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Majesco: Insurance Software Provider in “Game-Changing” IBM/MetLife Deal

April 6, 2018 in Asia, Asian Investing Summit, Asian Investing Summit 2018, Audio, Equities, GARP, Information Technology, Small Cap

Mehul Bhatt of OysterRock Capital presented his in-depth investment thesis on Majesco Limited (NSE: MAJESCO) at Asian Investing Summit 2018.

Thesis summary:

Majesco serves the insurance vertical. It develops insurance software and has a well-received cloud platform. Majesco was a part of Mastek prior to a de-merger. The company offers end-to-end implementation and support, unlike some competitors who rely on systems integrators. Insurers depend on technology but their core IT systems are aging rapidly, causing problems. Insurers spend roughly $25 billion annually on IT products, platforms, and services. Majesco’s product suite includes a cloud offering, big data, and analytics.

While revenue is still modest at $122 million (2017), the company has made inroads into the insurance space and is recognized by Gartner as a top three player in insurance-related IT products, alongside DuckCreek and Guidewire.

Mehul views Majesco’s deal with IBM and MetLife as a “game changer”. Majesco has announced a five-year partnership with IBM to jointly offer a cognitive, cloud-based platform to insurance carriers. MetLife has joined the collaboration, paving the way for product innovation.

Mehul believes that Majesco’s recent market quotation understates value. Most of the investments in insurance products have been made upfront, and Majesco spends $15-20 million annually on R&D. The enterprise is attractively valued at less than 2x FY17 revenue (peer Guidewire trades at ~10x).

Listen to this session:

slide presentation audio recording

About the instructor:

Mehul Bhatt serves as Founder and Managing Partner of OysterRock Capital, a value-oriented investment firm. Previously, Mehul headed equity fund management for the portfolio management services business of HSBC Asset Management in India. Before that, he worked with Credit Suisse India Asset Management, where he managed discretionary equity and fixed income capital on the wealth management platform in India. Mehul is a mechanical engineer and a management graduate from the Indian School of Business.

CRE Inc.: Well-Run Developer and Manager of Distribution Warehouses

April 6, 2018 in Asia, Asian Investing Summit, Asian Investing Summit 2018, Asian Investing Summit 2018 Featured, Audio, Deep Value, Equities, Jockey Stocks, Micro Cap, Real Estate, Small Cap, Special Situations, Transcripts

Jiro Yasu and Patrick Rial of Varecs Partners presented their in-depth investment thesis on CRE Inc. (Tokyo: 3458) at Asian Investing Summit 2018.

Thesis summary:

CRE Inc. is a real estate company that develops and manages distribution warehouses. It is one of largest managers of such facilities in Japan. It develops a couple of warehouses per year and sells them off to its own REIT. It also gets the contract to manage them.

Revenues for the development business can be lumpy, depending on how many warehouses are developed and sold each year. On the other hand, the growing property management and REIT management businesses are recurring and quite stable.

Jiro and Patrick expect the market quotation to improve in the coming years as the weight of the recurring businesses grows. Japan needs more cutting-edge, large warehouses because many of the existing warehouses are aging and small. Many companies can cut logistics costs by moving to newer, larger warehouses. Also, the growth of e-commerce should provide stable demand growth for such warehouses.

At the recent share price, CRE’s market cap is 23 billion yen and enterprise value is 28 billion yen. A couple of warehouses are sitting on the balance sheet (will be sold this fiscal year). The sale proceeds and equity holdings explain most of the enterprise value, with little value assigned to the recurring revenue businesses.

Read an article by Jiro, entitled “A Snail’s View on Investing“.

Replay this LIVE session:

printable transcript slide presentation audio recording

The following transcript has been edited for space and clarity.

We have been honored to participate in these presentations since 2013, and we love to pitch ideas here. Some people have found our ideas interesting and contacted us, and we enjoy meeting those people globally. Let me start with some follow-ups on our past ideas before I move on to our new idea, which is a company called CRE.

Background

Our firm, VARECS Partners, is a Tokyo-based independent investment adviser. We started the business almost 12 years ago as a value investing firm. Value investing resembles a large tent – we have been trying out many different types, but we are narrowing down our focus these days.

Our strategy involves investing in undervalued Japanese equities. Typically, we focus on family-controlled businesses, and we prefer ones with high margin, modest growth, and a stable revenue stream. That’s where we are focused these days. We are long-term investors: our average holding is over five years. We have about 25 holdings in our portfolio at present, and maybe a quarter of them we have owned for over 10 years.

Our assets have grown a bit lately, and today we manage about $250 million. My family, which has a long history of running a brokerage business in Japan, exited a couple of years ago but invested about $20 million in that fund.

Our team is quite small – it’s Patrick Rial, Yosuke Yano, and myself.

Recap of Past Ideas

Since 2013, we have made four presentations. We first talked about two Japanese animation companies – Toei and Sotsu. We sold out of Toei in December 2015, but the share price has doubled since then, so it was too early to exit. We kept Sotsu, but this one has been struggling a bit. The share price has appreciated 80% since we made the presentation, and the company has animation rights, but it has had a tough time coming up with new hits. As a result, profit has grown only modestly in the last few years. The owner didn’t like the results and made a management change, so we are hoping for some progress at the company from now on. At present, 50% of Sotsu’s market cap is in cash, and it trades at only 5.4x EBIT.

In 2015, we presented a company called EM Systems. Its share price has performed well, more than tripling since the presentation. This is a software company providing software for dispensing pharmacies in Japan. It has the largest market share (30%) and has been enjoying margin improvement for the last two years, with operating margin doubling in three years.

EM Systems also has an immense property in Osaka. It still owns the building, which is fully occupied. We estimate the value of the building to be almost half of the current market cap.

Excluding the cash and property, the company is trading at around 6.5x EBIT, so this is still a cheap valuation for a highly profitable software company. Most of the revenues are of the recurring kind. Some similar companies overseas tend to trade at far higher multiples, so we are still keeping this as one of our largest holdings.

EM Systems is working on a major software upgrade and has partnered with some venture firms specializing in artificial intelligence. It has also started working with NEC, a huge Japanese software company.

In 2016, we made a presentation on an agrochemical company called Agro Kanesho. The share price has been performing well, appreciating 160% since then. Three years ago, the thesis was simple. The company has a lot of net cash on its balance sheet, so it is traded at almost no enterprise value. It has just started the development of three new products, and its R&D expenses have doubled, which has put some pressure on the operating margins. For this reason, the share price went down, and enterprise value became almost nothing.

We thought the high level of R&D would continue for some time, but if we were lucky, we’d have new products. Even if the company could not bring anything to market or failed in the development, it was okay because margins would come back as R&D cost went down.

Since 2016, the company has finished the development of one product. It gave up on another one and continues work on a third, so R&D costs have started declining this year, and we have noticed some margin improvement.

The company has bought land in Yamaguchi prefecture and is building a new factory, spending $40 million. The share price has appreciated a lot, but 50% of the market cap is still in cash, and it’s trading at 8.5x EBIT. This is still an attractive business to own for a long time, and we are keeping it as our core holding.

In 2017, we talked about a company called Amuse. This is a management company which has contracts with about 400 Japanese artists such as singers, rock bands, and actors. The share price did okay, appreciating by about 23%. Earlier in 2018, it traded as high as ¥4,000, but the share price has since corrected about 30%.

