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Saturday, October 14, 2017

The Indian share markets are in a funny mood...

Sometimes the Indian Market Makes Me A Crazy Person

Saturday, 14 October 2017

Kunal Thanvi, Research analyst
The Indian share markets are in a funny mood...
Real estate companies are abhorred but housing finance companies are market darlings.
Information technology stocks are struggling but staffing companies are market favourites.
Obscure turnaround stories are embraced, but genuine profit-making companies aren't given a second glance.
'Story stocks' are taking over 'moat stocks'.
Primary markets are taking over secondary markets.
Investment rationales are ... pardon my language, complete rubbish.
At times like this, I prefer talking to myself than engaging with market participants.
I may sound crazy, but yes, I do talk to myself. It keeps me grounded - so I don't start bleating my way into the herd.
Last week when one little regional brand got valued higher than a widely known, far more profitable national brand, I got really nervous...
Am I missing something, I asked myself.
Which led me into a whole new conversation with myself...
You're a value investor... tell me, what is value investing?
    Ummm... easy question. It is buying businesses that are available at discount to their intrinsic value.
And how, dear self, is shareholder value created over the long term?
    By running a highly profitable business over a long period of time and earning above average returns on invested capital. EVERYbody knows that one.
Okay then, tell me this... What kind of brand do YOU prefer: regional or national?
    Regional of course - or 'hyperlocal' - as the kids are calling it nowadays. They dominate a region for a long period.

    Over time they try to become national and international.

    BUT beware: Regional brands will face higher risks than national brands.

    In fact, when they try to expand to other regions they may find that one region may have different economics than another, and lose their way.

    So, net-net national and international brands are more valuable then regional brands.
So should one ever ignore valuations for a great business or brand?
    Well, my favourite investor Charlie Munger believes it is better to buy a great business at fair valuations, than to buy a mediocre business at great valuations.

    But there's a huge difference between fair valuation and overpriced. One cannot simply go about picking up businesses at any price - no matter how 'wonderful' they are.

    Valuations are critical if you wanna make money in the stock markets.
Okay then, now that that is clear, back to the question at hand. What should I do when a recent IPO darling - even if it is one of my favourite little 'hyperlocal' businesses - crosses market cap of India's largest two-wheeler manufacturer?
Consider these numbers:
Regional Brand More Valuable than National Brand?
(Rs million)IPO DarlingIndia's Largest Two-Wheeler Company
Market Cap7,58,0137,36,402
Sales1,28,3383,09,582
Profit After Tax4,91732,293
Price to Earnings15423
Return on Equity (%)1836
Source: Ace Equity

Well the IPO darling is Avenue Supermarts - a strong regional brand that dominates the market in which it operates.
However, my question was - Is this more valuable than the National, rather International brand - Hero Motocorp Ltd?
The Indian stock market is screaming 'YES'.
Hero Motocorp's profits are around six times D-mart's. Its return ratios are double. It has a much larger scale and a stronger brand.
But this is not what the market is looking at.
It is valuing D-mart 154 times its FY17 earnings while Hero Motocorp is valued at 23 times.
We believe there is a fair price to be paid for any business - regardless of the popular narratives and rationales.
The rationale on the street for D-Mart's valuations is the scope of the company's expansion opportunities. But any valuation can be justified if growth is projected to infinity.
This is exactly what one of the brokerage firms did - projected all the way to FY28 to justify these insane valuations.
Greed and euphoria is leading many investors to forget the most crucial aspect of value investing: The price to be paid.
My 'self-interaction' got me back to senses. I highly recommend you give yourself a talking to as well.
The Indian share markets are in a funny mood... Reviewed by S. Chitra on October 14, 2017 Rating: 5 Sometimes the Indian Market Makes Me A Crazy Person Saturday, 14 October 2017 The Indian share markets are in a funny mood... ...

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