“Markets: The Slave of Earnings !!!” -Case Study: Eicher Motors & Page Industries.

Let me start this post by quoting Munger & Buffett quotes on Earnings potential.


“Over the long term, it’s hard for a stock to earn a much better return than the business

which underlies it earns. If the business earns 6% on capital over forty years and you hold

it for that forty years, you’re not going to make much different than 6% return – even if

you originally buy it at a huge discount. Conversely, if a business earns 18% on capital

over 20 or 30 years, even if you pay an expensive looking price, you’ll end up with one hell

of a result.”

- Charlie Munger, Vice-Chairman, Berkshire Hathaway


“Long-term competitive advantage in a stable industry is what we seek in a business. If that comes

with rapid organic growth, great. But even without organic growth, such a business is

rewarding. Markets love steady earnings growth sustained over long periods in time.

- Warren Buffett in his 2007 letter to Berkshire Hathaway shareholders.


No matter what the overall market condition was. Let it be Bear, Bull, Sideways. Markets always highly reward the companies which have the high Earnings potential. To prove this point,

Let’s take the case study of 2 companies which fit in this aspect.

Please note: Unlike my previous posts, this study is not about discussing the valuations fundamentals of the company. This post is not to find the intrinsic value of the stocks. Kindly note.

With the help of this case study let us try to:

1) Reaffirm the fact that identifying Value Creators early leads to significant Wealth Creation.

2) It also helps arrive at a possible methodology for identification of Value Creators and riding it for longer periods of time.

 Case Study #1: Eicher Motors:


Why is Eicher Motors the king of Auto stocks?

The simple answer to this question is, Extraordinary profits in companies tends to Extraordinary wealth creation in markets. In other words, empirical evidence suggests that companies generating abnormal Profit (i.e. Value Creators) invariably outperform benchmark returns over the medium- and long term.

Let’s look at the back-end to understand why the front end (Price) is behaving like that.
What makes this company to trade at this levels?

Eicher_Operating Profit

Eicher_Net Profit

Eicher_Quarterly EPS

Eicher_Yearly EPS




Krishna, this is PAST. The rear window. I am not interested in it.

Same with me. Let’s try to dig deep to know the better future. What is happening in the company NOW ?

1) VECV’s volumes have witnessed better than industry growth across segments. They have grown 3.7% at 11,300 units for

Q2CY14 as industry has declined ~2.5%.

ƒ2) The bus segment has witnessed a stellar quarter with market share gains of 2.2% to 19.4%, sold 3300 units.

ƒ3) The growth momentum continues to remain strong for RE, with the demand situation robust and nearly five months of waiting


ƒ4) Margins for RE continued to climb beyond and clocked ~25%, on account of increasing operating leverage and benign input costs

ƒ5)The management expects volume growth to clock in excess of 300,000 for CY14E, 420,000 for CY15E.

ƒ6) The management has guided for capex of | 600 crore over CY14E-15E in order to boost capacity at the Oragadam facility.

7) The management has highlighted that they are contemplating investment in a new facility that would be needed from CY16E onwards.

ƒ8) The company continues to work towards dealer expansion to the tune of ~70-80 dealers annually. The management remains

confident that a strong inherent demand play remains from the Tier-2/3 cities and towns which is yet to play out.





Case Study #2: Page Industries:


Recently I have attended it’s AGM meeting in Bangalore. I know it sounds little strange because, most of the investors, Invest first and attend the AGM later. Now, its other way in my case. I bought 1 share of Page for the only reason to attend its AGM and to analyse whether this company can sustain the amazing valuations the market had given to it.

Me with Basant Sir at Page AGM in Bangalore.

photo (3)

Why is it the darling stock of many ?

page_Operating Profit

page_Net Profit






Again, Krishna for God’s sake don’t show me rear window. What is NEXT for Page ?

Page has the ability to deliver high revenue CAGR in a market For any firm to deliver in the excess of 25% revenue CAGR consistently over a longer period, its competitors need to be capable of scaling up their business accordingly and hence sustain or gain market share for Jockey.