Amuse had quite a difficult year in 2017. One of its actors was involved in a scandal, and the company had to cover some costs for a movie. In addition, the vocalist of one of its major bands lost his voice, so they had to cancel some live events, and some new albums were delayed. As a result, the company missed its profit guidance, and the share price corrected from the high.

However, we still like the business and hope next year will be a good one for Amuse. The company will celebrate its 45th anniversary and is planning a lot of events for the occasion. Net cash makes up 40% of the market cap, and Amuse is trading at 7x LTM EBIT. We still have high hopes for the company and are keeping it.

Investment Thesis on CRE

CRE is listed on the Tokyo Stock Exchange under the code 3458. This is a real estate company focusing on logistic assets and is almost like a full-service company. Everything it does is related to logistics and warehouses: it develops warehouses, provides master-lease services for smaller warehouses owned by individuals, manages a public REIT, and offers other services related to warehouses.

The company is trading at ¥1,800 per share, and its market cap is a little over $200 million. It has used some debt, so its net debt is ¥5.7 billion, or about $54 million, which includes some debt for new developments. When it finishes development and sells the warehouse, it tends to pay down the debt right away.

CRE has two major investments: it owns a REIT and also has an investment in a service company specializing in the clean-up of contaminated land. The enterprise value is a ¥22.6 billion, traded at 4.2x EBIT and 6.3x price-to-earnings, both for the last 12 months.

This company has a good risk-reward profile. We always seek some downside protection. In the case of CRE, properties under development and investments sitting on its balance sheet represent almost 80% of the market cap plus net debt. We are paying ¥22 billion today, but almost $180 million or so is covered by assets. We see a 60% upside potential from here.

When speaking of growth prospects and valuation improvement potential, it should be noted we are a little behind in Japan in terms of the e-commerce penetration, lagging the United States and other countries. We believe this penetration will continue and will bring robust demand for warehouses in the future.

The company is also building a recurring revenue business, mostly the asset management business for their own REIT. The multiple will improve over the years as the recurring revenue stabilizes and profit grows.

Unlike most other Japanese companies, CRE is an excellent capital allocator. It has a great track record of acquisitions and a unique shareholder return program, which we like.

CRE was established in 2009, after the financial crisis. The owner set up a shell company and bought bankrupt warehouse operators.

The founding family still controls about 51%. Kenedix, another real estate company in Japan, has 14.7% and our fund owns about 9% of the company. Only 13% is owned by foreign investors. By the way, we are counted as a foreign investor because our funds are offshore. Excluding us, only 4% is owned by foreign investors at this point. The company went public about 2015, so it’s still new in the market.

If you look at the key members of the management team, you’ll see the chairman is 44 years old, while the president and the head of the REIT business are both 43. In other words, CRE is a company run by quite younger generation people who are also well-connected.

I’ve known the chairman, Mr Yamashita, since we were six years old; we grew up together. His family is famous in Japan – his grandfather was the first president of a Japanese quasi-government-owned oil exploration company. The family controls an extensive portfolio of real estate assets in Japan, so he’s well-connected to both real estate markets and financial institutions. This is a somewhat unique company because Japanese companies are mostly run by old people.

CRE went public on April 20, 2015. Before the IPO, I told my friend, chairman Yamashita, it was a stupid idea to go public because the share price moves every day and the CEOs of public companies sometimes get a call from angry shareholders. He would have to deal with many things he may not want to deal with. Still, he said he wanted to take the company public and ignored my advice. Right after IPO, the share price declined by almost 50%, and he called me up, saying maybe I was right. But it was too late, so he asked me to help realize some value.

We bought our shares in October 2015 almost at the lowest point, and we were able to buy some stock from the Yamashita family. The share price has been gradually recovering from the low and is now trading close to the IPO price.

The business model of CRE centers on providing a full range of services related to logistics real estate. These include development, leasing, master-leasing, property management, and REIT management. Every time CRE develops large warehouses, it sells them to its own J-REIT. As time goes by, it tends to develop about three to four new warehouses every year, so the AUM of J-REIT will grow over the years.

The company focuses on logistics and provides a full range of services. It prefers an asset-light business, so it doesn’t want to own the asset and sells them to the REIT. It is focusing on building recurring revenue.

In terms of development, the company is pretty much focused on its own projects, which comprise mid- to large-sized warehouses. In the past, it worked with some individuals, mostly farmers. In Japan, the farmers have been shrinking the farmland due to government guidance so they use the available land and ask CRE to build warehouses. Then CRE provides a master-lease service to such individuals or owners. These days, however, there aren’t many of them.

CRE also provides a property management service. Besides managing the warehouses owned by its REIT, it also buys warehouses owned by other REITs or real estate companies. By providing this service, it can learn which tenants are moving and what new warehouse a client wants. It gets a good deal flow and information by providing such services to many warehouses.

CRE Logistics REIT is a public REIT run by CRE REIT Advisors, which is a wholly owned subsidiary. Kenedix, which owns 15% of CRE, bought the stake in 2017 because it wanted to help the company smooth the IPO of the REIT. The REIT went public in February 2018.

In terms of revenue, property management was about 40% of the total in fiscal 2017 and accounted for 27% of the operating profit.

CRE Inc. — Revenue Mix

CRE Inc. — Breakdown of Operating Profit

Source: Jiro Yasu and Patrick Rial at Asian Investing Summit 2018.

Development revenue has been growing: it was only ¥7.8 billion in 2015 but almost tripled to ¥23 billion in 2017. The segment reported operating profit of ¥4.2 billion, and development contributed 70% of total operating profit in 2017.

CRE has the capacity to develop maybe three to four warehouses every year, but revenue could be quite lumpy because it depends on the size and location of a warehouse. The 2018 guidance has only ¥13 billion of revenue and operating profit of ¥800 million from development. That’s why the company is trying to build more recurring revenue, which will come from property and asset management.

We expect development revenue and property to be lumpy in the coming years, but the property management and asset management businesses will become a larger part of the company.

Regarding the balance sheet, CRE was quite levered a few years ago. But as earnings grew, the equity ratio improved a lot, and the company now has a significantly better balance sheet.

Speaking of property management, it provides property management services to the assets owned by its REIT and other entities. This part of the business has been growing, and another thing is the more steady revenue, but this is a master-lease service for individual owners.

In terms of area, property management is larger, but the profit from master-lease is way bigger. This business can pay all the fixed costs of the company. It has been keeping a high utilization rate of the master-lease assets.

CRE has been highly disciplined. It tends to focus on lower-risk projects, avoiding large warehouses as it associates them with higher risk. Also, it knows who could be the tenants for some of its new developments and tries to get pre-commitments.

Over the last few years, floorspace has been growing, but 2018 could be a slower year for the company. Still, it does have a good pipeline. It has also announced another land acquisition, which is quite large-scale and could increase the total floorspace of the pipeline by maybe 30%.

CRE Inc. — Overview of CRE Logistics REIT

Source: Jiro Yasu and Patrick Rial at Asian Investing Summit 2018.

