Partnership’s Lighthouse

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Basic Tenets:

• Information Processing: Equity decisions are based on limited information. Our focus remains on the evolving facts, and we don’t take the information on the face value due to the possibility of prevalent biases such as framing, and anchoring. Although we do our best to understand the impact of the information on the business, we also actively listen to the market’s reaction to the information on the business’s valuation. 
• Losing money in any recommendation: Stock investing is a game of odds and we can’t win all of them, although our process helps to ensure a well-rounded research. In case the position’s outcome becomes contrary to our expected outcome, we remain prepared to acknowledge and sell ASAP to limit the losses. Usually, recommendations are published when odds to win are at least 3X. Hence, winners will cover up for the losers. Overall, portfolio return is what matters and one should focus upon.
• Price volatility: It is not a defect but a perennial feature of the market. In our opinion, that’s what makes the market interesting. It keeps providing ample opportunities to a prepared mind. We focus on controlling the controllables. Firstly, we recommend solid businesses that shall emerge stronger after enduring difficult business conditions. Secondly, we recommend diversification unless you become comfortable investing in stocks and face temporary drawdowns gracefully. Finally, keep your investment horizon in mind. Volatility is eternal: It was there and will be there. 
• Valuation: Absolute methods such as DCF were developed for fixed income investments and have been extended to value the equities. They can’t provide concrete answers as key elements of the equities valuation are uncertain as well as subjective and the models require a long forecasting period to make sense of the ongoing valuation. However, when applied in a reverse fashion, they do help to think about prevailing expectations in the demanded valuations. Relative methods such as PE and EV/EBITDA ratios are another approach. However, no two businesses are truly comparable due to management’s discretion allowed under the accounting framework and nature of the businesses. Above all, prevailing market sentiments and management’s action can quickly change the valuation range for any business. In nutshell, there is no true way to be certain about arriving at the right valuation. Hence, our process focuses on protecting the downside potential.   

Fundamental Checks:

• Business: Competitive Advantage, Economics (substitution/obsolescence) 5, 10, 15 years in the future, Sustainable financing, Opportunity Size, Pain it alleviates, Proven and Scalable model, Potential ROE keeping in mind – leverage, assets, and accounting policies. Competitors results and viewpoint.
• Management: Able, Trustworthy: How free cash is deployed? Communication in difficult times, Sharing wealth with all, easy to listen to.
• Valuation: Odds in Favor (3:1), Capitalization Rate, Cheap for wrong reasons, Opportunity Cost, Investment’s holding Horizon, Margin of Safety, educated guess on valuation.
• Risks: Loss of capital and Lower rate of return. 

Technical Checks:

• Overall market sentiments using various index charts such as Nifty 50, Nifty Midcap 100, Nifty Smallcap 100.
• Exponential Moving Averages trend for 40 months (Long-Term Trend), 40 weeks (Medium-Term Trend) and 50 days (Short-Term Trend) on the price chart.
• Price pattern (either bottom reversal or continuation) visibility on monthly, weekly or daily charts.
• Major price supports and resistances on the chart and price pattern shall be supported by improving business fundamentals. 

Our Guiding Principles

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How I as analyst shall navigate?

• Compared to current prices, value or a catalyst to unlock the value must be evident.
• Among financial statements, balance sheet evolution carries the most weight and P&L carries the least weight.
• Business should be self-sustaining in terms of operating cash flows.
• Either the business has competitive advantage so that the value compounds with time or sheer undervaluation due to ongoing transient headwinds and reversal to mean is imminent.
• Avoid recommendations that may lead to loss of capital or below par returns or go nowhere with time. Both the technical factors and fundamental factors are favorable.   

How you as the client shall navigate?

• Equity research recommendations are based on incomplete information. Hence, no decision is certain. In order to overcome this defect, one shall distribute bets in a few names, preferably 5~10, as per one’s conviction and risk taking abilities.
• Volatility (change in share price, mainly down movement) is a feature of the market. It can’t be eliminated. However, one can benefit from it by buying solid businesses in times of distress.
• Equity compounding follows a non-linear path. Stay patient.
• No silver bullet exists. Equity prices are volatile and can change because of many reasons such as economy, regulation, competitors’ bad name or no reasons. One shall think about the impact of any such event on the business of your company before taking a decision based on the event.