Page can outperforms against its peers with:

  1. a) The widest distribution network (over 23,000 retail stores).
  2. b) A range of SKUs which is wider than that of its peers.
  3. c) The lowest debtor days (20 days vs peer group average of ~60 days).
  4. d) The ability to scale up at a high pace of growth, which can be observed in its revenue growth being faster than the peer group average.





Before completion, I know what is going in your mind.

Is is still a good buy at current levels ? Or have we missed the Bus ?

If we are buying the companies that have Quality, Growth & Longivity, they tend to stay in the race track for many years to come.

Let me tell you a small analogy.

Raamdeo Agrawal of Motilal Oswal is a well renowed investor in Indian markets. One of his famous picks was “Hero Honda” which he bought it at Rs 11.40/-. Let’s say you figured it at Rs 200/- and thinks, this stock has already raised 20 times. What is left in it ? After few years, Now (Hero Motor Corp) is trading at 2800 levels with a dividend yeild of 2.5%. The story hasn’t finished for Hero. Infact, it is just in the middle of its jouney with 55000 Cr market cap in a 1.2 billion country (Now add the Export part of Hero Motor Corp).

We can extend this case study with few other scrips as well like Mayur uniquoters, Astral poly technik ltd, Atul Auto, Kaveri seeds etc. The outcome will be the same.

Disclaimer: Please do your own analysis before taking any decision. This post is entirely based on my view and can be biased. Please note.







How to value cyclical companies ?

Starting from this, I want to make a series of posts on different valuation techniques we use to value the companies like,

1) Young companies
2) Growth companies
3) Mature companies
4) Cyclical companies
5) Commodity based companies
6) Declying companies etc

In my previous post I have already discussed, how differently we value Financial firms.

In this post, I am going to discuss on how to value cyclical company by taking Maruthi Suzuki as example.

Uncertainty and volatility are endemic to valuation, but cyclical and commodity companies have volatility thrust upon them by external factors. As a consequence, even mature companies have volatile earnings and cash flows.

It is always a challenge to value companies that have volatile earnings.

What makes the cyclical companies different?

These are the companies whose fortunes rest in large part on how the economy is doing. This companies historically reported lower earnings/revenues during economic downturns and higher earnings/revenues during economic boom.

Cyclical firms can be in diverse businesses, but they do share some common factors than affect how we have to value them. While it is true that good management and right strategic business choices can make some cyclicals less exposed to movements in the economy, but on a whole we face it difficult to value those businesses.

What are the valuation issues?

Volatile earnings and cash flows: The volatility in revenues at cyclical will be magnified at the Operating Income level because these companies tend to have high Operating Leverage (high fixed costs). These companies has to Operate the plants without closing them, even though they produce half there capacity on some years.

Even the healthiest firms can be at risk:
If the macro move is very negative, the risk can be magnified as we move down the Income statement, resulting in high voatility in Net Income, and can happen with blue chip companies as well.

Valuation Solutions:

Normalized Valuations : The easiest way to value cyclical companies is to look past the year to year swings in earnings and cash flows and to look for a smoothed out numbers underneath. Now, we will begin by defining what comprises a normal value first and then consider different techniques that can be used to estimate this number. A normal year would be one that represents the mid-point of the economic cycle, where the numbers are neither moved up nor deflated by economic conditions. These normalized earnings can taken using different methods.

a) Absoulte average of the company over time (Taking average of the earnings of the company that you are valuing)
b) Relative average (Taking relative average of the company vis-a-vis to the leader in the market)
c) Sector average (Taking the average of the sector as a whole)

Here in this post, I am using Absoulte average Earnings techique to value one of the most trusted automobile brands “Maruthi Suzuki”.

Maruthi Suzuki is one of the most reputed player in Indian automobile industry and also being a decent wealth creator in the long term.

How ever in 2012-13 the company has faced the WORST phase (Manesar plant Riots, slow down in sales) since inception. To put it in company’s own words, here is the screen shot from company’s annual report of 2012-13.