Regarding the asset management business, CRE Logistics REIT currently has AUM of ¥96.6 billion. This number includes non-REIT assets. Long term, the company aims to grow AUM to ¥500 billion, which is almost $5 billion. It sounds as if it has a pipeline to build it to a billion dollars in a couple of years. Through our funds, we also own about 2% of CRE REIT because we believe the quality of the assets is quite high and the yield is attractive.

CRE Logistics REIT charges a management fee of 40 basis points (bps). There is an incentive fee of 5% of net income, which is about 10 bps. Also, when it buys and sells assets, it gets the acquisition and sale fees. When it buys assets from CRE, the acquisition fee is only 50 bps but 1% if it buys assets from other companies.

Assuming maybe 20% turnover, it can make another 10 bps from those fees, so the company will probably make about 60 bps from those assets. If it gets to a billion dollar AUM, it can make $6 million or so from this business.

There’s a virtuous cycle here. The company develops the warehouses that will drive AUM growth, and as the assets grow, it can easily issue shares for REITs, so that will give it money to buy more. By having a public REIT, the company’s capacity to do larger developments has improved.

When you compare it to other public REITs in Japan, you see CRE has maintained a highly disciplined approach to developments. It has mostly focused on the Tokyo area so far and has avoided super large-sized deals, perceiving higher risk in them. It has also been using leverage prudently.

The market cap is just ¥26 billion because the company went public only recently and is still the smallest of its peers. Currently, the REIT has seven properties, 94% of which are located in the Tokyo area, which is the highest proportion among peers. Some competitors have significant exposure to super large warehouses (over 100,000 square meters), but CRE has none of those. All seven properties are quite new, and the tenants have longer-term contracts, which makes us believe these are high-quality assets.

The yield is 5.3%, which is high and has to do with the fact the company is still new and small. Considering the quality of the assets, 5.3% is a highly attractive yield in Japan.

Let’s consider the growth opportunities in Japan. E-commerce penetration in the country is only 5.4% at this point, or about 2.7% behind the level in the United States. We expect e-commerce in Japan to grow: it’s ¥15 trillion now, and some research companies expect ¥20 trillion by 2020. As e-commerce grows, more warehouses will be needed, which will create robust demand for new facilities.

In terms of capital allocation, we consider CRE one of the few companies thinking about capital allocation logically. Yamashita set up his company in 2009 to acquire bankrupt businesses. In 2010, he only paid a ¥500 million to buy the master-lease and property management business of Commercial RE. This business now makes about ¥1.5 billion in operating profit.

In 2011, the company acquired another master-lease business, Tenko-Souken, which operates mainly in Kanagawa prefecture (next to Tokyo). Three years later, CRE acquired an investment advisory business called Strategic Partners KK. Today, that’s CRE REIT Advisors, which is the advisory manager of CRE’s own public REIT.

In 2015, the company bought a 20% stake in Enbio Holdings, which specializes in utilizing contaminated land. It paid about ¥800 per share, and Enbio is now trading at around ¥2,000, so it has more than doubled since the acquisition.

When my friend asked for help right after the IPO and the 50% drop in the share price, one area we focused on was the shareholder return program. The company has a stable business and a lumpy business, so we told the management simply paying a 30% dividend was not such a great idea. That’s because one year it has a solid profit and the next year a small one, so it would have to cut the dividend, which is not that good.

We want the company to grow its dividend every year. We also know its stable business will grow over the years, so the dividend policy is paying 50% of profits from recurring businesses (master-lease and asset management).

Also, I thought the company could do buybacks. There’s an opportunity for CRE to do this wisely because many people in Japan focus on short-term earnings. With this company, a large part of its profit currently comes from development. One year may be great, but the next could be a slow year, and it can see negative growth in operating profit and the share price may go down. The company can take advantage of this profit lumpiness and do the buyback when earnings and the share price are low.

It did some buybacks, using cash from development business to buy its own shares when the price was low. Since 2018 is quite a slow year, the company announced a ¥1 billion buyback program alongside its guidance – ¥1 billion is about 4.7% of the shares outstanding.

CRE Inc. — Intrinsic Value (yen in millions, except per share data)

Source: Jiro Yasu and Patrick Rial at Asian Investing Summit 2018.

With regard to intrinsic value calculation, we usually look at the deals in a similar industry. GLP was bought out in 2017, and there was previously a larger merger between AMB Property and ProLogis. These are quite high multiples because these companies not only develop warehouses but also own them and are structured as a REIT. An EBITDA multiple of 33 means 3% yield or something like that, so we can’t use this multiple to value CRE.

Asset management firms are a little easier to understand. There are some deals of independent asset managers bought out by larger groups. We see people paying over 10x EBITDA for some asset management businesses. This is the multiple we used to value CRE’s asset management business.

We applied 10x EBIT for property management, 6x EBIT for development (because of the lumpiness), and 12x EBIT for asset management. We also excluded the debt, which is only associated with the warehouse development and not used for business operation. We used normalized EBIT. CRE expects the development business to make only ¥ 100 million in 2018, but the company made over ¥4 billion in operating profit in 2017, so we cut in the middle and then used ¥2.5 billion as normalized EBIT for the business.

We came up with the business value of ¥26.6 billion. The company has cash and debt in investments and divided by shares outstanding, we see ¥2,900 as the intrinsic value and calculate a 61% upside.

Value per share will grow over the years as the AUM of J-REIT grow.

We have owned shares in the company since 2015, and it has good growth prospects. We hope the quality of earnings and the multiple will improve over the years.

The following are excerpts of the Q&A session with Jiro Yasu and Patrick Rial:

Q: Could you perhaps provide a longer-term perspective on this business in terms of how you see it evolving over a decade or two? How big can it potentially become due to the virtuous cycle existing between CRE and the REIT business?

A: The company has a good pipeline to grow AUM to a billion dollars. Its actual goal is $5 billion. Then the company can make about 60 bps. This amount, $5 billion, is the size of competitors like GLP and LaSalle.

We are conservative thinkers but consider $1 billion almost sure and don’t see $5 billion as impossible. I don’t know how quick it can achieve that level, but we hope it can happen in 10 years or so. The company will continue to develop about three to four warehouses every year, so maybe those revenues could be anywhere from $150 million to $300 million. It also recently acquired two plots of land, and one of them could become a $200 million-plus warehouse.

Since it has a large public REIT, the company should have more capacity to do more developments, so the virtuous cycle could accelerate over the years.

Q: Could you elaborate a bit more on the nature of the customer contracts they have? Are the warehouses highly customized for those customers, and for how many years are those warehouses typically contracted to the same customers?

A: Contracts can be 5 to 10 years, so quite long. In terms of customization, it all depends on the tenants, but CRE tries to build warehouse anybody can use. It tries to minimize customization, but the client sometimes wants better customization. That’s the negotiation it has to do. With pre-commitment deals, it usually does deeper customization and seeks longer contracts. This is a trade-off of sorts. If it customizes more, it will seek longer contracts. If there isn’t much customization needed, it will be happy with shorter contracts, so it’s a flexible negotiation.

Q: On the REIT itself, what is CRE’s ownership there?

A: CRE currently owns about 15% of J-REIT, which is a little over $30 million.

Q: What risk is top of mind for you regarding your long-term thesis here?

