Coffee can method

[1.5cr]

Hi all,

I found this method very intriguing I came across about a month ago(Im sure many investors have read about years and years ago!). I have been reading into quite a bit. It seems to have alot of validity. Im sure many senior members and VP members already know of it.
I could not find a thread and I want more opinions on this concept. It seems to be simple and straight forward. However there seems to be some short term volatility with regards to the method.

It is the coffee can method advocated by Ambit and Mr. Saurabh Mukherjea. I will attach the video it is a two hour video, I found it eye opening to say the least.

For those without the time Ill give you a brief on the method.

The coffee can screener is very simple. Sales growth of 10% every single year for the last 10 years (not cagr) ROCE of higher than 15% every year for 10 years. Companies passing this fliter will be considered for the coffee can portfolio.

The next step would be to obviously analyse if the company has a future and the moat is sustainable etc etc: The obvious stuff since the recommended holding period is 10 years. Post which one liquidates and repeats the process with new or same cos from the past decade depending on the screen and personal analysis.

Typically not more 30-35 cos appear on the screen at any given point/year when the screener is run.
Usually the names are well known companies.

The concept states that the PE of the business barely contributes to anything in terms of share price movement in the long run. As per the video, only 12% cagr of the gain in page’s share price came from re-rating the other 30% or so cagr came from earnings growth. And there are multiple cases supporting the same. One can read their newsletters the attached links for further clarity on this aspect.

They claim that this method outdoes the index over a 10 year period very very handsomely, by around 500 bps plus!

The logic behind this is if the nifty gives 15% cagr on avg over 10 years (they claim that 15% is the average index return for 10 years, however I think its closer to 12% no idea but even then…) and the nifty consists of certain cos with poor roce, cyclicals, poor capital allocators… if you weed these out by applying the filter in essence you will more than outperfomr the index.

They also lay huge emphasis on roce. As per their research published in the book “The unusual billionaires” ROCE is the single biggest driver of returns in the long run. Apparently superior roce is main driver of returns over a 10 year period. Superior revenue growth does not have as much of an impact over a 10 year period, obviously combining both regardless of valuations gives you significant out performance over a 10 year period. If the company has super roce over a decade that alone provides some pretty decent outperformance over the market over a decade as per the book.

In their book “coffee can investing” the coffee can PF has companies like asian paints, nestle etc: If keeping it simple and negating entry valuations can help us beat the index by such a large margin then what are we all trying to do?? Haha!

Ambit run their PMS based on this philosophy.

Please senior members and members alike let me know your views!

P.S since screener only gives cagr numbers I have pasted a screen with some tweaks that I have added. The screen was sent to me by @amangoklani it was shared with him by some senior VPers.

Sales growth 10Years > 10 AND
Sales growth 7Years > 10 AND
Sales growth 5Years > 10 AND
Sales growth 3Years > 10 AND
Sales growth > 10 AND
Average return on capital employed 10Years > 15 AND
Average return on capital employed 7Years > 15 AND
Average return on capital employed 5Years > 15 AND
Average return on capital employed 3Years > 15 AND
Return on capital employed preceding year > 15 AND
Return on capital employed> 15 AND
Market Capitalization > 800

[amangoklani]

Hey 1.5 cr thanks for starting this much needed thread.

I’ve also recently read Mr.Mukherjea’s book - Coffee Can Investing. Quite a simple and interesting read I must admit. Though, I first heard about this term / concept while reading (well actually listening) to Chris Mayers book ‘100 baggers’. I loved the concept from the get go and have decided to try my best in putting a certain % of my p/f in the coffee can.

Though admittedly, the point about disregarding valuations and picking companies (as per the filters prescribed in the Ambit book) does involve taking a huge leap of faith.

I quite liked what Chris Mayers had to say in his book - 100 baggers. He recommends you picking some of your best ideas / companies and put them in the coffee can and let them sit there (as opposed to Ambit’s which prescribes you which type of companies to put in there - basis their formula / study). While one should monitor them, you should not take them out of the can unless something has drastically gone wrong. And his thought process was more from the perspective of finding 100 baggers. I had presented on this a few months back in one of the VP meets in Mumbai, below is my presentation from that meet

100Baggers_Learnings.pdf (2.2 MB)

I’ve decided to follow his (Chris Mayer’s) approach for my CCP and have picked the following stocks for it (the expectation from all these stocks is not to get a 100 bagger, but to see them handsomely compound over time): PGHH / Gillette, Eicher, Bajaj Finance, Symphony, Atul Auto, Nesco and Tata Elxsi. Not sure, if I would have the courage to hold them for a decade, but I’m sure as hell going to give it a try.