OK, let’s get back to number crunching (which I love the most :) )

To normalize Maruthi Suzuki’s operating income, we look at its operating performance for a period of 10 years, i.e from 2004 to 2013


As on 2013, Maruthi Suzuki has very minimal debt of 1389.2 crores, and Debt/Equity is a healthy value of 0.07.

Calculating Normalized Operating Income from the above values:


To proceed further in the calculations, we need these values:

Marginal tax rate of India – 33.99% (Source: KPMG)


Bringing together the normalized operating income (5246.24 Cr), the marginal tax rate for India (33.99%), the reinvestment rate (31.70%), we can estimate the value of the operating assets at Maruthi Suzuki:

Operating Assets = Operating Income *(1+g)*(1- tax rate)*(1- Reinvestment Rate) / (Cost of capital – g)

Using this formula and substituting the value in the above table, we get value of Operating assets as 2666.36 Cr.

Adding in cash (775 Cr) and non-operating assets (894 Cr), subtracting out debt (1,389.20 Cr) and minority interests in consolidated subsidiaries (106 Cr), and dividing by the number of shares (Approx 30.2 Cr shares).


Value per share = (Operating Assets + Cash + Non – operating Assets – Debt – Minority Interest) / Number of shares

By substituting all the values we get,


Yields a value per share of 2213.00 rupees per share and with a margin of saftey of 15%, we get the intrinsic value as 1881 rupees.

Hence as on July 2014, any price between 1850 to 2250 can be a good price to enter the stock as per the derived Intrinsic value.

Disclaimer: This post is not to suggest any Buy/Sell call on Maruthi Suzuki, instead it is an example taken to explain Normalized earnings technique used to value cyclical companies. Please don’t act based on the numbers in this post.


Reference: Little book on Valuation by Damodaran

My Best friend named “Emergency Fund” !!!

My own experience:

1) 20 days back, I got a call from home. Summary of that call is to arrange 1 Lac in 2 days.
– Done. Thanks to Emergency fund.

2) 5 days later, an unexpected and unstoppable expense of 60k.
– Done. Again thanks to Emergency fund.

3) Exactly 4 days later, Mother hospitalized (She is Fine now!) because of existing disease which is not covered by my Oriental Family floater.
– Handled it as well. Again thanks to Emergency fund.

Friends, those who think, “It will not happen to ME”. Please be careful. Just think that, tomorrow morning
you get a call from your home to arrange 2 Lac. What you will do?
Please Maintain Emergency Fund.
Luckily I was able to handle these 3 shocks in a span of just 2 weeks only because of EF.

What I am going to do NOW ?
– Increase my Emergency fund by 50%. It is based on my calculations.
You do yours and maintain it accordingly.

Remembering my Investing Gurus !!!

On this occasion of Guru Purnima, I take this opportunity to thank all my Investment Gurus who taught me (and their is lot more yet to learn) and stood like a Light house in my Investment Journey.

In the investment world, some people think it is “cool” to say “I am a Value Investor”. But it is not so cool to follow it. Not at all. Infact it is a mindset that should be incorporated in the life style itself and not only in Investment related decisions.

One person who is the dean of Value Investing is “Ben Graham”.

1) Benjamin Graham:

There is nothing left to tell about this legend. His 2 books “Intelligent Investor” & “Security Analysis” are the greatest monuments of Investment world.

People may say some of this teachings like “Buy any company if it is available at two third of its working capital” can be irrelevant. But there is no doubt in saying all his investment philosophies are like the mother root of all other philosophies. His golden words like “Price is what you pay, Value is what you get”, “A Great Company is not a great investment, if you pay too much for the stock” and a beautiful concept called “Mr. Market” in the chapter 8th of Intelligent Investor. People who say his teachings are outdated, in my humble opinion are the ones who are retarded. His teachings are valid a century ago and will do the same a century later.


