Legendary investor Peter Lynch knows something about 1,000%+ gains. His Magellan Fund, which he presided over from 1977 to 1990, achieved an average annual return of 29.2% throughout his tenure, turning $1,000 invested in 1977 into $28,000. That's a gain of 2,700%. This track record included multibaggers on companies like Yum! Brands' and then-unknown micro-cap apparel retailer The Gap.
In his book One Up On Wall Street, Lynch explains how he did it. His two first criteria are that (1) the company name sounds dull and (2) the company does something dull. If a company offers unglamorous products that people think they can't do without, is profitable, and is never a subject of conversation at cocktail parties, Lynch was interested.
Here are three boring but beautiful companies that fit the Lynch view and could deliver massive gains over time.
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1. Automatic Data Processing
Headquartered in Roseland, N.J., Automatic Data Processing (ADP 5.13%) provides human resources (HR) and payroll services, as well as business solutions, to over 1.1 million corporation, government, and small-business customers around the world.
NASDAQ: ADP
Key Data Points
Right off the bat, this company checks off Peter Lynch's first two criteria. No one at a party will try to regale you with a narrative around a payroll services and benefits administration company. Yet over the last 10 fiscal years, Automatic Data Processing's revenue has nearly doubled, from $10.9 billion to $20.6 billion.
Over the last decade, it's delivered $30 billion in cash to shareholders via dividends and repurchased shares, while nearly tripling its dividend. In fact, Automatic Data Processing has reached a level of shareholder rewarding that few companies have achieved. It's a Dividend King, with 50 years of dividend increases.
While it may not be a flashy business, payroll and HR services are something that businesses can't do without. And switching from Automatic Data Processing's software to a rival's would be time-consuming. This helps explain why the company's employer client retention rate was 92.1% last quarter, a whisker away from its all-time high of 92.2%. It grew earnings by 9.8% while revenues climbed 7.5%.
Last year, management announced a 10% dividend increase.
2. American Water Works
Businesses don't get much less glamorous than water and wastewater services, so this $27 billion company based in Camden, N.J., is worth a look for anyone interested in profiting from the opposite of hype.
American Water Works (AWK 2.40%) provides water and wastewater services to 87,000 customers, from state governments to municipalities to small businesses. The company made $3 billion in profit over the last fiscal year, and grew revenue by 11.1% last quarter while earnings rose 4.3%.
Those may not be huge numbers, but there is enormous stability in them. American Water Works enjoys what Warren Buffett calls a moat and Peter Lynch calls a niche business. Simply put, hoodie-clad Silicon Valley disruptors aren't plotting to create a business that flushes toilets faster or better.
NYSE: AWK
Key Data Points
The cost of entering the space and taking on an entrenched company is prohibitive, so while American Water Works must abide by regulations as it determines pricing, it enjoys a high level of predictability in its revenue and earnings. This is why management has issued annual earnings and dividend growth targets in the 7% to 9% range for the long term, which it reiterated last quarter.
So far, it has made good on that promise, with an 8.2% dividend increase announced in April. . With its dividend yield of 2.3% already double that of the S&P 500 average, the annual 7% to 9% dividend hikes that management envisions could turn shares into a powerful income machine over time.
American Water Works shares have returned nearly 600% since 2008, when the company went public under its current ticker symbol after being acquired in 2003. In the years since, it's raised its dividend each year. Clearly, this boring company is serious about rewarding shareholders. With a price-to-earnings ratio of 25 that's well below the S&P 500 average of around 30, shares look attractive for long-term investors who act today.
3. Packaging Corporation of America
How profitable can cardboard packaging be? In the age of e-commerce, enough for Packaging Corporation of America (PKG 3.08%) to return 1,600% this century.
Headquartered in Lake Forest, Ill., this $18 billion company makes and sells containerboard and paper products for clients throughout North America. Last quarter, it grew earnings by 21.4%, while revenue ticked up by 4.6%.
NYSE: PKG
Key Data Points
Regulatory hurdles for cardboard companies aren't particularly high, so this company is more prone to competition than the other stocks on this list. Nonetheless, Packaging Corporation of America enjoys an operating margin of 14.8%, which compares favorably to the S&P 500's historical average of 10.8%. That's significant because operating margin -- the percent of revenue a company keeps after meeting payroll, paying for overhead, and all other operating expenses -- indicates a well-run and profitable business.
Unlike the other two stocks on this list, Packaging Corporation of America does not have a recent history of consistent annual dividend increases, though it has maintained or grown payouts every year since 2009. Its dividend yield of 2.4% looks very well supported with a payout ratio of around 50%, meaning roughly half of its net earnings go toward meeting its current dividend. This dividend is therefore likely to grow over the years, though perhaps not every year.
Meanwhile, the company's recent earnings growth of 21.4% is nearly triple the forecasted earnings growth for the average S&P 500 company next quarter, making Packaging Corporation of America another example of a "boring" company that can deliver outstanding performance. Its price-to-earnings ratio of just 20.7 makes it priced at a 33% discount to the S&P 500, making it a potential value play as well.
For investors seeking growing income and market outperformance without betting on flashy tech stocks or Wall Street darlings, Packaging Corporation of America is a buy.