2nd Value Investing Pioneers Summit – New Delhi

Buy and Forget vs. Active Investment Management

Samit Vartak, CFA

Founder & CIO

December 7, 2018

Investment Advisors LLP

SageOne: Quest for Outstanding Investments
My dream as an investor

Reading balance sheets, industry reports,………….

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My dream as an investor

Meeting and quizzing the management

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My dream as an investor

Visiting factories
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My dream as an investor

Detective, Staying away from frauds

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My dream as an investor

Calling around the supply chain

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My dream as an investor

Is the Valuation right?

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EVEN AFTER THIS I AM NOT
COMPLETELY SURE
+
LONELY
+
AM I A FOOL?

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Is this a better dream?

Mr. Super Quality Joe

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 MY
SITUATION
WAS
SIMILAR TO
ARJUN -
CONFUSED
ABOUT
WHAT’S
RIGHT
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KRISHNA DIDN’T
APPEAR

BUT SOMEONE DID

APPEAR

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TELL ME MY SON, WHAT’S
YOUR CONFUSION? 12
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 Quality PE vs Sensex PE
50

45

40

35

30

25

20

15

10

-
FY2000

FY2001

FY2002

FY2003

FY2004

FY2005

FY2006

FY2007

FY2008

FY2009

FY2010

FY2011

FY2012

FY2013

FY2014

FY2015

FY2016

FY2017

FY2018

30-Nov-18
Herd going nuts to buy what Mr. Super Quality Joe owns
Quality stock premium jumped from 0% to 100% post FY2011
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Quality Sustained Earnings Growth

PE x Range Earnings Growth Returns

Quality Quality Quality

Period Sensex Sensex Sensex
Portfolio Portfolio Portfolio

2000-08 11 - 22 14 - 23 15% 15% 15% 15%

2008-18 13 - 47 14 - 23 11% 5% 18% 8%

• With growth sustainability, the multiples doubled for quality

stocks
• 6% earnings growth differential delivered 10% alpha for 10 years
• 18% compounding is 5.2x; 8% is 2.2x in 10 years
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Qualitative Factors Favoring Consistency

• Consistency pays off by being much resilient during rough

markets
• Avoiding “landmines” key to avoiding pain
• Many decision makers may lose job by looking foolish vs
underperformance during bull run
• Many managers value “not going wrong” much highly vs.
missing out on extra returns
• For FIIs, emerging markets itself are riskier asset class. Why
increase further risk by getting into emerging companies
• Longer one stretches his holding period, lesser impact high
valuation has on returns

Should I do the same

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for Outstanding bear the pain?
Investments 15
WARREN SHOWING HIS

“VISHWAROOP”

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Buffett’s 1950s and 1960s

• In 1950s annualized returns of 50%

2.5x of Indices
• Early 1960s annualized returns of 30%

– Bought over 400 stocks in 13 years

– Geico exited in 18 months at 2x

– Bought Western Insurance between $12-20/sh when EPS was

$16 in 1952-53. Share traded at $95 in 1955

– Marshall Wells $200 price and $62 EPS

– Commonwealth Bank bought 12% stake at 5x PE and sold at

60% profit

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Berkshire’s Alpha vs S&P500

BRK Earnings S&P Earnings Alpha in Alpha in

By Decade Growth BRK Returns Growth S&P Returns Earnings returns

1965-1970 15.6% 17.3% -0.2% 4.1% 15.9% 13.2%

1970-1980 23.2% 26.3% 11.2% 8.4% 12.0% 18.0%

1980-1990 27.7% 31.7% 3.7% 13.8% 24.0% 17.9%

1990-2000 24.3% 26.7% 8.9% 17.5% 15.4% 9.2%

2000-2010 9.0% 5.4% 4.5% 1.4% 4.5% 4.0%

2010-2017 12.1% 13.8% 3.8% 13.8% 8.3% 0.0%

Total 19.2% 21.0% 5.9% 10.0% 13.3% 11.0%

Consistent high earnings growth was the key

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 Five Year Rolling Average of Growth

Berkshire BV/Share vs S&P 500 Earnings

50%

40%

30%

20%

10%

0%
1969 1972 1975 1978 1981 1984 1987 1990 1993 1996 1999 2002 2005 2008 2011 2014 2017

-10%
BV/Share S&P Earnings

-20%

-30%

Phenomenal earnings growth

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Buffett’s Entry Points

Entry Year PE at Entry

Coca Cola 1988 13.98

American Express 1964 13.52

General Foods Corporation 1979 6.18

Geico 1976 4.24

Washington Post 1973 8.13

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P&G 5 yr Earnings CAGR vs. PEx
40 Earnings 20.0%
CAGR

35 PE Ratio

15.0%
30

25
10.0%

20

5.0%
15

10
0.0%
5

0 -5.0%
1988 1993 1998 2003 2008 2013 2018

• High growth during 1980s & 90s

• PE above 25x
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Coca Cola 5 yr Earnings CAGR vs. PEx
25.00% 50.00
PE Ratio
45.00
20.00%
40.00

35.00
15.00%
30.00
Earnings CAGR
10.00% 25.00

20.00
5.00%
15.00

10.00
0.00%
1984

1987

1990

1993

1996

1999

2002

2005

2008

2011

2014

2017
5.00

-5.00% 0.00

• High growth during 1980s & 90s

• PE above 25x
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 IS GOING FOR
CONSISTENCY
STRATEGY INVINCIBLE?