A: Warehouses have been great assets for many people. When they find a good location, the competition can become quite stiff, and CRE may have to pay a higher price to acquire the land. If it becomes too aggressive, it could lose money on new developments – it happened with some other firms. We like CRE because it is highly disciplined. It doesn’t mind saying no if it doesn’t see at least 15% gross margin based on a conservative estimate of rents.

However, its competitors could get quite aggressive, and because CRE is a disciplined investor, it might have a tough time finding new land. If it cannot buy new land, it cannot do a development and revenues can go down.

Still, we don’t want it to become too aggressive. That’s why its relationship with Enbio Holdings is important – Enbio has good technology to clean up dirty, contaminated land cheaper, and this will give CRE some advantage when bidding for new land. Also, CRE has strong relationships with many clients and tends to get pre-commitment from tenants. With pre-commitments in place, it can be aggressive on price and more likely to win the land. But there’s clearly the risk of stiff competition among warehouse developers because they have to compete with far bigger firms like GLP or LaSalle.

About the instructors:

Jiro Yasu has more than 15 years of investment experience in the Japanese equity markets including at Varecs Partners, First Eagle Investment Management and Daiwa Securities America. As the Representative Director of Varecs Partners, Jiro spearheads the investment firm’s efforts to identify mid-sized listed Japanese companies where corporate value can be realized for all stakeholders by working together with management. Jiro holds a BA in economics with a specialty in econometrics from Keio University.

Patrick Rial joined VARECS Partners in 2015 as Senior Analyst. He joined from J.P. Morgan Securities Japan where he worked in equity strategy and small cap research. Prior to J.P. Morgan, he was a product manager at Morgan Stanley MUFG Securities. Mr. Rial began his career as a financial journalist covering Japanese equity markets. He has been a CFA charterholder since 2011. He holds a BA in economics and history from Georgetown University.

Halyk Savings Bank: Dominant Deposit Share in Kazakhstan

April 5, 2018 in Asia, Asian Investing Summit, Asian Investing Summit 2018, Audio, Equities, Financials, GARP, Mid Cap, Small Cap, Transcripts, Wide Moat

Isaac Schwartz of Robotti & Company presented his in-depth investment thesis on Halyk Savings Bank (Kazakhstan Stock Exchange: HSBK) at Asian Investing Summit 2018.

Thesis summary:

Halyk Savings Bank of Kazakhstan is the largest bank in Kazakhstan, controlling 37% of Kazakhstan’s deposit base, bearing Central Asia’s century-old leading financial services brand name. Halyk had the #1 position as a result of its consumer banking franchise prior to its 2017 merger with the #2 bank, that dominated the corporate side – as a result, creating the region’s undisputed powerhouse.

With $28 billion in assets, $2.9 billion in equity, and 2017 net income of $540 million, at its $3.8 billion market cap, Halyk sells for a low 7 times earnings and 1.3 times book. In recent years, the banking industry was (too slowly) fixing its post-financial crisis liquidity troubles, but those problems have been solved through mergers and the setting up of bad loan AMCs. At the same time, no other banks are publicly traded with a meaningful float – thus, there isn’t a ready base of analysts following the Kazakh banks today (as there was during the boom years of 2006-2007).

In addition to a low valuation on present numbers, which are normalized, Halyk has significant growth opportunities from the internal growth of the Kazakh economy, and significant improvement potential from the integration of last year’s merger – which was a company with nearly the same size asset base, but much lower profitability, as it. Using conservative earnings growth assumptions and expectations of a reflation of Kazakh equity multiples in coming years, Isaac believes the shares have significant price appreciation potential.

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About the instructor:

Isaac Schwartz is the Portfolio Manager of Robotti Global Fund. In 2007, Isaac launched the Global Fund to apply fundamental investing principles in less efficient international markets. Isaac lived in Singapore and Hong Kong for a combined six years and had extended work stays in Istanbul and Beijing. He has complemented his bottom-up research with extensive travel throughout Asia and Southeast Europe to develop relationships in the markets in which he invests. Isaac has been invited to speak at Wharton, Columbia Business School, CEIBS in Shanghai, and other forums about investing in Asia and emerging markets. Prior to joining Robotti & Company, Isaac worked for Schiff’s Insurance Observer, an investigative journal focused on the property-casualty insurance industry. Isaac graduated from Wharton with a BS in Economics.

Suzuki Motor: A Play on the Underpenetrated Indian Auto Market

April 5, 2018 in Asia, Asian Investing Summit, Asian Investing Summit 2018, Asian Investing Summit 2018 Featured, Audio, Consumer Discretionary, Deep Value, Equities, GARP, Large Cap, Mid Cap, Special Situations, Transportation

Rajeev Thakkar of PPFAS Mutual Fund presented his in-depth investment thesis on Suzuki Motor (Tokyo: 7269; OTC: SZKMY) at Asian Investing Summit 2018.

Thesis summary:

Suzuki Motor Corp. is a play on the underpenetrated Indian auto market. India accounts for ~ 2/3 of the profits of Suzuki Motor. Penetration in India is 22 cars per 1,000 persons, as compared to 102 in China, 569 in Western Europe, and 808 in the U.S., based on OICA data for 2016. Maruti Suzuki (56.2%-owned by Suzuki Motor Corporation) sells almost one of every two cars in India. It participates in the high-growth Indian market and benefits from the gradual shift towards higher-value premium cars.

India has been a tough market for other players to profit from, as seen by the difficulties faced by General Motors, Volkswagen, Toyota, and Ford. Maruti Suzuki benefits from scale efficiencies and a wider network; it is the incumbent and has been in the market since 1981, as compared to the relatively recent entry of other players. Suzuki Motor benefits not only from the 56.2% stake in Maruti but also gets significant royalty income from Maruti. Apart from participation in the Indian auto space, Suzuki Motor has optionality in the Japanese, ASEAN, and European markets in which Suzuki operates.

The shares trade at a P/E of ~13.5.

Listen to this session:

printable transcript slide presentation audio recording

The following transcript has been edited for space and clarity.

Let me start by taking you through the auto sector in India before we look at Suzuki Motor Corporation. I should note that the overview reflects how we look at the sector and what we see in this company. I would urge participants to do their own research and not accept blindly the points discussed here. This is a general presentation dealing with ballpark values rather than precise point estimates.

Mary Barra, the CEO of General Motors, has said the auto industry will see more change in the next 5 years than in all of the previous 50 years. The reason is that numerous changes are happening in the auto space, creating quite a turmoil. For one thing, automobiles have long run on internal combustion engines, but today we see a big move towards electrification due to various reasons, one of them being the environmental factor. Down the road, it could be cost-efficiencies or moving away from oil dependence and its associated geo-politics.

We have also seen a big shift towards autonomous vehicles. There was an unfortunate incident that resulted in the first fatality in autonomous testing, but various companies are still doing research and field testing in this area. These include Waymo, which is part of Alphabet/Google, Uber, and Tesla, which has its own limited version of autonomy.

The other prevalent trend is the rise of app-based service providers like Uber and Lyft, Ola in India, and various companies in China and other parts of the world. This is a relatively recent phenomenon.

These three things — electrification, autonomy, and ride hailing/ride sharing — are setting the stage for a lot of business model innovation. There is talk that automobiles in the future will be provided as a service rather than as an asset purchase. People will maybe subscribe to a certain number of miles on a monthly basis. They would not own the asset but would have access to vehicles and mobility, usually on demand.