2) Charlie Munger:

I may be nuts to place this little known guy before Warren Buffett. But to put in WB daughter’s own words “Charlie uncle is the most rational person I had ever seen, second being my father”. His book “Poor charlie’s almanack” is one of the few most influential books I had read. He himself is a walking library. His wits like “You’re looking for a mispriced gamble. That’s what investing is. And you have to know enough to know whether the gamble is mispriced. That’s value investing”, “In my whole life, I have known no wise people (over a broad subject matter area) who didn’t read all the time – none, zero” are few quotes which always will be there in my subconscious mind. I started reading Berkshire Hathaway’s and Wesco’s annual reports (will take months to complete and years to understand and follow) to know the wits of this legend and his favorite words “I have nothing to add” :)


3) Warren Buffett:

The one guy who made it BIG, REALLY BIG through the value investing ideas taken from his father, Ben Graham and his partner Charlie. Being the most successful business man living on the planet and on the other side he is a great philanthropist. He pledged 99% of his net worth for the society. A HUGE “GIVE BACK” !!!. His biography “The Snowball” is a must read for all investors not because he will share all his investment ideas, but because he will tell you “How to lead a successful life”.


4) Peter Lynch:

I don’t think there will be any person in this Investment world who didn’t read “One upon wall street” as his second or third book. His successful career as a Fund manager of Magellan Fund at Fidelity Investments which delivered a CAGR of 29% from 1977 to 1990. An astonishing journey with a lots of learnings.


5) Philip Fisher:

His amazing book “Common stocks and uncommon profits” is another gem in the investment world. This book will have high influence on your investment style and many of his quotes like “Buying a company without having sufficient knowledge of it may be even more dangerous than having inadequate diversification.” is like a golden rule for me.


6) Parag Parikh:

I got a privilege to meet this visionary in person. He can been termed as a dean of Value investing in India. I was astonished by his wisdom, his conviction. After reading his books “Value Investing And Behavioral Finance” & “Stocks to Riches”, I learnt about behavior side of Investing and how it is most powerful in day to day in stock markets.


I once asked him a question “One of your darling stock Noida toll bridge which you started to accumulate at 40, is now trading at 12. Do you still continue to buy it?”. For which he answered “I Liked the stock at 40, at 12 I am LOVING it”.

This particular reply of him haunted me for several days. I was spellbounded by his conviction.

I was extremely happy to see him in the Forbes India list of top 20 investors and their philosophy

7) Prof Sanjay Bakshi:


I got to know about this guy from a video of PPFAS in youtube. Then I searched about him. Then I realized myself “What should be my path?”. He has a unique way to analyze a company (which in turn he borrowed bits and pieces from Ben Graham, WB, Fisher). After reading his life struggle, I got huge respect on him (because, somewhere unknowingly I related to it. I worked as a Paper boy who delivered newspapers on cycle early in the morning to earn for my school fees in my high school days).

His journey inspired me and taught me “Dream BIG and find a way to achieve it. No matter how small you start, you can make still reach there with constant learning”. He was also listed in Forbes India list of top 20 investors and their philosophy along with Parag sir.

8) Aswath Damodaran:


I am happy that I got visionary Bakshi sir holding my hand (through his articles & blogs) and teaching me how to analyze a company. But where to go for the Valuation side of it? Remember Ben Graham’s quote “A Great Company is not a great investment, if you pay too much for the stock”. Hence I took the help of Aswath Damodaran in this aspect. He is the authority of Equity valuation and corporate governance. His teachings are immense and are in-depth (they will also have in-depth impact in your mind). His writings will make you run and are like roller coaster rides.

9) Basant Maheswari:


The “Oracle of Calcutta” through his Blue Bible “The Thoughtful Investor” taught many of new ways to look at stock prices. He incorporated a new style of investing and has been successful. His site “theequitydesk.com” itself is a khazana of amazing leanings.

 10) PV Subramanyam:


Subra sir (as we normally address him) is one of most respected people in Indian financial markets. His blog “subramoney.com” touches every aspect of Investing (mostly in a sarcastic way, which he is famous for). He is an amazing critic. He terms himself as Investor, Trader and a speculator (sometimes). His book “Retire Rich Invest: Rs. 40 a Day” is a book which you MUST read immediately you received you first pay check (I did so).