Also, please note the query for the screener has been shared by @rupaniamit, so all credit on that is due to him.

[rks]

I feel coffee can approach produces mediocre results. It’s good for those with a huge portfolio where stock churning is not easy. For others visibility of business performance in near future produces superior returns.

[amangoklani]

Buddy, depends on your definition of mediocre. If maybe your expectation is 35% CAGR this may not work for you, I actually don’t really know.

I’m happy picking some of the best Indian companies and putting them in the can. And if my CCP is going to double every 3-4 years, I’d be happy.

One thing is certain about this approach, as an investor you’d have the discipline to stick it out. And I personally feel that is where most investors falter, in trying to do too much.

Pls do bear in mind this is only a % of my overall pf. So I’m happy to try the approach. I quite like it as it gives me peace of mind and not worry about what my companies are doing each and every quarter - it’s helping me lead a life

As for the results, I guess for better or worse I’d get to know after a decade

[saumya2010]

Review of ‘Coffee Can Investing’

At first I was also very intrigued by coffee can method by ambit. But if you check it’s past record some of the company have lost mcap 50 - 60 % and that too in bull mcarket and that too due to corporate misgovernance. The article highlights same in detail though it is paid.

[amangoklani]

Yes, corporate misgovernance is a big risk, hence I have my doubts about blindly following what Ambit is prescribing. I rather hand pick some companies and promoters I trust. Otherwise you may end up with Vakrangees of the world.

Another thing is such companies gradually end up forming a lesser % of your pf due to loss in their value. They would be overshadowed by the companies that are outperforming. Do read the CCI book by Ambit to get a better sense on how this works.

[saumya2010]

Kindly try not to post personal attacks against me as the thread is about coffee can method by ambit I just wanted to point -ve article by moneylife so that everyone who try to emulate the method should be aware about both pros and cons. I am not against the method in anyway and that article is written by moneylife not me. The most important thing in this type of method is quality of management and quality of business( from roce, opportunity size, entry barriers and pricing power.

[deevee]

Hi @dumboinvestor

I think it will be appreciable if you can refute central points of arguments. This Hierarchy of Disagreement would be useful.

Also one thumbrule which all of us can use is - how does the post I am writing adds value to the discussion.

We need constructive interference and not destructive interference.

Mods @manish962 @basumallick @hitesh2710 please take note.

Rgds

[saumya2010]

I m confused about only one thing if such a portfolio works why ambit itself is asking to sell 6 stocks from previous year portfolio and why do they publish different list each year rather than every 10 year.

[1.5cr]

@saumya2010

They run the screen every year and some stocks dont make the list for the next year’s coffee can. For eg Nestle up to 2014 and then post that due to maggi revenues fell. They are a great coffee can candidate even now though. So certain calls you must take, like the company is back to normal post the maggi issue so can we include them in following iterations of the coffee can portfolio.

They do them each year for their record and the main idea is if you have surplus capital then you can deploy it into the new coffee can for that year. It is up to you but whatever coffee can portfolio you chose or build has to be held for 10 years barring any black swan event. In which case you can take a call.

Regarding buy and sell suggestions they are a brokerage, so whatever is their stance at that point they must put that out. That is the good old brokerage report style. I think one can ignore the buy sell ratings on the cos.

I encourage you to watch their video though…

ccp_newsletter-feb.pdf

[1.5cr]

ccp_newsletter_july_2018.pdf

ccp_newsletter_december2017.pdf

ccp_newsletter_mar-2018.pdf

These give you more of an idea on the valuations front…

[theashworld]

Firstly I’m a bit unhappy with Ambit for hijacking the term Coffee Can Investing and then changing the meaning.

The fundamental premise of a coffee can portfolio is to buy and forget for a long time and the key advantage is reduction in transaction costs.