There’s an interesting review on YouTube by Tony Seba, who has also written a couple of books. You can check out his YouTube video on what is happening in the renewable and auto spaces.

Let’s look at where the various auto companies stand today. The situation in this sector today is one where value is in the eye of the beholder. At one end, you have General Motors, whose current market cap is about $53 billion. Then you have Tesla, which sometimes overtakes General Motors in terms of market cap and sometimes trades below it. According to recent numbers, Tesla has a market cap of about $58 billion.

General Motors, which has been around for many years, sells more than 10 million cars a year on a group basis and is a profitable enterprise. On the other hand, there is Tesla, which is essentially promising the new age. Its leader, Elon Musk, has a vision of electric cars taking over the world. One can bet on either camp — traditional auto or the new age.

In the Indian market, you have a company many people abroad may not have heard of. It’s called Maruti Suzuki and has a market capitalization of close to $41 billion, which is surprising when you compare it to, let’s say, General Motors. The number of cars Maruti sells is only about 15% or thereabouts of what General Motors sells in a year. Cars in India command a lower price; they are smaller and have fewer features, so revenue would be even lower compared to that of General Motors – Maruti’s turnover would be about 8%-10% of what General Motors has in a year. Why should this company be valued so much?

Suzuki Motor Corporation is the parent company of Maruti in India, with a market cap of about $26 billion. The investment hypothesis for Suzuki rests on four pillars.

First, more cars will be bought and sold in India in the years to come, and we will see significant volume growth in the country’s car market. The second pillar of the hypothesis is Maruti Suzuki will play a significant part in the future and is a company to reckon with. Thirdly, even if somewhere down the road we move from internal combustion engines to a world dominated by electric cars, we could have a situation where certain companies focus on car manufacture and outsource battery cells. If that is not the case and it becomes a prerequisite to manufacture battery cells, then maybe the incumbents would lose out. Finally, there are a number of factors which make a strong case for buying parent company Suzuki rather than subsidiary Maruti.

Let’s explore these pillars in depth, starting with volume growth. Why do we see volume growth in the Indian auto market? People argue the global auto market is at a saturation point and with ride sharing/ride hailing services offered by companies like Uber, we could probably see a decline in the number of cars manufactured and sold. However, these arguments are made primarily with the developed world in mind.

I have some data from 2016 and while it’s slightly dated, not much would have changed significantly since then. According to these statistics, the United States has 808 vehicles per 1,000 people, or 0.8 vehicles for every man, woman, and child. For India, the number is just about 22. It is lower even than numbers for other emerging economies or countries which are not that rich. China, of course, is richer than India, but it has 102 vehicles for every 1,000 inhabitants. There has been a lot of volume growth in China.

Given that India is on a path to GDP growth and becoming more affluent, there is a strong possibility of major volume growth and we see signs of it in terms of the numbers coming in. The number 22 relates to cars, not all personal vehicles. Some may know that many people in India ride motorcycles and if we take this into account, the number would be closer to 130. However, as India grows affluent and more people can afford four-wheelers, we see more cars being bought and sold in the country.

The rise of companies like Uber, Lyft, and Ola is a factor discouraging car ownership in the developed countries. However, the impact in a country like India is somewhat different. It is increasing accessibility, and people who cannot afford to buy their own car are able to use these services as and when required. In fact, it is helping the number of cars in the country increase. These services are challenging the traditional auto rickshaws or ‘tuk-tuks’ in the cities in India, and a more formal, air-conditioned car is gaining market share.

As India is urbanizing, public transport is failing to meet the needs of the population, and this is where personal transportation (personally owned cars or ride hailing services) comes into picture. In 2017, the market growth exceeded 9% and is expected to sustain this momentum for quite a few years down the line.

Next comes the question of why look at Maruti seriously and not any other company operating in India. Let’s start with market share: in India, Maruti accounts for every one in two cars sold. In other words, it has held a market share of around 50% over the years, and the rest is split between everyone else. At one point, Maruti’s dropped to as low as 43%, but the company has rebounded from that.

As for that dip, it was the result of two things happening. One, diesel was gaining market share in India, and Maruti did not have diesel engines for some time. However, it now has diesel vehicles plus the market has shifted back to petrol. Two, foreign auto makers were getting aggressive in India around 2010-2012. However, they have been unable to run adequately profitable operations and have been losing market share, with some even exiting from the Indian market, for example, General Motors.

Auto biggies like General Motors, Ford, Toyota, Volvo, and Volkswagen have all tried to enter India, but they have been unable to gain traction and grow volume. While some have withdrawn from the Indian market, others have scaled quite significantly down their ambitions and operations.

The question is why Maruti dominates the market, operating in a Coca-Cola/Pepsi duopoly situation but without the Pepsi. Why does Maruti control 50% of the Indian market and everyone else is left with the other 50%?

One thing investors need to realize is the Indian car market is different from the car markets in other countries. There is a great emphasis on value for money and the capital cost of the car. Besides, one cannot just recreate the models working well elsewhere and sell them in India – they have to be relevant for the Indian conditions. It could be something as simple as a high ground clearance given that the roads are not that great in India, with problems including potholes and waterlogging.

The other thing is India’s quite steep import tariffs. Whichever manufacturer builds cars in India has a big advantage over those that import cars or a significant amount of components. In other words, operators that have already achieved scale reap the benefit. A new entrant has to take a gamble and set up manufacturing capabilities without assurances it will be able to sell what it manufactures. Foreign auto makers which have tried to set up base in India and have been importing components have been at a big disadvantage in the Indian marketplace.

Maruti had a head start of more than a decade. Players like General Motors and Ford started in early 1980s, whereas the other foreign players came in the mid-1990s or even later. Maruti had a head start in terms of setting up manufacturing facilities, dealership networks, service networks, etc.

India is among the few countries where we drive on the left-hand side of the road. The steering wheel is on the right side, which requires certain adjustments to the car model.

Manufacturers trying to replicate foreign models in India are at a cost disadvantage. Around the world, airbags are a significant component of the safety aspect, and people usually prefer having those in the vehicles. India is a strange country where people do not even wear seatbelts in some of the seats. In many cases, they even have the pre-installed seatbelts removed. There’s no way an Indian buyer will pay for airbags, and people will always prefer a cheaper car model. Again, value for money is a big factor in India. In addition, driving speeds in India are typically slower than in other countries because you have narrower roads which are not in that great a shape for speeding.

A factor which people consider when buying a car is the service network and reliability. Allow me to share one of my own experiences to make my point. I was driving a Honda and something went wrong in a remote location. I couldn’t locate a service center to fix the car. In a similar situation, a Maruti dealer or service center would be there to get me up and running. Finally, I had to go to a Maruti center for help to get my car back on the road. Given its head start of more than a decade, Maruti scores high on this count, and others have not been able to match it. In fact, Maruti used cars get a better price compared to other brands for the same mileage and age. This is another factor working in favor of Maruti.

The company also has a trade-in program where existing customers can drop off their old cars and buy a new one. Maruti sells the refurbished vehicles with a service guarantee.

