Low margins = bad business? DMart's 6x gains prove otherwise

Summary: Think low margins make a business weak? Think again. DMart has gunned outstanding returns in the last eight years despite razor-thin margins and it’s not alone. Another “boring” low-margin stock has quietly compounded investors’ wealth at an eye-popping pace. How did they do it? And how can you spot more such winners before? Let’s find out.

Margins are one of the most scrutinised numbers in a company’s financial statements. Simply put, they tell you how much of a business’s revenue turns into profits. If a company earns Rs 10,000 crore in revenue and spends Rs 9,600 crore on operating costs, taxes and interest, its profit is Rs 400 crore—a wafer-thin margin of 4 per cent.

By that logic, high margins signal efficiency and low margins suggest inefficiency. Right?

Not always. Margins often depend on industry dynamics rather than managerial competence. In some sectors, operating with low margins is simply the nature of the game. And that doesn’t make these bad businesses.

DMart: Winning big on wafer-thin margins

Take Avenue Supermarts (DMart). Since its listing in 2017, the retailer has delivered a stunning 26 per cent annualised return — a 6x rally in just eight years despite thin margins. Its net margins hover around 3-4 per cent and operating margins at around 5-6 per cent.

But the stock has still thrived. How? Because it plays on volumes efficiently. DMart sells such massive volumes that it makes up for its low profit per unit. Not just that, it uses its assets efficiently to generate sales (asset turnover of around 3 times) and quickly turns over inventory as well (inventory turnover remains around a solid 15 times). This relentless efficiency allows Dmart to drive scale, offsetting the low margins.

Redington: Compounding in a commoditised industry

Another example is Redington, a distributor of IT products and software — a commoditised business where margins are even more thin. Net profit margins hover around just 1.5-2 per cent, yet the company has compounded investors’ wealth at 16 per cent annually over the past decade and an eye-popping 44 per cent per year in the last five.

Like DMart, Redington wins by moving products fast. Its inventory churns roughly 15 times a year and its asset base turns over four times annually. This is how it makes the volume game work for it.

What to remember

Low margins don’t automatically mean a business is weak. In some industries, especially retail and distribution, margins are structurally low. What matters is whether the company can:

• Turn over its assets and inventory rapidly
• Generate consistent profits despite low per-unit margins
• Deliver steady returns on equity and capital employed over time

When these boxes are ticked, a low-margin business can be as solid, if not more so, than its high-margin peers.

So next time you come across a company with single-digit margins, don’t dismiss it outright. Look deeper at how it uses its resources, the stability of its business model and its ability to compound investor wealth.

So, should you invest in DMart and Redington?

At Value Research Stock Advisor, we don’t chase hype. We dig deep to uncover companies with the power to compound your wealth year after year, even if they don’t look exciting at first glance.

DMart and Redington are prime examples of why you can’t judge a business by its margins alone. But do these two meet all the criteria we demand before recommending a stock?

Head to Stock Advisor to find out. There, you will find our recommended list of stocks we believe can create lasting wealth for you.

Try Stock Advisor