Pattabiraman Murari:


I first got to know about him some 3 years back (at jagoinvestor.com) where he was an active participant. Then I visited his blog “www.freefincal.com” and was amazed to see some GREAT financial calculators and that too free for download. Any other person with his wisdom & knowledge would make money out of it (and I personally feel they are worth some thousands of rupees). I am privileged that we will be in contact with each other (in our amazing facebook group Asan Ideas for Wealth) and he is just a click away. There are enormous learnings from his writings and calculators.

Another amazing thing about Pattu sir is “He is double edged sword. He is having Ph.D. in Physics and an unmeasurable knowledge in the field of Investing”

 Ashal Juhari:


Ashal ji not only comes with enormous knowledge but also with extraordinary patience. He loves to answer every question. He thinks there will be a learning in every post or a query. During my days at Jagoinvestor (where I was very active, there wouldn’t been any query which was not answered by Ashal. No I am not exaggerating. One incident which I still remember was, He was on vacation and one of the reader posted nothing but “Where is Ashal?” nothing more, nothing less. That’s shows the importance of his knowledge. He is the admin of the group Asan Ideas for Wealth in facebook and extremely happy to be in touch with him on daily basis. His favorite quote “My dull and boring SIP’s will continue” is like a mantra in all market conditions.

 Manish Chauhan:


He had done a great contribution to personal finance in India through his blog “Jagoinvestor.com”. This SHOULD be the starting point for every person who thinks in terms of managing their financial life. I have learnt a lot from his blog.


Thanks a lot to all  who influenced me and many others through their teachings. They all walk their talk and I have immense respect for all of them.



My monkey’s portfolio experiment !!!

Few days back I read an article which says about an experiment conducted at City University London (view the report here), where a group of monkeys (not the original monkeys but computer programmed) were given the task to choose couple of stocks and built a portfolio. Then they back tracked them to check how they performed vis-a-vis the market.

Inspired by this idea, I had conducted the same experiment on Indian stock markets.

Following assumptions are made for this experiment:

1) I had chosen 5 monkeys and they have selected their own portfolios (using Random.org) consisting of 5 stocks each.

Random Portfolios

2) I tried to find the index composition of BSE 200 for previous years but couldn’t find it, hence used the same composition of current BSE 200 index. So if any of the selected company was not listed during (2003-2013), then the immediate next company has been picked. For example, Monkey 1 has selected Company 1 which is TCS, but TCS went public on July 2004, hence it was filled with Company 2 i.e ONGC. All the index companies are sorted by Market Capitalization.

(*) in the portfolio indicates that the actual selection company is not available and hence the next best market cap company has been selected.

3) A lump sum investment of 1, 00,000 has been made on 1st Jan 2003 on every stock (hence each portfolio had started with 5 lacs). Also equal amount (5 lacs) has been invested on S&P BSE 200 index.

4) In order to analyze correctly, our experiment is divided into 2 phases. 1st Jan 2003 to 31st Dec 2007 (Bull phase) & 1st Jan 2008 to 31st Dec 2013 (Bear Phase).


Let’s start!!!

Assume we are currently in 2003. India is in the beginning of the best Bull Run it had ever witnessed. Everyone is turning to stock market. New brokerage companies are emerging and want to make the best use of it. Every investor is thinking, Stock market is the place to make quick money and they don’t want to miss the opportunity. They heard that, his neighbor had made 40% returns on a stock in one month and he too wants the same. Greed everywhere on the streets of Dalal street. With the same greed our 5 monkeys also jumped, opened a demat account and started investing.

Portfolio of Monkey 1:


Seems like this monkey wanted to ride this wave, hence it had chosen 2 banks, 2 PSU’s and a strong company ITC.

 Portfolio of Monkey 2:


This monkey is very much interested in mid-caps. He thinks what most of the investors think, “Today mid-caps are tomorrow’s large caps”. Hence chosen everything from mid-caps space, with enough diversification like Pharma, Banks, Transportation and Entertainment.