Gradually, some more affluent people are moving to costlier and bigger cars. Maruti has been leveraging its advantage in the entry-level cars segment to gain market share in premium cars. Maruti recently created a separate brand for the premium cars called Nexa. It has separate showrooms for the brand, which has been gaining good amount of volume. In fact, if this separate premium brand were a separate company, it would be the #3 auto maker in India. Despite its recent start, it has gained good traction.

Finally, Maruti is locking in major dealerships in prime locations across various cities, and competitors are finding it difficult to get good locations for setting up their dealerships. This is almost like McDonald’s occupying prime real estate in most locations.

This company recognizes the fact that somewhere down the road you could see electric vehicles taking off in India, so it has started doing some work. It is working on fully plug-in electric vehicles as well as hybrids, which run part of the journey on batteries and if the charge runs out, they have a combustion engine as backup. Maruti is working on keeping the overall car cost low and making appropriate models for India.

The important thing to note about the Indian market is that even if one were to see electrification take off in a big way, our market is more akin to, say, the Chinese market – a company like BYD would be more relevant for the Indian market than something like Tesla. We will not have the super-premium cars or cars with a lot of features and huge range. We would have a car market where the cost of the vehicle would matter significantly and even a lesser range would be an acceptable compromise for local buyers.

The parent company of Maruti, Suzuki Motor Corporation, has set up a joint venture in India to manufacture batteries for use in electric vehicles. The battery cells will have to be imported; they won’t be made in India. It is quite likely most EV manufacturers in India will outsource battery cell manufacture and import these components.

Just like in cell phone manufacturing, you can design and brand a phone and then outsource the production of chips, processors, batteries, and screens. Traditional auto companies in India will focus on vehicle design, safety, servicing, and things like that, while battery cells will be imported for the time being. Only when some scale is achieved will companies start setting up battery cell plants in India. We may not have giga-factories coming up in India soon; this will happen somewhere down the road.

We will not see traditional car manufacturers wither away and hand over the entire market to the new manufacturers like Tesla. We have seen the difficulties Tesla has had in terms of scaling up manufacture, and the likes of Nissan and General Motors have introduced electric vehicles of their own. Somewhere down the road, 5 or 10 years from now, it is quite likely Maruti will also make its transition into a player in the electric car market.

We are now left with the question of how one goes about investing in the Indian auto space if one is positive on the growth prospects.
Maruti Suzuki has done quite well in terms of profitability – its earnings have gone up 3x in the last 4 years. Margins have expanded and volumes have grown. There has also been a shift towards premium segments, which has also improved profitability. Sometimes the company hasn’t been able to manufacture enough cars to meet existing demand. In general, we have seen good volume growth and earnings traction, but the stock is quite expensive, especially when one considers the valuations of General Motors, Ford, or Nissan.

Let’s go back to Suzuki Motor Corporation, which owns roughly 56% of Maruti. This not only gives Suzuki a 56% profit share but also a royalty on every car sold that goes directly to the shareholders of Suzuki. If someone is investing in Maruti, they do not benefit from the royalty payments, nor do they benefit from the motorcycle and marine business of Suzuki, the battery joint venture it is setting up in India, and the soon-to-be-launched export unit. These benefits don’t go to Maruti shareholders in India.

Apart from the 56% ownership in Maruti, Suzuki is also a player in the Japanese market, in ASEAN countries, the European Union, and China. In addition to the car business, its a small motorcycle business, and marine and power product operations.

Let’s take two different valuation approaches to Suzuki. Firstly, we’ll try and value it independently, without considering the valuation of Maruti. Then we’ll do a sum of parts in terms of how much the Maruti stake and the balance business are worth.

Suzuki, whose market cap is $26 billion, booked a profit of about $1.65 billion in its last financial year. Roughly two-thirds of it comes from India and the remaining from the rest of the business. The profit share of Maruti is $0.64 billion plus a royalty of $0.41 billion. Suzuki is available at a P/E ratio of about 13.5 compared to 35 for Maruti. As a company with significantly growing sales volumes, especially in its Indian operations, it has seen its profits double in 4 years and has pretty decent financials in terms of return on equity and growth rate.

The bulk of the profits come from the Indian market. If other markets turn around or start contributing more, that is a potential upside, but we are not currently paying too much for the other markets the company operates in. They are not profitable for now. It can be seen as a participation in the Indian market with the optionality of an upside in the other markets.

Suzuki has seen its net income grow over the years, and the payout ratio is not high given that it has some capital expenditure to take care of the volume growth it is experiencing. But on a net basis, it does not have any significant amount of debt. There’s plenty of cash flow coming in, part of which goes towards capital expenditure.

Let’s look at Suzuki as a proxy to holding Maruti. It has a market capitalization of $26 billion, and the value of its 56% stake in Maruti is worth close to $23 billion. For a net value of $3 billion, you participate in the royalty income from Maruti’s Indian operations plus you get all the other businesses more or less for free.

The following are excerpts of the Q&A session with Rajeev Thakkar:

Q: We always like to ask about capital allocation, so could you tell us if you agree with the management’s priorities on that front or would you like to see them prioritize anything differently?

A: Given the significant growth opportunities in India, investing in the battery plant and in the export plant is a rational capital allocation decision by the management. And a dividend payout ratio of about 15% should be reasonable. Since the business generates a decent return on capital, it is better for the company to reinvest when opportunities are there rather than try to pay it out. Overall, I’m happy with what the management is doing on capital allocation.

Q: Could you elaborate a bit more on management incentives or any stock ownership of note?

A: Suzuki Motor Corporation has been an owner-operated business for generations in Japan. Over time, the family’s stake has been coming down, as can be expected, and institutional ownership has increased. But Mr. Osamu Suzuki has been at the helm for many years and has only recently taken a less active role. The management has had a long tenure, sticking around and guiding the company over the years.

Q: If someone were to consider investing or tracking this as an idea, what would be some data points they could look at and monitor to either validate or challenge your thesis?

A: One key factor would be the market share of Maruti in India – is it holding steady or declining? The other would be whether the 9%-10% volume growth we have seen in the Indian auto market continues or not. The third thing to track would be developments in the electric vehicle space — is that a longer-term disruption or a near-term thing? Another thing to monitor is whether incumbents make the transition to the new technology or a completely different set of players gain in the electric car space.

Q: Finally, perhaps you could tell us a bit about how you discovered this idea and your idea generation process.

A: First of all, we do not try to capture every stock upside in the marketplace. We have a well-defined universe in terms of the number of stocks we track, and that list is updated once every year. When including companies in our coverage universe, we take into account management quality, capital allocation, return on capital ratios, and growth prospects. We also consider whether we can understand the business or not.

Maruti is a company we have been tracking for a long time. Given that Suzuki is its parent, it was only logical to look at it as well, especially since Suzuki seemed to offer a compelling valuation point compared to the Indian auto space. That was our starting point with Suzuki.

About the instructor:

Rajeev Thakkar possesses over 24 years of experience in various segments of the Capital Markets such as investment banking, corporate finance, securities broking and 15 years of experience managing clients’ investments in equities. His tenure at PPFAS began in 2001. He managed the equity investments of the Portfolio Management Service from 2003 to 2013 and since 2013 has been managing PPFAS Mutual Fund’s “Parag Parikh Long Term Equity Fund”. Rajeev is a strong believer in the school of “value-investing” and is heavily influenced by Warren Buffett and Charlie Munger’s approach. He is a Chartered Accountant, Cost Accountant and a CFA Charterholder.

