Chemplast Sanmar: As Interesting as it can Get

Being in company of logical and rational people makes life pretty boring!!!
We need some logically challenging, brain dead, System-1 dependent people to make life funny and interesting. (For details for System-1 and System-2 and their workings, Read this.

Delisting cases are a perfect example of this theory at work. Give the powers of delisting to rational and logical institutional investors (These guys are also not absolutely rational but are more rational than retail investors) and you will come across pretty boring cases of India Sec, UTV and Patni Comp delisting.

But, try giving the majority of powers to irrational retail investors, you will get Afla Laval and Chemplast Sanmar kinda interesting cases.

Lets talk about Chemplast only as the rest is Past. Promoters announced the intention of buying back 25% of outstanding shares some time back. Now after the tendering process, the discovered price has come out to be Rs 15 per share (All thanks to retail investors). Currently the stock is quoting at only Rs 7.3. So, there is a possibility of 100% gain if promoter group accepts the dicovered price.

Will the promoters accept this price?
I see that as a low probability event. Company is going through a tough time and has been making losses for past 3 years and has high debt also. Offer doc clearly highlights these points.
Though Sanmar group has a number of companies but financial numbers don't look convincing enough for going through the delisting at such a high price.

However, the stock has an all-time high of 22/-. So if promoters think that the business will improve, they should go through the delisting.

Lets see what happens. I am gonna watch only from the sidelines. 

Short Term Stock Pick- 531795

Some Unique Disclaimers first-

• Forgive me Warren for having holding period of some part of my portfolio as Less than Forever!!
• I love mid & small caps because of the inefficiencies that exist in these markets. Its tough to find similar inefficiencies in the large caps.  

So, here it goes............
Atul Auto is a 3-wheeler manufacturer. It submitted an important announcement to BSE regarding Q4 performance here. Company has sold 7457 vehicles in Q4, a 26% increase YoY. Lets do some analysis to see expected numbers for Q4.

	4Q11	1Q12	2Q12	3Q12	4Q12E
					Worst	Best	Expected
3-wheelers Sold	5927	5583	6794	7166	7457	7457	7457
q-on-q growth			21.7%	5.5%	4.1%
y-on-y growth					25.8%
Revenues (in Crs)	63.72	60.98	75.26	79.68	82.92	83.23	82.92
per unit (in lakhs)	1.08	1.09	1.11	1.11	1.11	1.12	1.11
increase			1.4%	0.4%	0.0%	0.4%	0%
Net Profit (in Crs)	1.88	3.29	5.06	3.09	2.45	5.60	3.22
Margin	3.0%	5.4%	6.7%	3.9%	3.0%	6.7%	3.9%
				YoY	31%	198%	71%
EPS	3.21	5.62	7.41	4.32	3.24	7.41	4.26
				YoY	1%	131%	33%

So, in short, I am expecting a 33% growth in EPS & 70% growth in net profit, which makes it a good short term opportunity. So, a 10%-15% jump after the results along with 3.5-4.5% dividend is a very likely scenario (Because 6 P/E stocks are expected to post drop in EPS and not growth).

FAQs 

• Market has ignored the good sales numbers announcement. Why will it react to good EPS announcement?

A- Its not certain that it will surely react. But, I believe, there are enough lazy participants who just make their decisions on YoY EPS growth & I am expecting them to react.

• In the worst case scenario, we are getting no growth in EPS. How likely is that possibility or even worse, a drop in EPS?

A- I see that as a less likely scenario.

• What if market crashes before the result or EPS is not that good or stock stays at same price even after the result?

A- In that case, you will end up holding a debt free company with a decent dividend yield having a top-line growth of 40% and available at 6 P/E. Not that bad as a long term pick either!!!!

HEADS I WIN, TAILS I DON'T LOSE!!!

Am I missing something?

RANDOM THOUGHTS

The BUDGET- So, finally, we have the Budget & all the analysis paralysis related to it.

How much impact it had on your investment portfolio?

If the answer to this question is MAJOR IMPACT, you are in trouble. Because, if subsidies/ duties/ bills/ service taxes can have a major impact on your investments; then, in all probability, it means your company is lacking Pricing Power; one of the most, if not the most, important attributes that a business must have to become a long term investment. (Minor Impacts are fine and Margin of Safety is supposed to take care of that.)
ITC is a good example in this case. It tends to underperform the market before the budget due to fear of increase in duties on cigarettes. But, even a simple historical analysis/ personal use of cigarettes can tell that ITC has Pricing Power & will be able to pass on any hike to its customers without having any effect on the demand.