See original paper

the-coffee-can-portfolio.pdf

Which has this -

suggest that you find the best investment
research organization you can and ask them to select
a diversified portfolio of stocks with the knowledge
that the portfolio will not be re-evaluated or re-ex-
amined for a period of at least 10 years.

But Ambit has made the meaning such that they look at last 10yrs parameters and project them forward. They also re evaluate every year. I feel this is a disservice to the original notion of coffee can investing.

Personally I hold shares of cos which I’ve booked part profit in forever. My oldest stock is now about 12yrs old (or more?) And it’s a 10x multi bagger. I read the AR of each stock every year and unless there’s a serious issue like fraud I basically hold (regardless of roe and other parameters). My mother has some shares since 35+ years and they’re multi baggers too. That’s the real coffee can style.

One core thing to understand is that 80/20 rule applies ie 20% of stocks will give 80% profits. You don’t know which 20%. And you can apply this to the profits repeatedly which means .8x.8x.8 profits will be from .2x.2x.2 stocks, so basically 50% profits from 1 stock. I’ve seen this happen in my experience. Most people can’t understand or stomach this. They’ll sell the winner OR think the system doesn’t work because the majority will be losers

[1.5cr]

I went through some of their past iterations of the coffee can, that does not seem to be the case. They had rightly mentioned that it was a variation of Robert Kirby’s coffee can original.

They dont re-evaluate every year. They publish fresh iterations of the CCP going back ten years as on that year. Investors are told to use the latest iteration if they would like to start out. So when you do decide to build it out, you stick with for 10 years. This was done due to public demand, so as a “gesture” they publish a new CCP every year. Their PMS however sits on some 11 stocks. They claim, with manual interventions they are able to make better decisions, such as the coffee can filter would fail on a company like nestle due to a dip in sales from the maggie outage.

Having gone through their past iterations they seem to consist of more consistent performers and most of the scrips in the respective CCPs have given double digit cagrs. This is especially so because of the fact that most of the time companies like HDFC bank, Asian paints etc: end up being in the portfolio.

The concept logically sounds good. Index does 12-15% with quite a few cos that arent as good/cyclicals etc, remove them and keep the cos with good roces and healthy capital allocation records and you should more than outdo the index. I dont believe one can be 100% passive however…

Do let us know your views since you seem to have used a version of coffee can investing already:)

@theashworld

[zygo23554]

Is the Coffee can approach (as defined in the original paper) a sensible approach that can make money?
Yes, provided one sticks to the execution plan and actually has the required long term horizon.

Can the coffee can approach work consistently over time?
Most likely yes but there will always be interim periods where the approach looks useless and amateurish

Can the coffee can approach lead you to abnormal returns?
Most likely not, this approach usually makes the news in years like 2015 and 2018. In bull periods media will never write much about this

Do the above points hold true for other well known and tested approaches as well?
Yes

Bottom line is that based on the particular investor’s experience and mindset, certain approaches to stock picking appeal to them OR they just naturally gravitate to some approaches. Every such approach has it pros/cons and has periods of measurement where it looks like the best approach/amateurish approach.

The bigger question to wonder about is -

Do you have the temperament and the resources to stick to whatever sensible approach you chose during the bad periods as well as good periods?

If not, one will keep hopping from one approach to another and end up with average results at best. People become growth investors after they see that growth has outperformed value over the recent past and vice versa. It really does not take an Einstein to hypothesize what is most likely to happen next. Without plain old consistency of thought and execution, the best of plans can look bad

“Everyone has a plan till they get punched in the face” - Mike Tyson
“Know Thyself” - Socrates
“If you cannot put up with my worst, you do not deserve my best” - Marilyn Monroe
“In theory there is no difference between theory and practice, but in practice there is” - Yogi Berra

[theashworld]

Ah, if he’s not asking to rebalance, it makes sense. Although then why would you need an advisor who advises you once a year anyway

I basically buy ultra cheap (mostly ‘kachra’) stocks, book part profits when they rise and forget about the rest of the holding. I do read the AR and if there is some massive red flag I"ll exit completely, but I’m not keen to. I’m not averse to quality but I pay more attention to valuation and price than quality. In this sense I’m much closer to Graham than Fisher. It has served me well so far, as per valueresearchonline portfolio tracker where I track my pf, I have a 26% CAGR over the years. What else do I want.

