FOCUS ON THE “COMPETITIVE ABILITY” OF THE BUSINESS
Most people are obsessed about news headlines like war, natural disaster, inflation, currency rates, fiscal deficit and political turmoil. Yet we all know that global macro events are hard to predict and impossible to control. “Don’t worry about things that you neither know about nor can do anything about. It’s not important. Instead focus your energies on what you can and should know well enough – the business of the company you are investing in,” says Rakesh Jhunjhumwala.
Like Warren Buffett, Rakesh Jhunjhunwala tries to avoid complex economic issues and hard business problems. He likes to invest in simple, understandable businesses. Rakesh refused to buy Himachal Futuristic, Global Tele and Pentasoft in their heydays. He chose to stick to Shipping Corporation, Titan Watches and the other tried and tested names. This echoes a well-known investment tip: Buy what you know.
Rakesh asks: Do you understand the business enough to be able to know what will happen 10 or 20 years from today? With Shipping Corporation, you know because shipping of goods will continue to happen for the foreseeable future. But you can’t predict that with technology companies which might have a hot product today but could see it become obsolete in five years.
STUDY THE ENTREPRENEUR’S VISION AND BELIEFS
While Warren Buffett talks about people he admires and trusts, Rakesh likes to use the word “entrepreneur” to describe what makes an invaluable difference to his investment success. According to Jhunjhunwala, believing in the vision and the beliefs of the entrepreneur and evaluating the risks that may not be perceived by the entrepreneur are the key success factors for an investor.
While studying the entrepreneur’s vision, investors should not forget to study industry realities, competitive landscape and historical track records.
LOOK FOR SCALABILITY
Rakesh Jhunjhunwala stresses growth considerations such as the scalability of operations. He likes to buy small caps that could quickly scale into large caps. Many analysts and investors debate on whether large-cap, mid-cap or small-cap stocks are better. “Forget all that and look for value,” he thunders. “If there is value in large cap, buy it. If there is value in small cap, buy it. But don’t obsess on irrelevant matters.”
Given a choice and all other things being equal, a mid cap or a small cap is a preferred bet because the valuations will be low due to obscurity and they might scale up quite quickly.
Safe utility stocks with limited upside are not for Rakesh. What’s the point in buying an electricity company where the return on investment cannot by law exceed a certain amount, asks Rakesh Jhunjhunwala. But he does acknowledge that electricity and utility companies could be part of a portfolio because they are defensive against market declines due to the consistent demand for their product and their predictable cash flows.
UNWEARYINGLY ANALYZE AND PATIENTLY WAIT
First, you must always remember that you are buying a business, not just a quote that bounces up and down. When you buy that business, it must be of a very high quality, one that is capable of growing over time. Having done your hard work, you must wait for the market to do its work and reward you. “Give your investments time to mature. Be patient for the world to discover your gems,” says Rakesh Jhunjhunwala.
When he bought Lupin it was just another mid-cap pharma company starting out into the world of generic drugs. What Rakesh Jhunjhunwala saw was a good, efficient management that knew its job, a debt-free status, a good product line up and a growing market. That’s all. Rakesh Jhunjhunwala bought and played the waiting game. When the market matured, Rakesh Jhunjhunwala raked in his millions.
Rakesh Jhunjhunwala also fondly talks about his investment in Karur Vysya Bank which he has held onto even after about 20 years since he bought them. He says that his paltry investment of Rs 2,000 is worth several crores today thanks to patience and conviction.
FORGET P/E AND ROE: LOOK FOR SOURCES OF PROFITS
Most investors fixate on the current sales and profit figures. They look at each quarter and focus obsessively on measures like return on equity (ROE). “That’s missing the wood for the trees,” says Rakesh Jhunjhunwala, “Look at the sources of profits. What are the reasons that will give rise to profits in the intermediate or longer term. Look at the factors and circumstances that will create an opportunity for businesses in the sector.”