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Talking of Pricing Power, comes an important question- What kind of companies have Pricing Power?
Out comes a quick response: Companies that provide some essential good/ service and they are the only providers will have the best Pricing Powers. In business jargons, it would be Inelastic Demand met by Monopolies. Right?

Not always. What better example of a business monopoly catering to Inelastic Demand than Indian Railways? :) Saw what happened after Rail Budget? Poor CEO (Mr. Trivedi) thought of verifying his business' Pricing Power but lost some Mamta in the process.

Coal India supplies more than 80% of required coal to the country & power plants that want coal only want coal.... Inelastic demand + Monopoly. Pricing Power? Again, No. They increased prices recently but again went back to earlier prices. The company's decision to go back on the recent price hike has angered a minority shareholder (UK based Hedge Fund). Helpless Minority Shareholders!!!!!

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Talking of Minority Shareholders, I had written some time back, that as a minority shareholder, you should love your stocks but after knowing Till When. OCCL answered Till When part too soon for my liking. How? This way..... I love you OCCL until You make a STUPID ACQUISITION. Details are here.
Basically, they are acquiring a loss making company having terrible business dynamics and high debt for 15 crs at a time when their own balance sheet is not that strong and is filled with capex driven debt.
Why? In M&A whenever in doubt, call it SYNERGY. (Man is Rationalizing Animal, afterall)

You, Me & IPO

2012 came with some good time for secondary markets. If secondary markets are doing good, primary markets also try to catch the action.... (Envy, Recency Bias, Social Proof)

So should I invest (or speculate) in primary markets i.e IPOs ?

Thinking in terms of probable outcomes should help....
1) IPO is Either Good or Bad... By Good IPO, I mean either good company at fair price or fair company at bargain price. You can get some indication of goodness or badness of a company through IPO grading. But always take that grade with a pinch of salt... (IPO grader gets money from the company he's grading... so Incentive Caused Bias comes into play)

2) Market will either apply or won't apply... Apply means 10-25-50-100 times over-subscription while don't apply means just full subscription or under-subscription.

Knowing this comes my decision... Apply or don't apply?

	Good IPO				Bad IPO
	Market applies	Market don't applies			Market applies	Market don't applies
I apply	Negligible GAIN	Huge GAIN		I apply	Negligible PAIN	Huge PAIN
I don’t apply	Look A Bit STUPID	Can buy after listing		I don’t apply	SAFE	SAFE

The above decision process is self-explanatory.
But it deals only with the magnitude... What about probabilities?

There is more probability of market applying to good IPOs and avoiding bad IPOs. So, there is much more chance of landing in green cells in the above shown decision process table...
And what's the probability of the next IPO to be Good?
Not too high either... Why would an informed seller leave too much on the table for an ignorant buyer?
So more probability of being in Table-2 than in Table-1.
So the most probable final outcome is going to be- APPLY- HUGE PAIN; DON'T APPLY- SAFE.

Where is MCX ?
Monopoly (82% market share), presence of economic moat, PE of 17-18 (on 2012 annualised E), high ROCE made it a Good IPO. 5/5 by CRISIL justifies this opinion. So, we end up in Table-1.
So, in all probability, Market had to apply. Market goes all-out & applies more than 25 times the desired quantity.
Result, If I applied- Negligible Gain or If I avoided- Looking a bit Stupid. Though 25 times over-subscription significantly decreases the magnitude of both the possible outcomes.

And by the way, is it a Good IPO?
Its a good company, and should get 25 PEs IMHO. But at normalised E. Due to recent run-up of gold and silver & muted equities, E looks on the higher side to me. If equities do well for 2-3 quarters relative to gold and silver OR something happens to China, Earnings may well correct for MCX.
That will be a good time to enter!! 

Mistakes- (Direct and Vicarious) & Blowing Up

We, human beings, tend to make a hell lot of mistakes in our life time.
So... Is it Ok to make mistakes?
Tried asking this by Google Uncle & found the following answers-

"If you don't make mistakes, you aren't really trying."                                           -Coleman Hawking

"The man who makes no mistakes does not usually make anything. "                    -Edward Phelps

"The greatest mistake you can make in life is to be continually fearing you will make one." -Elbert Hubbard

"If you aren’t making any mistakes, it’s a sure sign you are playing it too safe."     -John Maxwell

These kinda quotes makes me believe its good (even great) to make mistakes.

