Arohan’s investing life

Inherently value investing ignores macro issues. Warren Buffet does not believe in letting market decide what to do (top down macro approach), nor did Ben Graham have any use for macro considerations

The Efficient market theory attempts to neatly segregate risk into two parts: 1) company specific risk (micro), and 2) market risk (macro)

What Buffet and Graham tell us is to ignore the market risk (well not really ignore it, use the concept of “margin of safety” to cushion any curve balls that the market may throw at you) and focus solely on the company fundamentals. Is the company inherently strong? Does it have a growing franchise? And above all, is it attractively valued?

However, it is not always this simple? What if the company you are looking at investing in is a solid company with large marketshare, good management, provides services that are needed now and are going to be needed in the future, is very attractively priced, has good strong fundamentals, etc but the market conditions are such that the company has a potential to be forced into bankruptcy due to a ‘market collapse or breakdown’? A market collapse or breakdown that has the potential to push the country in recession, create major upheavals in the business environment, to the extent that there is a real fear that by the time US re-emerges from this, it may not be the most powerful economy in the world anymore

And what if a detached pragmatic line of thinking suggests that the regulators and the government will do everything in their power to ensure that such a collapse or market breakdown does not occur

You know, Chrysler at one time was a company knocking at the doors of bankruptcy. Very few had guts to invest in Chrysler stock at that time. Peter Lynch did, and he did it because he recognized that this is a company that is too important for the American economy to be allowed to fail

There are companies like that in the market today. I am of course talking about Financials. For starters, here is a list compiled by Jim Cramer of 10 companies that cannot be allowed to go under.

For starters, allowing a company like CFC or WM to fail does not do anything to fix the problem of bad loans in the system. These loans do not magically disappear. They will just migrate to someone else’s books. The problem is the bad loans and the breakdown it has caused in the market pricing mechanism. A solid response to this issue is to ensure that these companies survive and put in a process to slowly work out these bad debts over time. Just what Paulson is attempting to do now. If these lenders fail, the impact on the market and the confidence destruction will be enough to push US in deep recession ( and the problem will still not have been solved)

I realize that investing in these stocks at present time has an appearance of taking on too much risk. To me, this is an acceptable risk with low probability of permanent capital loss but with high potential rewards

Disclosure: I own stock in CFC, WM and BAC.

Note: Please do not invest in these or any other stock unless you have done your own due diligence. Standard disclaimers about this not being an investment recommendation, invest at your own peril, etc, etc, apply

Syntax-Brillian (BRLC) hosted a conference call today to clarify its changes in the business model with respect to China and provide guidance on business performance

Highlights:

- Revenues for FY08 under the old business model would be between 1.1 to 1.3 B. The street was expecting about 877 million
- In the new business model for China, the revenues were guided to be between 650-685 million for FY08 EXCLUDING China
- Revenues for current quarter estimated to be between 155 to 175 million under the new model compared to the estimate of 303 million. The estimate has not been corrected to the change in business model for China

It is clear that if the guidance is adjusted for the change in business model and if an apples to apples comparison is made, Syntax-Brillian is actually guiding HIGHER

The Business Model Change

Syntax-Brillian is moving to a royalty based model in China from its earlier direct sales model. The direct sales model created a cash flow problem for the company as its accounts receivables were regularly strung out for 120 days or more. With the new model, BRLC’s exclusive distributor will manufacture the TVs directly in China with Syntax-Brillian’s specs under the Olevia brand and will pay Syntax-Brillian royalties. This helps Syntax-Brillian in many ways:

a. It limits the A/R exposure from 100% of the sales to just the amount of the royalties. All royalties go substantially to the bottomline
b. It frees up the working capital (and the associated financing costs), which can be significant as China generally represented 50% of Syntax-Brillian’s sales in the past
c. Associated risks on payables, capital expenses, etc are transferred to the licensed manufacturer, and,
d. It allows Syntax-Brillian to renew its focus on rest of the world including North America

Additionally, since the units sold in China are produced in China, if China were to re-value its currency, this model would limit Syntax-Brillian’s exposure to the currency risk

