Quarterly Letter: March 2021

 March 2021 

A lot of businesses’ valuations multiplied by significant amounts in the past quarter. Few biggest ones that deserve mention are- 

  • IIFL Finance (IIFL finance was trading at 0.5 BV till Oct’ 2020) has quadrupled and is now among the top 10 holdings . IIFL finance is run by first generation entrepreneur with great track record and significant personal wealth invested in the business , alongwith Fairfax financial governance standards that makes me comfortable to be associated with their lending business. 
  • NCC , which was trading at half the liquidation asset valuations despite being India’s second largest infrastructure company, has tripled in last 3 months. 
  • • Tata Motors has doubled . I highlighted the personal committment and skin-in-the game of the CEO and focus of Tata Motors to take it to next phase of growth and low debt business. Its progress in EV and Passenger vehicles has been something to be pleased about. We continue to hold it and be a part of the next phase of EV revolution that Tatas are focused on in Europe, China and India. 

I don’t intend to sell the above positions despite strong rally, till the time underlying business fundamentals remain strong, the businesses have tailwinds and the management is aligned with shareholders. I believe, in the current environment, holding them would provide better long-term returns than jumping the ships unnecessarily. 

The rest of the portfolio continued to show modest gains and provides room for future gains as the business results become steady. We continue to remain optimistic of these major positions. 

Let me highlight some of the changes that were made to the portfolio in the past three months. Due to sharp rise in India equities , I could not find any business (except one) that could be added in the current environment. However, the big mismatch in the US markets rally w.r.t tech v non-tech stocks continued to provide opportunities in traditional non-tech businesses. Some of these businesses I have been reading and looking for quite some time and was finally able to establish positions. 

1. In India, a sizeable position was established in Piramal Enterprises. Piramal management has a wonderful track record of 20%+ compounding for almost two decades and has taken benefit of economic cycles to buy/sell businesses. The 

position was established at around 1300 which provides considerable risk-adjusted return profile. Its two businesses (NBFC) and Pharma has a long-runway ahead . 

2. One major position that I am really excited about is Alibaba. Alibaba has been an incredible success and growth story over the past decade. It has established a dominant moat in China with its ecommerce business and is now starting to reap benefits of its cloud business investments. The recent Chinese government intervention to review Ant’s business and policies provided an entry point to take benefits of temporary market dislocations. I personally believe that such intervention has no impact on long-term business fundamentals. Infact, review of Ant’ financial businesses and enhanced capital requirements will make it better in the long run. We believe the group is as strong as ever and will be a key beneficiary of the China’s growth and dominance over the world in the next decade. 

3. Established a sizeable position at Fairfax Financial Holdings. Fairfax is run by Prem Watsa, a Canadian value investor , who has a track record of compounding capital by 18% over two decades. Fairfax’s stock has been a laggard over the past 7 years, due to losses on its short positions, and subdued investment returns on value stocks. However, its underlying insurance operations are stronger than ever and underlying long-term investments made by the company positions it well to provide 15%+ returns over the next decade. I was able to get into Fairfax at less than a book value valuation. Fairfax’s Chairman alongwith their directors bought significant chunk of stock of their own personal wealth , reestablishing the confidence in market dislocation.. 

4. Fourthly, a position was established in Liberty Global. Liberty Global is a European Cable, TV, Broadband and Mobile operator with market leading positions in the UK (via Virgin Media), Belgium (via Telenet), Swizz (UPC) and VodafoneZiggo (in Netherlands). I have liked the strong barriers to entry and sustainable FCFs this business provides via subscription business. On the top of that, you have a brilliant capital allocator at the helm (John Malone) , who has one of the best track record in the world to deploy FCF and generate shareholder returns. We were able to buy this business at significant discounts (40%) to the underlying private market valuations and around 20% FCF yield. The management is focused on reducing these discounts via its aggressive share-repurchases and the recently announced mergers with UK O2 and Sunrise (in Swiss) should provide long-term benefits to the business and its valuations. 

