How to know the company will perform better even if figures are close to best?


(Mihir Naik) #1

Hello Everybody,

I am a learner in value investing and so that I am posting this question here.

I have read some basics form Ben Graham, Charlie Munger & Warren Buffet. I agree with that margin of safety concept, circle of competence and all. I completely agree. But the question is, I think, market is driven by perception.

Suppose I found a stock which has good figures, nice profit making ability, reasonable competitive environment, good management and there are good chances that the company will grow at steady rate. I invest money in that for capital growth but How can we know that stock will out perform the market, because at the current price also it is trading below its intrinsic value. How to determine those factors, why the company is being traded below its real value and what will be the factor that will help it to make a leap ?

I mean, what if the market (people) will never perceive its real value ? and the stocks will remain at the same level or may loose more in future ?

Can you please throw some light on this ?

Thanks.


(Ayush Mittal) #2

As a long term investor, if the value is real then we should be happy if market doesn’t realises its value quickly…and more the delay, more will be the gap. We can keep accumulating it from time to time.

However, practically it can be frustrating and tiring and this is why one should also focus on dividend yield and try to discuss the idea with fellow investors and try to find negatives, if any. Also, it will be a good idea to have a basket of 5-10 similar ideas.

Ayush


(Donald Francis) #3

Adding to what Ayush has said, yes you need to have done your homework to the best that you can, try and reahc out to other investors ( best is to share all your homework on the business and ask others to pick holes), take a small position as you gain some conviction. Keep tracking results, and if you see improving results, on the lines of your homework, add more with each leap of CONVICTION. I am used to buying more every 3-6 months (happy to add more), even as prices rise with better visibility on near-to-medium term performance.

Having said that, if it is a mostly unknown stock, I have seen that the Market sits up and takes notice post 2-3-4 quarters of excellent (better than average results, say upwards of 30%), and if good dividends start accompanying the improved results, markets will re-rate the stock, fast enough.

Conversely, in the absence of Growth, its very difficult to convince our markets of the Intrinsic Value (great balance sheet, execellent returns, Assets, cash on Book,etc.). Specifically In Indian Markets Growth/or the absence of it is the most important factor (fundamentals being equal between say A & B businesses). Some senior Investors, give as much as 50% weightage to Growth.

So you must be very choosy, and always compare opportunity A to Opportunity B. Given say similar results, which is more likely to appreciate faster? This is an ART form, over & above the Graham Science part of say number-crunching, looking at ratios, debt, etc etc. the This line of thinking will help a lot. Persue it!

(Please Read the Capital allocation thread discussion for more).

-Donald


(srinivasan) #4

Mihir’s qn, is always there in the minds of value investors and was once asked to Ben Graham in one of his lectures. How will the market know about a undervalued stock and re-rate it. The questioner asked, if once after the stock is bought by the investor, he needs to advertise about it on media about its undervaluation for market to notice it. But Graham said he doesn’t know how it happens, but market usually re-rates a stock over long term. But Graham himself followed a rule, I believe, like selling a stock once it doubles in value or selling after 4 year time(profit or loss doesn’t matter) period, whichever happened early. So usually it is assumed market will re-rate the stock, but we know it is not a guarantee, so considering opportunity costs, Graham followed the 4 year time period I believe. People who have read full works of Graham, may add more insights here.


(Donald Francis) #5

What I have understood from my limited reading, Graham focused on the SCIENCE part of stock-picking. Margin of Safety - that concept is his single biggest contribution, how to avoid mistakes, what to avoid definitely - and we are all indebted to Him for that. I certainly am.

Only using quantitative parameters - doubling of price, or 4 years HOLD period, or any other such quantitative criteria, is ignoring the ART side of stock-picking. For that you need to read Lynch, Buffet, and more before we start getting a feel of which of my horses are going to run the fastest, and why:)

Ever wonder why Mayur has gone on to become a 9x in 3+years, Astral a 4x in 2+years, Ajanta Pharma again a 9x in 3+years, and almost every other stock in ValuePickr Portfolio a 2x+ in 2x+ years…(Indag, Atul Auto, Suprajit, BKT, Kaveri…). Sure these are only a few among many others in the market that have done equally well perhaps. But someone was able to identify it and make a strong case for it…for the whole community to get energised to do more work…and agree…YES, it is a good horse to ride.

There is no denying it! There is the ART side to stock-picking. Getting a feel for it, takes time, but can be done…try to tune as much as you can to how ARTISTs like Hitesh Patel, Ayush think…why they are able to not only pick up most of the winners, but also avoid ALL the risky ones…that some others fell for!

Tuning up to them can happen though only when you start talking to them somewhat at their level…have answers for 80% of what they ask…which means backing it up with lot of hard work from your side…u don’t need too many stocks…just pick one good idea you find real good potential in…and get to work …be the one who knows most about that stock/business…and then pick their brains out…they are usually very happy to help out eager but hardworking learners.

-Donald


(Hitesh Patel) #6

People often tend to confuse the term “value investing” with companies with very high cash on balance sheet, working out net working capital, cash flows etc and making strong cases for investments in these stocks.

In real markets these things often dont work out. (the key word here is often) If u latch on to the stocks at real bargain prices then u get ur returns. But if u are stuck at higher prices then the waiting often gets frustrating bcos for these so called value picks to deliver, one has to have a roaring bull market where the leaders and other second rung stocks have run up so much that people start looking at these stocks as the next in line.

just to give an example,

Nucleus software – market cap is 228 crores. if u see the statement of accounts given in fy 13 results, then u can make out that company is totally debt free and one can calculate the net cash as follows

current investments 150 crores +cash and bank balances 90 crores = 240 crores.