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No Common Stock in the Last Two Decades
Best Performers During 1998 - 2008 Best Performers During 2008 - 2018
63 Moons Technologies Ltd. Panacea Biotec Ltd. Aarti Industries Ltd.
Aban Offshore Ltd. Patel Engineering Ltd. Ajanta Pharma Ltd.
Amtek Auto Ltd. Praj Industries Ltd. Atul Ltd.
Anant Raj Ltd. Shriram Transport Finance Company Ltd. Avanti Feeds Ltd.
Ansal Properties & Infrastructure Ltd. Shristi Infrastructure Development CorporBajaj Finance Ltd.
Bilcare Ltd. Simplex Infrastructures Ltd. Can Fin Homes Ltd.
Blue Dart Express Ltd. Unitech Ltd. Eicher Motors Ltd.
Havells India Ltd. UPL Ltd. Gruh Finance Ltd.
Himadri Speciality Chemical Ltd. IFB Industries Ltd.
Hindustan Construction Company Ltd. IndusInd Bank Ltd.
ICICI Bank Ltd. Kajaria Ceramics Ltd.
ICSA (India) Ltd. La Opala RG Ltd.
IVRCL Ltd. Manappuram Finance Ltd.
Jai Corp Ltd. Natco Pharma Ltd.
Jain Irrigation Systems Ltd. PI Industries Ltd.
JM Financial Ltd. Relaxo Footwears Ltd.
Kalpataru Power Transmission Ltd. Sudarshan Chemical Industries Ltd.
Kotak Mahindra Bank Ltd. Symphony Ltd.
Mercator Ltd. TTK Prestige Ltd.
Moser Baer India Ltd. VenkyS (India) Ltd.
Motherson Sumi Systems Ltd. Vinati Organics Ltd.
NCC Ltd. Zydus Wellness Ltd.

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What happened to the US Nifty-Fifty Stocks in 1970s

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 Sensitivity of Returns to Valuation Drop
Assuming 15% annualized earnings growth
Holding Period in Yrs
7% 3 5 10 20
% Drop in Valuation during

20% 7% 10% 12% 14%

the Holding Period

30% 2% 7% 11% 13%

40% -3% 4% 9% 12%
50% -9% 0% 7% 11%
60% -15% -4% 5% 10%
70% -23% -10% 2% 8%

• Current 44x multiple dropping to 22x means no returns for 5 yrs

• Bear market is not a necessity for the multiples to drop
• Many consumer stocks in the US which traded above 30x in the
1990s bull market came back to historical levels in the 2000s 26
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FRUITS OF “KARMA”

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 Bajaj Finance - Quality?

Bajaj Finance TTM FY18 FY17 FY16 FY15 FY14 FY13 FY12 FY11 FY10 Gr x CAGR
Sales 13,442 9,967 7,294 5,382 4,032 3,092 2,163 1,392 910.1 14.8 40%
PAT 2,674 1,836 1,279 898 719 591 406 247 89.4 29.9 53%
ROE 20.5 21.7 21.1 18.7 19.6 22.0 24.1 19.7 8.0 2.6
PEx 54.9 38.1 35.0 29.0 22.8 12.4 9.7 8.3 10.4 13.0 2.9
PBx 8.4 6.2 6.7 5.1 4.3 2.2 1.7 1.7 1.9 1.0 6.1
Mcap 146,750 101,787 64,206 37,106 20,481 8,905 5,719 3,370 2,559 1,165.7 87.3 75%
% of Float owned
by FIIs 45% 43% 46% 43% 35% 30% 18% 13% 13%

Max Drawdown from recent peak -36.2%

• Cheap valuations for multiple years after performance started as

market takes time to digest. Now PBx = PEx 6 years ago
• Earnings increase by 30x and market value by 87x in 8 years
• Business now considered worth holding for 10 years, but returns
for decades made in SageOne:
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Valuation is super sensitive to discount rate
Years 1 2 3 4 5
Capital 100.00 120.00 144.00 172.80 207.36

PAT 25.00 30.00 36.00 43.20 51.84

Return on Capital (ROCE) 25% 25% 25% 25% 25%
Reinvest 80% 80% 80% 80% 80%
growth 20% 20.00 24.00 28.80 34.56 41.47
Payout 5.00 6.00 7.20 8.64 10.37