Rakesh Jhunjhunwala gives the classic example of Infosys and Wipro. While the average Joe would have sat with his calculator analyzing Infosys’s & Wipro’s PE, ROE and nonsense like that, an astute investor in the 1990s would have realized that an internet revolution was coming in the next couple of years. He would have also realized that the off-shore business segment was booming, and he would have loaded up on those shares.
Rakesh Jhunjhunwala gives another example: Praj Industries, a company engaged in manufacture of bio-ethanol fuel. When Praj Industries started out, nobody realized the massive demand that would arise for alternate fuels like ethanol. Foreseeing future demands and big trends is the key to finding ten-baggers.
EXAMINE REASONS BEHIND A BAD QUARTER
Too many investors, influenced by a bad quarter or obsessed with short-term aberrations, lose sight of the big picture. Rakesh Jhunjhunwala emphasizes that he does not worry about quarterly results. If the results are bad in one quarter, he examines the results and look for the reasons behind the numbers. Are the quarterly results showing a trend and suggesting something? Is this a mere aberration or is there a trend?
The trick is to distinguish between short-term trends and long-term value. He cites the example of 1999 when investors bought truck loads of hot stocks like Himachal Futuristic, Global Tele, Pentasoft while he was buying Shipping Corporation and Bharat Electronics because he saw long-term value in them: People still need shipping and electronics. The Oracle of Mumbai says: Never get carried away by aberrations. Recognize and respect them. Remember that the market corrects its aberrations though it takes time.
Rakesh Jhunjhunwala advises that if the market behaves irrationally and punishes a stock for short-term issues, that’s the time for you to jump in. He cites the classic example of Titan Watches to prove his theory. Titan suffered a headline crisis when it went into Europe and lost a lot of money. Rakesh wasn’t alarmed because he knew that India’s prosperity and the domestic buyers were more important. Rakesh saw the future and knew subconsciously that Indians were going to buy far more watches and that the underlying business remained sound. “In a moment of crisis you can get cheap valuations, and if you can see the future where the product could have demand and growth, you should use the opportunity to buy.”
BUY DECISIVELY AND WITH CONVICTION
The biggest challenge that faces value investors is that things always look bloody terrible at the bottom. Therefore, people’s hands usually shake uncontrollably when the prices are hitting new lows every day. Traders would ride the downward wave, and investors would hesitate and procrastinate, questioning their own judgment. They say to themselves: “Well, did I make a mistake? Should I wait a little and maybe the price will drop a little more?” Lack of conviction and courage is the root cause for mediocrity. Almost every value investor could say: “Wow, I could have become really rich if I had loaded up on that stock 10 years ago…” And that’s a big “if.” The problem is that they didn’t spend enough concentrated time to develop the conviction and they did not act with unwavering courage, the hallmark of serious wealth.
Rakesh Jhunjhunwala talks about the power of conviction: “If you see an opportunity, grab it today!” Buy with conviction. The best opportunities often look like insolvable problems and hard work. Many wonderful opportunities are lost due to hesitation, procrastination and “thumb-sucking,” as Warren Buffett calls it. Many investors end up with life-long regrets that they saw opportunities slip away right under their own eyes. It is important to identify the opportunity. But that’s not enough. You have to be able to articulate the simple but powerful logic that most people miss. And above all, you have to be decisive. Value investors often get stuck in a trap where they are perpetually seeking extra information to validate their idea, while others wait and wait again for lower prices. In this, Rakesh echos Warren Buffett and John Maynard Keynes: If it’s cheap, buy it. Don’t pass up something cheap today in the hope that it will get cheaper tomorrow.
But how is Rakesh Jhunjhunwala’s investment operation different from Buffett in areas like riding trends and creating buzz about his stock? We will look into that next time. (To be continued.)
Brian Zen, PhD, CFA, is founder of Zenway Group, a New York-based investment advisory firm that provides family wealth creation coaching programs and tutoring services to children and their parents. Through newsletters, family learning parties, face-to-face tutoring and online classes, Zenway-certified Financial Tutors teaches children the craft of investing and helps their parents to grow family wealth. Dr. Zen appreciates your questions and feedbacks at: info (at) zenway.com.