All in all, this is an extremely positive step for the company

Here is the original Press Release issued by the company

Media reaction

It is interesting and disappointing to watch how the financial media is reporting this guidance. Here are a few examples

a. Syntax-Brillian Dims Outlook
b. Syntax-Brillian Outlook Trimmed On New Business Model For China Market; Stock Slides
c. Syntax-Brillian sees Q2 revenues below street| Stock hit

There are a countless positives that can be taken from the PR and the conference call, but a vast majority of the media articles have commented on the lowering of the projected revenue. And while they mention the change in the business model, none of these stories come out and clearly state that the new guidance on revenues is an apples to oranges comparison. While members of the media are not professional analysts, they need to do justice to their calling by presenting the story fairly. I have seen this with other stocks, media outlook is generally negative as the stock is bottoming and generally gung-ho when the stock approaches the stratosphere. Madness of the crowds I believe. Could it be they are advocating the agenda of the large short interest in this stock? Naaah, that couldn’t possibly happen, could it

While we can rant about this bias, it is wiser to take advantage of the inefficiencies this creates in the market place.

If you think you are right, ignore the market. It is just noise

Editor’s note (11/29/2007):
It is the day after the conference call and as hoped for, atleast one of the media outlets have taken a deeper look into the business model change and revised their opinion. See the latest article from Motely Fool’s Value Investing column

‘Hot Commodities’ as Jim Rogers would say, have been in an extended bull cycle for some time. Many pundits believe that this cycle will continue for at least a decade. Generally the commodity bull cycles are driven by either

a. Demand: for example, rapid industrialization, or
b. Supply: for example, years of underinvestment or reduction in capacity in this sector

This time however, both these factors are in play. Surge in demand comes from rapid growth in the BRIC (Brazil, Russia, India and China) countries and other emerging markets. Commodities demand has increased rapidly in China and India due to growth in the industrial sector as well as a massive buildout of infrastructure in these countries. The infrastructure needs are dire and are likely to remain so for some time, specially in India that has had decades of underinvestment in infrastructure (roads, airports, power generation, ports, you name it). 8%-10% annual GDP growth in these countries cannot be sustained for long unless the basic infrastructure is improved

Sterlite Industries (ADS: SLT) is a metals producer in India that produces Copper, Zinc, Aluminum, and Lead. This company is part of the Vedanta Resources that is listed on London Exchange. Shares of Sterlite trade on Mumbai Exchange as well as on NYSE (SLT). The ADS represent about 19% of the company. While the available information is quite sparse on these shores, here is a basic profile of the company

Essential facts:
- Mostly fully integrated producer with own mining operations
- Owns mines in Australia
- Claims to have the lowest cost of production for several metals in the world
- ADS trading at a PE of around 11, Market Capitalization around 16 Billion USD
- TTM revenues around $6.5 B, Net Income around $1.2B
- Sitting on $4.2B in cash on the books with debt load around $403 million
- Looking to grow and expand in India in different ways. One of the ways it plans to do this is by entering into power generation (it already generates all the power that it consumes in its operations)
- Also looking for acquisitions of mines outside India, if it makes economic sense

Many of the financial information can be seen on the Yahoo financials page.

This is a company that I have just started to look into. This appears to be a fairly or attractively valued stock in a generally overvalued commodities AND Indian markets and is a direct play on commodities and Indian growth (most of the commodities demand in India for infrastructure projects is still in the future). However, some more due diligence needs to be done before I can commit any capital to this issue. Please stay tuned to this blog for updates

Happy Thanksgiving to all my US readers!!!

Just a quick update for the readers …

Today CFC was too good to pass up and I bought. This is truly a contrarian/value judgment and goes with my conviction that the stock is severely undervalued

Here is another opinion that lays out a case for investing in Countrywide from good friends at The Tycoon Report

I also bought WaMU (WM) in the last week and I added to my position at BAC

With my holdings in LPX I am now well positioned for the eventual housing turn around

Whenever that happens

I am patient