Effectively u are getting the company and its assets for minus 12 crores. And this company did net profits of 35 crores in fy 12 and 45 crores in fy 13 if u see the consolidated figures.

So this is a screaming buy. But still if u see the price chart, stock price has made a high of only 96 since may 2011.

Problem I see with these kind of companies is that they tend to accumulate cash and not think about doing anything with it.

If out of an eps of 13 for fy 13 they could have given a dividend of rs 10 or so then this stock would have doubled in no time.(e.g accelya) But this management seems to be very laid back in their shareholder attitude and hence stock price seems to stagnate.

Same with a stock which we track --narmada gelatin-- It did eps of close to 38 and paid out dividend of only Rs 5 which is peanuts compared to the full year eps. And company is already sitting on loads of cash.

These kinds of instances shake investor confidence regarding cash on balance sheet and hence these kinds of cash and value bargains give a lot of heartache to its investors.

In the current bull market I think market seems to be hungry only for growth and nothing else. So all these asset plays and cash bargains are not going anywhere.


(Vinod MS) #7

Well said Hitesh and Donald… this is real experience speaking.

I too have burned fingers in undervalued plays without getting a grip on when and how much our market will give better valuations. The lessons you have shared are very very relevant in Indian market.

Growth at reasonable price is the best risk-reward bet for me. The higher the conviction you can build on the growth visibility the lower the risk and higher the reward.

Cheers

Vinod


(Raj Panda) #8

And here is a fabulous article on the topic by Prof Bakshi

http://business.outlookindia.com/article.aspx?285698


(Subash Nayak) #9

Adding my two cents here.

Pure value investing (like buying stocks at a discount to the net cash/asset value of company) does not rings a bell inside my bell, at least in Indian context. With 7-10% inflation, a company which is growing less that this is automatically losing invested money, hence deserves a discount to its asset. Also as we know Indian stock market is a virtual minefield (with countless folks doing sister party transaction, and promoter taking away shareholders money) hence an extra margin of safety is needed for this. The second aspect makes pure value investing a as-much-as-you can avoid in indian context.

Growth stocks with high ROE/ROCE, and good sales/np growth, and good visibility in future growth potential doesn’t suffer from above two malaise, and hence they deserves higher pe multiple.

If the same stocks have solid high cash flow, and working in a secular industry like consumption play (like pidilite, asian paints, berger paints, nestle etc…), and having high dividend payout rate, they deserves still higher pe of ~30 that they are having. This comes straight from DCF, nothing new here. Investing in such stocks are an assured way for beating sensex.

There is a better way to beats sensex in a big big margin (or finding multibaggers), the approach valuepickr seniors mostly follow. The trick is to do growth-at-reasonable-price (GRP) style value investing in high ROE/ROCE, low DE, good management, preferably lesser known small/mid cap with promoter stake touching 75% range (ex. Mayur, Ajanta, Kaveri, Atul auto, Astral). Plus use of collaborative effort to do ground study on what exactly is going on in the field.

These type of stocks gives you multiple advantages. Because of small capitalization, and higher promoter holding, big guys can’t even enter it, and hence pe remains low for longer time. But increase in market cap, gives big guys a scope to enter it, resulting in a very good pe expansion. You get double benefit of growth + pe expansion, and than only get multibaggers.** The trick I am learning these days is not to get paranoid/panicked, when stock price of skyrockets in short time, and pe valuation breaches historical levels, to reach new level**. This needs a huge mental efforts, which I am yet to master. the struggle is still on.

The secret for making huge money is to hold tight in the face of pe expansion. If I would have done that I am sure I would have gained at least double the gain what I get today.


(JatinK) #10

Very well said… My take-

Graham style (buying at a discount to currentintrinsic value) workswell only if there is some catalyst that bring price equal to intrinsic value… Catalyst could be Huge dividend, buyback or even some reputed one recommending it.

But in absence of catalyst (which is anyways very difficult to predict), it better to be with Good Business… which keeps on growing their intrinsic value.

Price == Intrinsic Value will hold in most cases over the long run(most not all)… But make sure thisequation works out by Mr Markettaking Price higher & not intrinsic value going lower.

Cutting long story short… It Good & increasing Earnings that work more than any other strategy.

*Good earnings =Business ROCE> Cost of capital


(Ankit Agrawal) #11

currentintrinsic value) workswell catalyst run(most thisequation Markettaking Good & increasing Earnings =Business ROCE>


(Ankit Agrawal) #12

sorry my last comment just repeated what Jatin had commented.

I am also a new value investor and through my initial experience and reading I have following points to add :-

1). It is not necessary a value pick will always grow to reach its intrinsic value. the reason maybe that we might have neglected in our analysis few facts such as corporate governance , growth prospects of the industry and company. I will take example of Orient Refractories which seems a value pick to me post acuquistion by RHI group. but when I see in detail I find that whole Industry itself is facing stiff competition from China and it is highly possible despite huge cash and dividend the Promoter may wind up the company leaving minority shareholders with pennies.

2). Sometimes though the company is good , promoters and management are not as clean as they seems and despite having all growth opportunities and aspects promoters use cash for their own purpose and ultimately causing stock to fall. For example - Geodesic

**To avoid these thing I feel not to choose just 1 or 2 stocks rather a group of value stocks and keep them in portfolio with continuous monitor on promoters and growth aspects for industry. **