[1.5cr]

In the video they claim that you dont need any advisor (the video is very entertaining, its basically them presenting to proffessionals who are MF distributors etc etc… so Mr. Saurabh actually jokes about how he convinces Ambit’s clients to sell Asian paints and make them transact. He then laughs and says who am I to forecast the earnings of perhaps the best company on the planet in terms of consistent growth)

But he also goes on to say that he has to be bias and he maintains that Ambit have a slight edge with the method. I guess the filter throws up companies that one may not actually the deem highest of quality when pegged side by side with an asian paints, there is some degree of stock picking among the flitered cos…

I still maintain that if the method can deliver average large cap MF returns then the lack of fees should push the returns up by atleast 200bps over a decade. So you will end up beating the top large cap MFs by atelast 200-300bps over a decade.

There are other aspects mentioned in the video, for eg: MFs have some criteria where they cant let a stock go over a certain weight. So they keep trimming positions (cutting winners basically while letting losers run).

It is a very interesting concept and with a few tweaks for each person’s taste it could work nicely who knows!

[theashworld]

Largely speaking, in this method, the individual investors’ edge comes in these aspects (apart from lower trading costs, obviously):

1. Not needing to have a small horizon for results (MFs need to report monthly, other institutional investors also have horizons). Whereas the coffee can portfolio has a ridiculously long horizon of 10yrs
2. Not needing to have smooth results.
3. Not needing to have more winners than losers. Portfolio managers investing in publicly listed companies would be in trouble if most of their picks lost money but just one of them covered for the rest (however note that early stage VC firms operate exactly like this).
4. Not needing to show any reaction to any news or events.
5. No fear of liquidity or redemptions

I, personally add a couple more (in the method I describe)
6. Very low market cap stocks which are under the radar of portfolio managers
7. Optically bad looking stocks which have perhaps fallen a lot of late

[homemaker]

Few interesting thing that I liked about CC approach.

Often retail investors can’t remain passive. Being active is in our nature. We continue to buy, sell, average up down, balance and rebalance portfolio… Report says 85% of portfolio is sold and bought again in a year or so. Now CC method which is basically buy and hold or better buy and forget… Does all of these automatically or passively. Winners run, their weightage increases, losers become insignificant. By being inactive, investors don’t miss out on clustering gains or sudden growth spurt which happens in a matter of weeks… So on and so forth… Sounds like a fairly tale. Also I read a funny monkey portfolio of junk stocks beating index if held long enough… I don’t do so as these are all back testing and I haven’t done so ever… But no doubt CC challenges most of fund managers and active investors… Very few examples in life where inactivity pays… Another example is may be gardening or farming bamboo trees

[amishra]

Found a nice article by Angel broking on why buy and hold still works good in india… Nice read and relevant to coffee can style.

http://www.angelbroking.com/blog/why-does-buy-and-hold-strategy-work-in-case-of-indian-equities

[Yogesh_s]

The way I understand coffee can method is that you buy good companies and then forget about it for a long time (10 years or more) hoping that these companies deliver good returns over a long time.

Not a fan of this approach. To me it sounds like a leap of faith that can land you in a soup. What if after 10 years you realize that you had filled your can with junk? Can you go back 10 years and fix it? Or make adjustments and take another 10 year leap? Not a sensible approach IMO.

What is sensible to me is to try few investment approaches with short testing cycles of few months to see what works and what doesn’t and then make delta adjustments in every cycle. Over time you will device a strategy that works for you. Your hit rate i.e. % decisions that turned out to be correct should increase over time. Once you reach a high %, you will make fewer and fewer decisions with higher and higher conviction. For me, annual review of portfolio is better than coffee can portfolio.

Our economy is dynamic and market is dynamic. Here is a list of companies that made up Sensex at the time of its creation in 1978.

Source: BSE

These were suppose to be blue chips at that time. Many of these don’t even exist now and several others have given poor returns. Only a few have beaten the market in the long run. Your probability of choosing just these handful is very low unless you are extraordinarily talented investor (in which case why would you become an ultra passive investor?).

Coffee can will work if you put an index fund in the can. The fund itself will be active even if the can is passive.

I agree that constantly tinkering the portfolio is not a good strategy but IMO leaving it in a can and hoping for a happily ever after ending is not a good strategy either. You are just trying your luck and there are far better ways of doing that.