James Morton Shares Value Investing Ideas in Indonesia

April 5, 2018 in Asia, Asian Investing Summit, Asian Investing Summit 2018, Asian Investing Summit 2018 Featured, Audio, Communication Services, Equities, Financials, Micro Cap, Real Estate, Small Cap

James Morton of Santa Lucia Asset Management presented his approach to value investing in Indonesia, along with his investment theses on several Indonesian equity ideas, at Asian Investing Summit 2018.

Thesis summary:

Erajaya, the market leader in mobile phone wholesale and retail in Indonesia is roughly 2x the size of the second largest competitor. Since mid-2017, the government has been cracking down on illegal imports. ERAA is the biggest beneficiary of this and recently cemented its leadership position with exclusive representation of Xiaomi. Erajaya trades at 10.5x historic earnings versus over 20x in 2012-2013, and at about book value versus a high of 4x. Expansion into related services of insurance and microfinance should add a material new source of income in 2019, and that is not yet in analyst forecasts.

Puradelta Lestari owns the largest land bank in the country zoned for industrial use with its main asset less than 40 km from Jakarta. Puradelta is the only operator with enough hectares to sell large blocks. A strong balance sheet with net cash supports a trailing yield over 7%. Earnings forecasts put the business on a current P/E of 9.5x compared to potential 20% earnings growth. The current valuation is only 25% of our internal estimate of its Marked to Market Net Asset Value.

Clipan Finance is the multi finance subsidiary of the Panin Group. After several years of balance sheet stagnation and earnings decline, the company got new management and a new strategy in Q4 2016 : notably all the new car finance business from its parent. That business lost money last year but should break even in 2018, and make a hefty profit in 2019. Loans grew over 60% and operating profit over 30% in 2017. A historic P/E of 5.4x should fall close to 4x this year. Meanwhile its Price to Book of 0.32x compares to peers at over 1x and the sector leader at 2.5x.

Pembangunan Perumahan Persero is the second largest contractor in Indonesia, a country with a shortage of infrastructure where investment has a positive multiplier. The company has the strongest balance sheet in the industry (net cash) so is best placed to take on new projects. The current backlog of over IDR 63 trillion secures 3 years of revenue. Its P/E ratio has fallen from a peak over 40x in 2014 to less than 10x current year’s expected earnings against medium term annual growth in the high teens. The stock also trades at a discount to the Sum Of its Parts as it unlocks value by spinning off property and earth moving subsidiaries into separate listed entities, with another spin off expected in 2018.

Bank CIMB Niaga, the local subsidiary of Malaysian group, CIMB, is the fifth largest bank in Indonesia and second largest private bank. After suffering from the commodity collapse, the bank cleaned house, got rid of most bad debts and adopted a strategy of focusing on premium clients. Since 2016 Niaga has reduced NPLs, cut costs and automated, closing branches and becoming a local leader in digital and mobile banking. This is a recovery story with 2017 net income up 40% over 2016 but still below its profit in 2011 to 2013. Niaga trades at a current year P/E below 10x versus expected earnings growth in the mid-teens and at less than 0.8x book compared to the sector average of 2.6x.

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About the instructor:

James Morton founded the business and is CIO at Santa Lucia Asset Management in Singapore. He has over 35 years’ experience in financial services, and over 20 years in portfolio management. He set up the Chelverton Fund, a global micro-cap equity fund in April 1994. That fund merged into Cundill International in April 2002. He has specific responsibility for Mackenzie Cundill Recovery, which is managed by Mackenzie Financial Corporation. The Recovery Fund won Morningstar Global Fund of the Year in 2003 and 2005, and the Morningstar Canadian Investment Award for Best Global Small/Midcap Fund for 2010. It also won the Lipper Global Small/Midcap Fund of the year in 2009 and 2010. James Morton’s previous employment includes experience at Bain & Co, Arthur Young, Citicorp and Samuel Montagu. He holds an MBA from Stanford Graduate School of Business, an MA from Stanford Food Research Institute, and a Law Degree from Cambridge University.

APL Apollo Tubes: Largest Maker of ERW Pipes in India, Gaining Market Share

April 5, 2018 in Asia, Asian Investing Summit, Asian Investing Summit 2018, Audio, Capital Goods, Equities, GARP, Small Cap

Viraj Mehta of Equirus Long Horizon Fund presented his in-depth investment thesis on APL Apollo Tubes (NSE: APLAPOLLO) at Asian Investing Summit 2018.

Thesis summary:

APL Apollo Tubes is the largest manufacturer of electric resistance welded (ERW) pipes in India. It has an installed capacity of 1.8 million tons per annum (MTPA) and is expanding it to 2.5 MTPA in two phases. APL Apollo is the fastest-growing ERW pipe company in India and is more than double the size of the closest competitor. It has consistently grown market share, from 3% to 13% over a decade.

APL has strong competitive advantages, including lowest cost of production, lowest cost of conversion, along with lowest cost of fixed capital formation. Viraj considers those advantages to be sustainable over a long period. APL Apollo has a pan-India presence. It has one of the largest distribution networks in the industry, adding to the company’s competitive position.

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About the instructor:

Viraj Mehta serves as Fund Manager of the Equirus Long Horizon Fund, a long-only fund. Viraj has over eight years of experience in the field of investing. He was selected by the Wall Street Journal as part of “Asia’s Master Stock Picker” series for India. He was previously a member of the fund management team at Franklin Templeton Investments, managing $6 billion in assets. Viraj was the lead analyst for the small companies fund at Franklin Templeton.

Reliance: Digital Tech Subsidiary, Jio, Underappreciated by Investors

April 5, 2018 in Asia, Asian Investing Summit, Asian Investing Summit 2018, Asian Investing Summit 2018 Featured, Audio, Communication Services, Energy, Equities, GARP, Industrial Conglomerates, Information Technology, Jockey Stocks, Large Cap, Special Situations

Rajeev Mantri of Navam Capital presented his in-depth investment thesis on Reliance Industries (India NSE: RELIANCE) at Asian Investing Summit 2018.

Thesis summary:

Reliance Industries is India’s largest private sector company, with revenue of Rs 3,500+ billion ($54 billion) and a market capitalization of Rs 5,902 billion ($90 billion). Reliance is a sprawling conglomerate, with business units in oil refining and marketing, petrochemicals, oil and gas exploration, retail, digital technology and media. Reliance’s core businesses of oil refining and petrochemicals (generating 80+% of revenue and profit) have been robust performers and significant cash generators.

The company has used this capital to invest heavily in Jio, a new digital technology business. The market continues to view Jio as a telecom services provider and is, therefore, under-rating the embedded optionality to provide consumer digital services to India’s billion-plus population. From a standing start in September 2016, Jio has acquired 160+ million customers, achieving growth by expanding the addressable market of mobile data consumers through innovating offerings, as well as by taking share from incumbents. By providing mobile data access at rock-bottom prices, Jio has weakened incumbents and forced industry consolidation.

Reliance trades at 18x trailing earnings, with 3x net debt / EBITDA. The company is well-positioned to grow the Jio business by offering Jio’s large user base a mix of subscriptions and advertising as a digital consumer-centric business rather than an industrial oil and gas enterprise.