Extected Return 12% 0.89 0.80 0.71 0.64 0.57

4.46 4.78 5.12 5.49 5.88
Present Value 1,538.75
fwdPE 61.5 ttmPB 15.39

Years 1 2 3 4 5
Capital 100.00 120.00 144.00 172.80 207.36

PAT 25.00 30.00 36.00 43.20 51.84

Return on Capital (ROCE) 25% 25% 25% 25% 25%
Reinvest 80% 80% 80% 80% 80%
growth 20% 20.00 24.00 28.80 34.56 41.47
Payout 5.00 6.00 7.20 8.64 10.37

Extected Return 18% 0.85 0.72 0.61 0.52 0.44

4.24 4.31 4.38 4.46 4.53
Present Value 267.57
fwdPE 10.7 ttmPB 2.68

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 Avanti Feeds - Quality?

Avanti Feeds TTM FY18 FY17 FY16 FY15 FY14 FY13 FY12 FY11 Gr x CAGR
Sales 3,393 2,616 2,018 1,781 1,132 648 393 208 16.3 49%
PAT 465 227 159 117 70 30 28 4 131.7 101%
ROE 55.8 42.9 46.4 52.4 45.8 27.6 34.4 5.2 10.8
PEx 14.9 22.7 15.6 11.5 12.0 6.7 3.0 2.7 8.2 2.8
PBx 4.4 9.8 5.3 4.3 5.3 2.6 0.7 0.8 0.4 23.6
Mcap 4,695 10,137 3,366 1,809 1,396 472 91 77 29 350.0 131%

Max Drawdown from peak -65.2%

• Cheap valuations for multiple years after performance started as

market takes time to digest
• Earnings increase by 131x and market value by 350x in 7 years
• Business probably not worth holding for 10 years, but returns for
decades made in 3-5SageOne:
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 La Opala - Quality?
La Opala TTM FY18 FY17 FY16 FY15 FY14 FY13 FY12 FY11 FY10 Gr x CAGR
Sales 259 235 249 223 178 154 115 96 75.0 3.5 17%
PAT 73 62 59 42 30 23 13 9 2.8 26.5 51%
ROE 15.7 18.7 28.1 29.5 34.9 35.3 25.0 22.4 7.5 2.1
PEx 33.8 42.9 48.0 56.1 50.2 25.1 14.6 9.0 6.8 15.3 2.8
PBx 5.0 6.3 6.9 14.2 11.3 7.7 4.5 2.1 1.4 1.1 5.6
Mcap 2,464 3,149 2,986 3,293 2,093 751 334 114 63 42.4 74.2 71%

Max Drawdown from recent peak -49.9%

• Cheap valuations for multiple years after performance started as

market takes time to digest
• Earnings increase by 26x and market value by 74x in 6 years
• Business probably not worth holding for 10 years, but returns for
decades made in 3-5SageOne:
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 PI Industries - Quality?
PI Ind TTM FY18 FY17 FY16 FY15 FY14 FY13 FY12 FY11 FY10 Gr x CAGR
Sales 2,277 2,277 2,096 2,097 1,762 1,246 957 792 595.3 3.8 18%
PAT 367 460 312 246 188 97 104 65 41.9 8.8 31%
ROE 20.8 33.1 30.3 31.0 30.8 22.9 39.4 38.8 37.5 0.6
PEx 30.2 33.3 25.1 25.0 33.8 20.1 18.0 12.9 10.0 7.1 4.7
PBx 5.8 6.4 7.1 6.7 9.3 5.5 3.3 4.1 3.2 2.3 2.8
Mcap 11,095 12,245 11,520 7,781 8,313 3,787 1,750 1,333 654 298.6 41.0 59%

Max Drawdown from recent peak -33.2%

• Cheap valuations for multiple years after performance started as

market takes time to digest
• Earnings increase by 9x and market value by 41x in 7 years
• Business probably not worth holding for 10 years, but returns for
decades made in 3-5SageOne:
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Key to Active Investment
• Most importantly realize that it’s HARD WORK

• Stay away from BIG Blunders

• Generate market returns for 80% of your portfolio (market

returns ~ 13%/yr)

• BUT, for the 20% of your companies find companies from the top
30 performing stocks during the decade (average return 40%/yr)

• Your returns would be double of the market (25%/yr)

• IF goal is to beat the market by 4-5%, don’t bother about

this hard work. Just sit back and relax, but don’t forget

13% Compunding for 20 years 11.5 x

18% Compunding for 20 years 27.4 x
25% Compunding for 20 years 86.7 x
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“SET YOUR HEART UPON
YOUR PROCESS AND
NOT ON ITS REWARDS”

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Email: [email protected]
: @SamitVartak

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