Approaching a stock with a multibagger mindset is arrogance, says Bharat Shah
"Quality of management is the first principle of investing" says Bharat Shah.
How do you view the current situation in the market? Is it a good time to go value buying? How does one navigate this market?
Value buying is a perennial, forever exercise. No matter what the state of the market, you want to buy quality businesses at prices that are presenting value; in other words, at a discount to its intrinsic worth. That is what value buying is. Therefore, there is nothing specific about this time or that time. In the current market, there has been a dramatic restructuring and dramatic reforms have been unleashed. Just to name a few, GST has been cleansing the behaviour of businesses, demonetisaiton has been an effort to clean up behavior of individuals. RERA is aiming to clean up the biggest and probably one of the murkiest sectors of the country, which is real estate. It has been painful, but very necessary, exercise of cleaning up of the rubbish on bank balance sheets, which is altering both the lending and borrowing culture. For the first time, the Insolvency and Bankruptcy Act has put the fear of God into the minds of big industrialists and the promoters, who otherwise would not have surrendered the assets that they have clutched on to irrespective of whatever was the record in terms of doing what they had done with those assets.
These are very powerful structural changes. They have all combined together right now to change the character of the businesses. These changes are permanent in nature. To that extent, it is interesting to see the process of creative destruction, which is at work. Bad businesses and bad managements are being damaged. On the other hand, quality businesses and quality managements are flowering like never before. Bad capital and bad growth are getting retarded, and good quality growth, good capital and good businesses are thriving. This change is materially important, here to stay. To that extent, all investing has to reflect that reality.
Apart from the measures announced by the government, what else would you like the government to come out with to ensure that the economy gets back on track quickly?
As far as businesses are concerned and as far as economic activity is concerned, it is really the private side which has the responsibility. The role of the government is to provide necessary enabling laws, which in my opinion the government has been doing very effectively. Of course, there are some areas where reforms are still pending, such as land acquisition and labour reforms – there has to be some flexibility in terms of the ease with which one can hire and relieve labour. An important thing is to achieve parity in taxation on the agriculture side, which has been exempt. Agricultural income above a certain level, I think, must be taxed judiciously. Beyond that, I do not think there are too many things the government really needs to do. There have been clamours from certain sectors. For example – auto and some other sectors will demand this concession of GST or that concession, and I think the government has rightly not done any of those. The deep tax cut that has happened on the corporate side is a very powerful change. It is a permanent import, and not a one-timer. This is a more durable and it is a far more fundamental and fair change, because it can help everybody judiciously the same manner. These kinds of reforms are important. On the personal income-tax front, I would hope at some stage there will be some matching deduction. And yes, I would say a significant part of the public sector really needs to be privatised.
So, privatisation, reform on the personal income-tax, agriculture tax, labour and land reforms – these to my mind are among the significant remaining blocks. The government has done most of the other things, I would say.
You have seen many market cycles over the decades. Which sector have been the best value creators for you?
Identifying a performing sector is a very temporary activity. Investing is not about finding a sector. It is not about finding a fashion or a trend or a theme. It is not about judging an index or making some index predictions. Investing is a bottom-up art. It is about picking and choosing quality businesses run by quality and dependable managements. You can look for businesses that are sitting atop a large chunk of opportunity where the fundamental capability to grow is visible. Growth is vital, because without growth, equity becomes like a bank fixed deposit and after a while a negative bond. The task is to buy into that superior value-creating machine with some margin of safety, so that the underlying growth becomes annuity returns and the margin of safety is a one-time extra icing on the cake. That bottom-up stock selection and discipline is the approach. In addition, it requires wisdom to sit on a few good things that you have found, and not part with them in a whimsical or temperamental way for the temporary change or oddities in market behaviour. Not surrendering is vital.
Can you name some of the multibagger stocks that have delivered for you over the past decades – stocks where you really had the conviction?
Well, multibaggers happen. Many times, we think we are approaching a stock with a multibagger mindset in advance. I would say that is arrogance. You probably may figure out that a business represents enough virtues for it to be bought. Most importantly in a multibagger, it really happens when you buy a virtuous bundle of attributes or a package and you have the sagacity and wisdom to sit on it for a long period. It is the ability to sit on it for long enough duration, which actually has the greatest contribution to make it multibagger.
Whether it is Bajaj Finance or Bajaj Finserv or an Asian Paints or a Berger or a Pidilite or HDFC Bank or a Gruh Finance or a PI Industries, multibaggers happen when you identify the attributes. You can see that they are reasonably attractive as a combo and then you have the patience and wisdom to sit on them longer. Trying to predict multibaggers and buying them with that mindset is most likely to disappoint you and deliver inferior results. When Infosys was floated in 1990s and I had a good sense to buy it. It went up by a three-digit number, but did I really judge and did I know when I bought it that it is going to be some 150-times from the price that I bought? No. That will be utter arrogance to say, or it will be self-praise to say that one could judge everything in advance. All that one could judge was that here is a good management, people whom you can depend upon, right kind of professional behaviour and governance, that the business is a large-size opportunity, global in character and there were great attributes to the business which are amenable to value creation . On a conventional measurement also, the business was available at a reasonable price. Thereafter, it is just the patience of sitting on it in the market process, which made it multibagger. Think of something like Asian Paints. See if you had put Re 1 in Asian Paints 30 years ago, it is worth about Rs 850 today. In these 30 years, Asian Paints has not asked for a single rupee from you, no rights, no placement, no QIP, nothing. That is the beauty in a great high-quality business and the management that has sat on it for long period of time.
Over the past couple of years, we have seen a lot of first-time investors coming into the market. But these young investors are in hurry to make money? What do these young investors tell you?
I have not found anything of this kind. In fact, I have seen a growing maturity among our clients over time. The kind of questions they ask, the kind of periods for which they want to remain committed, their ability to ward off difficult phases in the market without losing patience is something which I growingly observe and appreciate. In my 31 years of investing career, if I think about the kind of questions and the kind of behavioural pattern of investors 20 years back, 25 years back or even 15 years back and today, there is a world of difference and there is far greater maturity, sensible behaviour and commitment to longer term and ability to discriminate that investing is not a ‘get rich quickly’ scheme. It is a journey over a period of time and that journey has to be done with patience and wisdom.
What is one lesson in value investing that you would like to pass on to the budding investors, particularly the millennials?
I think quality of management is the first principle of investing. One should never lose sight of it. A bad management can end up damaging even a good business in so many ways that you cannot imagine. Even if they do not end up damaging the business, they can certainly end up damaging an investment in a very bad way. Equally, bad businesses fundamentally just cannot create value. Finally, I would say errors of omission do not hurt you really, but it is errors of commission which can seriously set you back. When you miss something worthwhile and valuable, sure you lose an opportunity to make return from that good and healthy thing, but even if you have missed out something terrific you probably will get something else if you are on the right process and mindset, maybe less rewarding, but that is alright.
But errors of commission can really set you back. Errors of commission occur when you make those fundamental transgressions or errors either in judging the quality of a business or in judging the quality of management or you try to profit out of rubbish, hoping that somehow either you are too smart to get affected by it or you are too lucky that you will get away with it, Neither of this is a sustainable one.