Listen to this session:

slide presentation audio recording

About the instructor:

Rajeev Mantri is director of private investment firm GPSK Investment Group, and executive director of Navam Capital, an India-focused venture capital firm. Prior to founding Navam Capital, Rajeev worked as a venture capitalist at New York-based Lux Capital, focusing on investments in energy, water and nanomaterials. Rajeev has contributed columns and articles on technology, investing, venture capital and political economy to The Wall Street Journal, Mint, Financial Times, The New York Times, MIT Technology Review, BioSpectrum, Roubini Global Economics and others. In August 2010, Rajeev co-founded Vyome Biosciences, a biopharmaceuticals company, and served as Vyome’s president through the company’s formative years. Rajeev graduated with a BS in materials science and engineering from Northwestern University, and an MBA from Columbia Business School, specializing in private equity and value investing.

Prada: Turning the Corner After Challenging Five-Year Period

April 5, 2018 in Asia, Asian Investing Summit, Asian Investing Summit 2018, Asian Investing Summit 2018 Featured, Audio, Consumer Discretionary, Equities, Europe, GARP, Jockey Stocks, Mid Cap, Wide Moat

Andrew Macken of Montgomery Global Investment Management presented his in-depth investment thesis on Prada (Hong Kong: 1913) at Asian Investing Summit 2018. Andy explains why he turned from being short on Prada to going long the shares.

Thesis summary:

Prada is the pure Italian style, family-run luxury brand of more than one hundred years. Andrew believes the business is turning the corner after a challenging five-year period. During the last five years, the business underwent significant investment in its Asian distribution platform. At the same time, Prada – like all luxury goods businesses – faced an unprecedented headwind stemming from the Beijing corruption crackdown. In 2015, Andrew was short the stock. As of this writing, he was long the stock.

Prada is a high-quality brand, well-positioned in a structurally growing Asian luxury space, and can be acquired in the marketplace at a price that implies a set of expectations that are unreasonably conservative. Significant recent investments into the brand’s new digital strategy are starting to bear fruit. After years of negative same-store-sales growth, Prada has commenced 2018 with comparable sales growth of 7+%. This is the only instance of Andrew owning a stock he had previously been short.

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About the instructor:

Andrew Macken is the Co-Founder and CIO of Montaka Global Investments. Montaka Global Investments manages the Montaka global equity long/short strategies as well as the Montgomery Global long-only strategies, in partnership with Australian boutique fund manager, Montgomery Investment Management. After spending nearly four years as a senior member of Jim Chanos’ research team at Kynikos Associates, a global equity long/short fund based in New York, Andrew has developed particular expertise in short portfolio management. Kynikos is one of the largest short-focused hedge funds in the world and manages capital on behalf of high net worth families and institutional investors. Prior to this, Andrew worked as a management consultant at Port Jackson Partners (PJP), a leading advisor to corporates based in Australia and abroad. At PJP, Andrew focused on corporate strategy for major clients both in Australia and overseas. Andrew holds a Master of Business Administration (Dean’s List) from the Columbia Business School in New York. Previous to this, Andrew also graduated with High Distinction with a Master of Commerce, focusing on Finance; and First Class Honours with a Bachelor of Engineering under a Co-Op Scholarship from the University of New South Wales in Sydney.

JD.com: Underappreciated Alibaba Challenger with Key Advantages

April 5, 2018 in Asia, Asian Investing Summit, Asian Investing Summit 2018, Asian Investing Summit 2018 Featured, Audio, Equities, GARP, Information Technology, Jockey Stocks, Large Cap, Wide Moat

Benjamin Beneche of Pictet Asset Management presented his in-depth investment thesis on JD.com (Nasdaq: JD) at Asian Investing Summit 2018.

Thesis summary:

JD.com is the second-largest player in the Chinese e-commerce, with 27% share of a market we envision to grow at a double-digit rate over the next decade. Unlike the largest player, Alibaba, JD follows an asset-heavy approach more similar to that of Amazon. This involves spending on logistics, which has given JD a clear advantage in delivery (~80% same or next day delivery). The company has the industry’s highest growth in users (~292 million) and gross merchandise value (+33% y-y). Whereas the unit economics are favorable, with between 5-15% gross margins, the current business is only breakeven due to upfront investments in logistics and other initiatives such as O2O, finance, groceries, and cloud computing.

Over time, Ben expects mix shifts between categories and the development of third-party businesses, coupled with greater scale economies, to deliver a 5% operating margin. Unlike the competition, JD benefits from negative working capital, with a cash conversion cycle of negative 20 days. On this basis, Ben sees the stock on 10x normalized free cash flow in 2020. Furthermore, option value exists in both JD finance and JD logistics, which were recently valued at $7.2 billion and $13.4 billion, respectively, in private funding rounds.

Taking into account a driven owner-operator CEO in Richard Liu and strategic partners/shareholders in Tencent and Walmart, Ben views JD as a compelling long-term investment opportunity.

Extra: Read Ben’s article on ESG investing.

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About the instructor:

Benjamin Beneche, CFA is a Senior Investment Manager at Pictet Asset Management Limited. He joined the firm in 2008 and is in the EAFE Equities team with a specific focus on Asian equities. Mr. Beneche began his career as a graduate within PAM Equities then as a Junior Investment Manager on the global equities fund with an emphasis on the energy sector. Mr. Beneche is a Chartered Financial Analyst charterholder. He graduated with a first class honors degree in Economics and Economic History from the University of York.

Nocil: Competitively Advantaged Market Leader in Rubber Chemicals

April 5, 2018 in Asia, Asian Investing Summit, Asian Investing Summit 2018, Asian Investing Summit 2018 Featured, Audio, Equities, GARP, Jockey Stocks, Materials, Small Cap, Wide Moat

Ankur Jain, a registered investment advisor based in India, presented his in-depth investment thesis on Nocil (NSE: NOCIL) at Asian Investing Summit 2018.

Thesis summary:

Nocil: With 45% market share in rubber chemicals in India, Nocil has an exceptional mesh of competitive advantages around it. The advantages range from having the best technology (patented), large capacities driving economies of scale, a position of the supplier of choice to its customers, and world-class products. With structural change occurring in China, the supply chain has been disrupted and competitive intensity has weakened. Customers also want to reduce their dependence on one source country. A combination of these changes is providing Nocil with remarkable opportunities to grow.

The balance sheet is robust, with zero debt and ~$46 million in cash. Net of cash, the business sells for ~$450 million or ~19x FY18 estimated after-tax profits. Managed by one of the best promoter groups in India, Nocil has a long runway of growth ahead.

Listen to this session:

slide presentation audio recording

About the instructor:

Ankur Jain has been practicing value investing for about a decade and a half and at present, manages money for clients as an independent investment advisor. He follows the principles of Buffett, Munger and Fisher in his pursuit of investment ideas. He looks for the trinity of businesses with strong competitive advantages, run by ethical managements and available at prudent valuations. Focus and depth are two of the main attributes that Ankur strives to achieve in his work. He dives deep into understanding a business and once convinced, puts a large amount of money behind the idea. He believes that value investing is like growing trees – one has to provide the right seed, the right amount of fertilizer, water, sunshine and time. Learn more at CalculatedWagers.com.

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