation or stay invested in Quality companies at high valuation and wait for few more quarters ,it will become automatically cheap That is far better than risking capital in chor companies because once you loose capital of 50% on those ,you need to do a 100% gain in next year to cover up those loses . So for compounding wealth don’t ever compromise in quality.


That’s a very nice way of summing it Haider sahib

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Thanks Haidar Vai,

This is really a good suggestion and already my realization is also the same. If you can also help with your input of finding a quality company apart from the point I have mentioned then it will be highly beneficial …

I have tried to design a valuation framework for the on going points will required your input to validate the same.

Here :-
Weightage is given as the average weightage Market used to give to these factors.
Value will be put by the user who is going to use it for analysis of a company and it will range from -1 to +1.
Aggregate Weight will be Weightage x Value.
Then we take the sum of the aggregate weight and multiply it with the traditional Ben Graham PE [i.e. higher Earning Yield] to get the Expected PE.

Need all the VP expert help in deciding the weightage the Market used to give to the factors. And if I am lacking anything in this model.
Valuation Framework V1.0.xlsx (12.1 KB)

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This topic is vast, quiet Impossible to explain in few sentences and in a forum.There are several books and internet articles are available on Quality Investing and Earning . You can buy and read those . To get fair idea you can go through VP thread of Page,Gruh,Bajaj Finance thread etc.

Quality companies are those who have strong,predictable cash generation ,sustain-ably high return on capital and attractive growth opportunities. It has been seen that there are some secular Business models which tend to compound wealth for longer time like Brand Equity,Pricing Power,Low cost Producer,Recurring revenue Model etc . You need to go through those models and think from Indian company perspective who are following those models and How successful they are in terms of implementations? How the block has been built for sustainability of those model and growth? What are the risks and opportunity ahead ? What are the pitfalls?

Management have a very important role for Quality Investing . Management Integrity,Capital Allocation Skills ,Corporate Culture cannot be compromised . There are very few honest management in India than US ,hence the good companies get scarcity premium .

So basically it is more like thought process , observation and studying the case studies of great companies of above mentioned models to find out whether there is any counter part available in Indian Market and whether they are going to follow the same growth path by keeping mind the Indian Consumption culture. There will be valuation debate but we must consider that the growth opportunity in a developing market is higher than developed Market.

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Biggest mistake is considering a single year return as CAGR and visualising that as perpetual return.

Could not agree More. But though we are playing test cricket (Long Term Investing) that does not mean we will not check the Score card in a year!! : Basant Maheswari

Specially when stock market index/few great stocks is in all time high but somebody’s portfolio is not moving or under performing then there is definitely some issue with his analysis and process. What happened in 2017 may not happen in next 5/7/10 years because when bull market tends to end all the junk stocks keep flying but when bull market end they reached at their actual value.

Do you have a compilation of the companies that meets these criteria?

Yes… The companies are very well known in the market as well. But haven’t found a new one. Here is the list.

  1. HDFC Bank [Retail Banking]
  2. GRUH Finance [HFC]
  3. BAJAJ Finance [NBFC]
  4. D-Mart [Retailer FMCG]
  5. Asian Paints [Building Materials]
  6. HUL [FMCG]

go for promoter background. check their past stand taken like whether were able to complete the project on time as declared in Ar, conference call etc. go for their interview on you tube, search on google with company name along with fraud, sebi issue, scam words etc. check their past record on completion of project. some time in credit rating promoter capability n experience will be mention. Salary drawn by promoter wrt profit n check whether salary increment in key managerial person are in appropriate to company growth or not.

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What you said I completely agree with it but for well known companies we can have this things but the Market has already discounted it with the valuation. And for the little known or relatively unknown how can we get those details ? The one way to judge I believe in reading out the business model they are operating in and the culture of the management can shed some light on it but in most of the cases these things are also missing.

Good point Bhavik but I am not considering 1 year CAGR but it is the 10year average CAGR and also I have mentioned if the Growth fluctuate beyond the tolerance limit the score will be very less.

I totally agree with this. But did you have any method to find it out ? Or do you have any company in your purview like this one you mentioned ?

Could you please provide the source of this. There are many examples where stock prices of even the best cos go down. Happens all the time in fact. And many other examples even in India.