Growth led by zero debt

It seems the year 2020 is full of surprises. Right from the rampage of the COVID-19 pandemic to a sudden recovery of the stock market, the year keeps surprising us with unexpected twists and turns. If we closely follow investors' behaviour, they tend to steer clear of mid and small-cap stocks during uncertain times like this. And the logic is simple. Large-cap or blue-chip companies are well equipped to withstand uncertainty. Further, when normalcy is restored, they will be the first ones to rebound. However, it does not hold true all the time. Some mid and small-cap companies are also well-equipped to navigate a slowdown like this.

Here, we have picked up two small-cap companies that have delivered high growth in the past, with high returns on equity and hold the potential to grow in the future. To keep a check on the financial position, we have filtered out companies having debt burden on their books.

Filters used

• Revenue growth of more than 20 per cent in the last three years
• Avg ROE of more than 20 per cent
• No debt on the book

Bhansali Engineering Polymers
This petrochemical company manufactures Acrylonitrile Butadiene Styrene (ABS) and Styrene Acrylorinite (SAN) - raw materials used for manufacturing various applications related to automobiles, home appliances, telecommunications, luggage, bus body and others. With its two plants located in Madhya Pradesh and Rajasthan, the company boasts an installed capacity of 1.37 Lakh TPA.

Bhansali Engineering Polymers intends to optimise its market share in the highly remunerative ABS segment, especially from the automotive industry. Hence, it is strengthening its R&D facility. In 2013, it entered into a joint venture with Nippon A&L Inc., Japan, to get sales and technical expertise.

The demand for ABS is dependent on automobiles and household appliances and is partly met through imports. Although there is a scope for growth for the company, stiff competition with foreign manufacturers on price and quality is a major challenge. Another key risk is price fluctuations of main raw materials, which may result in huge losses for the company.

It has been a debt-free company and going forward, the management expects to rely on internal accruals for expansion. Over the last three years, the company's sales and net profit have grown at a rate of 32 per cent and 41 per cent, respectively, compounded annually. However, its stock trades at a P/E of 22.9x as compared to the median P/E of 17.6x in the last three years.

Diamines & Chemicals
This Vadodara-based speciality chemical company is one of the few established players in the ethyleneamines market in India, with its range of products used in various industry segments, such as pharmaceuticals, agro-chemicals, resin and coating, water treatment chemicals and oilfield chemicals. It has a power generation business that accounts for less than two per cent of total revenues.

Since ethylene amines are the building blocks for many industries, Diamines & Chemicals operates in a growth market, which is a major tailwind for the company. Further, the company mainly competes with Chinese manufacturers. So, if businesses move out of China, it will go in its favour. However, fluctuating raw material prices and highly integrated international competitors are a major deterrent.

Over the last three years, its revenue and earnings have grown at a rate of 21 per cent and 72 per cent, respectively, compounded annually. The average net profit margin has been at 26 per cent, delivering a return on equity of 30 per cent, during the same period. Owing to the recent run-up in chemical companies, the company's stock has delivered a return of 160 per cent in the last three months and trades at a P/E of 19.4x as compared to its three-year median P/E of 10.1x.

Disclosure: The intent of the article is not to recommend any specific stocks. If you wish to invest in any of the above-mentioned securities, please do thorough research.