Mohnish Pabrai (Trades, Portfolio)'s curiosity was piqued when he discovered a forgotten Indian stock certificate that had appreciated 60 times in the 21 years since he purchased it. Stumbling into a sixty-bagger is one thing, but is it possible to identify the businesses that have the potential to be truly great opportunities? Pabrai thinks so.
In the first two parts of this series, we looked at some of the mental models that he uses when looking for great opportunities, which he talked about in a 2016 lecture at Peking University. In part three, we will look at the last two categories of great opportunities identified by Pabrai.
Category 4: Bankruptcies and other special situations
Companies undergoing bankruptcy might not be the best businesses in the world, but at the right price and under the right circumstances, they can be great investment opportunities. There are a lot of other special situations that can offer a good opportunity, like reorganizations and public leveraged buyouts. Pabrai described a special situation in which he did very well. Real estate investor Sam Zell had bought a bankrupt business with $630 million in net operating losses for $30 million.
Why would anyone want to buy a business with nothing but losses, you might ask? Tax efficiency. The idea was to take the bankrupt business, merge it with a highly profitable company and save hundreds of millions of dollars in taxes by using the losses of the bankrupt business to shield the earnings of the profitable one. After some initial challenges, they found an energy company that generated electricity by burning waste. By the time Pabrai had found out about Zell's scheme, the stock had risen from $1 per share to $9 per share. After he invested at $9, the stock doubled over the next 13 months and eventually quadrupled.
Category 5: Upside without downside
During the dotcom bubble, Pabrai was looking for a way to invest in internet companies. Like many investors, he felt the internet was going to be a huge factor in business, but wisely understood that he couldn't predict which specific companies would do well. To make matters worse, most internet companies were selling at high price-earnings ratios. So his solution was to buy stock in a bank called Silicon Valley Bank, which had received a lot of warrants from dotcom companies during the bubble.
Nobody knew exactly how much these warrants were worth, so there was some uncertainty inherent in the investment, but Pabrai figured out that there was a lot of potential upside with little downside:
"If those warrants turn out to be worthless, we don't lose any money. We still have the bank. And if they do turn out to be worth something, then we have a huge, huge run. We made about two and a half times our money in two and a half years on the stock."
Silicon Valley Bank, which is a subsidiary of SVB Financial Group (SIVB, Financial),would eventually go up 5 times from where Pabrai invested as a result of the monetization of the warrants by the bank.
Disclosure: The author owns no stocks mentioned.
Read more here:
- Mohnish Pabrai on How He Stumbled Into Owning a 60-Bagger Stock, Part 2
- Mohnish Pabrai on How He Stumbled Into Owning a 60-Bagger Stock, Part 1
- Seth Klarman: Short Selling Should Not Be Banned
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