So, I, hereby, plan to decide to make at least one mistake everyday!!!

How's that for a plan?? Exactly its Idiotic.

So what should we do with mistakes?

I would say our aim should be learn a lot from vicarious mistakes, make less of direct mistakes (and learn from them, if made) and absolutely avoid Blow-ups. 

Let me explain the terms-

Direct Mistakes- These are the mistakes made by us. We should try to minimise them & learn from them because its a painful and time-consuming experience to make these mistakes & you won't go anywhere if you make all the mistakes yourself.

Vicarious Mistakes- These are the mistakes made by others. These should be our maximum source of learning. As Munger puts it- "You don't have to pee on an electric fence to learn not to do it." 

You should read newspapers not to know what's going around but to see a lot of vicarious mistakes made by others. And you should also use your mistakes in one field & learn from them to not make mistakes in other fields.

Blow Up- I don't know who coined this word but it was introduced to me by Taleb. It essentially means making such a huge blunder that you don't get a 2nd chance to rectify your mistake. Once you make it, and that's it, you are gone. Gone forever. No Second chance.

What causes Blow Ups?

Being a lollapalooza outcome, it has to involve a number of factors.....

Bad strategy + Excessive Over-confidence (Excessive Leverage) + Bad- luck = Blow-up

All three are essential for a complete blow-up.

If you can avoid blow-ups (Blow-Ups, and not Blow-Up, because we can blow-up one field of life & can still have a normal life in other fields of life & hence have a chance to blow-up other fields as well) you should do OK in life even if you don't learn anything from vicarious experiences. If you do learn from then as well, you should do super...

Feeling SAD???

What a super start to 2012 for our equity markets........
Sensex above 17K, Nifty above 5K. India is one of the best performing markets YTD. A lot of beaten down stocks of 2011 (Banking, Real Estate, Capital Goods) have even outperformed indices.

How's your portfolio doing? Obviously, up from 2011.
Are you Sad and cursing yourself for not putting all of your cash & cash eq into markets in 2012?

If Yes, then you are suffering from Hindsight Bias.

As Taleb says-  Quality of a decision is not determined by the outcome.

Putting everything in equities 1 month back was not a great decision- There was a possibility of more correction due to problems in EU and US and policy issues in our motherland. ( Interestingly those problems are still very much there, but Mr. Market has forgotten them for now.) And by putting everything, you would have missed ability to buy cheaper (if you would have got a chance).
Though due to Luck, putting everything would have been a successful decision.

But we can't survive for long durations just by Luck.

As Howard Marks says-
There are old investors, and there are bold investors, but there are no old bold investors.

Putting some part into Equities? Hey that was must!!!
Some hint was given here. (Though I had no expectation of such a fast up movement)...

Why?
Why should I answer when I have the luxury to fall back to expert advise.....
“Be Fearful When Others Are Greedy and Greedy When Others Are Fearful” - Warren Buffett

Life = Interaction of Mental Models

If I am asked to write down my most important learnings during my two decades of education and two years of corporate world, Mental Models would be among the top.

Our Life moves a lot (if not entirely) based on numerous Big and Small decisions we & people we rely on, make thoroughout our lives. And those decisions are influenced a lot by Mental Models.
Those decisions go a long way in detemining where we end up....

Making/ Losing money in the stock market is just a small result of our decision making process affected by Mental models. Belief in God, Marriage, Education, Occupation etc etc all can (to a some extent) be explained by the Interaction of Mental Models.

Let me give an example-
After Satyam Fraud all other IT stocks also fell. Why? Big part of the reason is Social Proof, Pavlovian Misassociation and Representativeness Bias and Vividity.

Belief in presence of God is also nothing but Social Proof, Survivalship Bias, Confirmation Bias and Vividity.

The decisions we take will improve if we are aware of the Mental Models that are affecting us consciously and sub-consciously. And the tragedy of the wrong decisions is not just that we get the wong things, but we lose out on the good things. Always analyze Opportunity Cost before making a big decision.
And to understand the real picture, Zooming Out is necessary.

Wish you all the best for your decisions and Life!!