5. Fifth, a similar major position was added to BrightHouse Financial (BHF) , which is one of the largest US annuity and insurance company and was a spinoff of Metlife. The company records GAAP losses , due to mark-to-market hedging losses, leading to low market valuations . Additionally, low interest rate environment in US makes banking and insurance out of favor . However, the business has shown its resilience to generate strong FCF (even during Covid 19 equity markets and debt market crashes) and management took benefit of undervaluation to repurchase almost 50% of the stock over the last 3 years. Additionally, the management has a lot of skin in the game with their own money invested in the business . While there are always 

higher than normal risks in the Financial sector, we feel the valuations we bought was compelling enough to assume these risks for the significant possible upside. BHF is trading at 30% of Book Value. 

6. Lastly, just this past week, we made two new positions (GeoGroup) and CoreCivic. These are two REIT/Corp which provides services to US Federal and State Govt wrt their facilities for prisons, detention and rehabilitation centers. Recently announced policy by the Democratic government to not renew contracts with private operations led to nosedive of the stock prices. While there may be temporary earnings impact, however the top-notch quality of the real assets that it possess provides ample margin-of-safety even in the worst case scenario. Coupled with that we are getting 20%+ FCF yield and 12+% dividend yield at current prices to wait for market to return to normal valuation. 

7. No major position was sold /reduced and we continue to be optimistic of their prospects. Some positions that were very small portion of the portfolio (namely Chico Fas , Nabor Industries , Atlas Corp and Coal India) were sold with minor profits , as better opportunities were found to deploy capital stated above. 

8. Continued market undervaluation allowed more funds to be deployed this quarter to two of our top current holdings (Seritage Growth and Edelweiss) 

Before entering any new position in a business, serious consideration is given to the following points. The checklists and readings on the businesses are done to ensure the following- 

1. Protect downside with a significant margin-of-safety . 

Investment is a probability game and the bets are made wherein the odds are in the favor. It doesn’t eliminate the possibilities of a loss, as even tail events happen. The risk can only be managed by establishing positions in such a way that even if a significant hardship occurs on the business, the capital loss is minimal. 

2. Being associated with managements who have significant skin in the game (via fairly structured executive compensation and share in the business) or even better, wherein the management invests their own money into the businesses they run. This ensures the management is focused on long-term business value and not short sighted quarterly results. 

3. High returns on capital, highlighting quality of businesses, alongwith significant reinvestment opportunities for the business. It’s very hard to find such businesses at decent valuations, and typically very unusual times (live March selloffs) or temporary business problems provide such opportunities. 

Overall, the major theme of the portfolio continues to be associated with businesses which has long compounding runways (eliminating need to take decisions to sell them off and pay 

taxes) , have a shareholder oriented management and wherein we can associate with the business for the long-term with an owner mindset. 

Going ahead, I don’t anticipate major changes to the portfolio as I feel content with the positions that have been established . I am excited to look ahead and spend my time to continue to learn and be part of the growth of these businesses. Infact, I would welcome that some of these businesses stay undervalued for a quarter or two more, thereby allowing to deploy additional capital in them. This phase may result in saying no to most of the opportunities thrown at us, expanding watchlists , sitting quietly doing nothing and moving towards a state of inactivity. This is the best time to establish a good patient environment, remove focus on share prices and open books that have always been on the to-do-list . The biggest stupidity that could be done now is to look at share prices daily or weekly and be obsessed with them to do something. This reminds me of a quote from Blair Pascal “ All human problems arise from his inability to sit quietly and do nothing”. I hope to maintain the edge in the psychological game . 

Portfolio Holdings Summary (top 10) comprising 53% of the current portfolio

  1. Edelweiss Financial 
2. Tata Chemicals 
3. Seritage Growth Properties 
4. IIFL Finance 
5. Alibaba 
6. Fairfax Financial 
7. Brighthouse Financial 
8. Liberty Global 
9. Bajaj Holdings 
10. Tata Motors 

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