Portfolio of Monkey 3:


This monkey can be termed as a “Trend Monkey”. It goes with the trend. Like most of the investors out there, it also loves to pick up the current fancies in the market. Hence picked up L&T and Unitech from Infra and construction space, which was trending at 2003.

 Portfolio of Monkey 4:


This monkey is also no different. It had diversified well across sectors.

Portfolio of Monkey 5:



Now let’s see how our Benchmark had performed during the same period (2003-2007).



Also let’s compare with the Top mutual fund of India, HDFC Top 200



If you can see, “All the monkeys have outperformed its bench mark” and “4 out of 5 monkeys had outperformed HDFC Top 200 by huge margins.”


All my monkeys are happy. Just like all the investors were happy during those days.


Investor’s community at that time was thinking like:

1) In equities, you can NEVER lose money (Recency bias)

2) You are not into equity, Ohhh boy!!!

3) My portfolio had given 120% returns this year. Now I have become an “Individual stock picker”. I know how to choose the companies and beat the market.  I did it for 5 years in a row. I haven’t lost money till date in market. I am no less than Prasanth Jain and Siva Subramanian.

4) There is no RISK in equities. Take out your money from PPF and debt instruments and keep it in equity, you will earn a hell lot of returns here.

5) Leverage your positions using F&O’s. Make more and more money. Arey yaar it’s simple, ho jayega. Just go on!!!


Everything went fine. Let’s move on to the second phase.


Now we just entered into 2008. Financial shock waves have started in US. My monkeys were un-aware of it. They are just enjoying the ride. In the mid of the year, these waves hit the entire world. Every equity investor, every index and every country (well most of them) had been affected by this.

Now let’s see, what are our monkeys and their portfolios doing during these years.






At the end of 2013, only 3 monkeys made into Green zone and 2 monkeys were in red zone.


Let’s also see how our benchmark and HDFC Top 200 is performing.


Impressive!!! HDFC Top 200 maintained its way into Green zone, even though the benchmark is in red.

As a value investor, my first agenda is preservation of capital. Prashant Jain does it better.


Learnings from my Monkeys:

1) Monkey 1 is in safe zone, because it had selected strong companies like ITC and HDFC bank. No matter what the economic structure of India, world etc. etc., few companies do their job without any distraction. Monkey 1 won this experiment by choosing these kind of stocks.

2) Monkey 2 took the approach of Mid-caps and it is LUCKY enough to  win.

3) Our “Trend Monkey” took the trend. Chased the fancies (L&T, Unitech, NMDC), paid the fancies price to own them. Now sitting on fancy losses.

4) Monkey 4 just crossed the winning line with much difficulty.

5) Another disastrous portfolio created by monkey 5 purely chasing the fads like Petronet LNG, BHEL, Unitech.


Now the same people, who said above 5 points regarding stock market, are saying these statements now:

1) I had lost humongous amounts of money in stock market.

2) Everything is manipulated here. Only big heads make money in share market. This is not the place for Retail investors.

3) Equities are dead. Debt instruments, Gold and Real estate are the only ways left for us.

4) Yes, I agree that I was greedy at that time. But I just need my buy price for this stock that I am holding. I will sell it and will never be back to equities.

What is the point for us?

In the recent euphoria in the market:

1) Is your current portfolio is making new heights every week after week? Is every stock you pick is trading at new heights every session?

2) Do you think that you have become a good stock picker on you own and 5 out of your 6 stocks gave 20% return in the past 6 months and in no mood to slow down?

3) You are getting ready to ride this wave and mostly looking for fancies and fads (Power, Infra, RE etc.) companies in the market to make quick money?

Beware, “You may be just another monkey out there, but not an investor whom you think you are!!!”

Learn to move from a Monkey to an Informed investor yourself. DIY. Stick to the basic investment principles, irrespective of Bull or Bear ruling the market.

 Buy companies with:

a) Strong moat with high network or distribution channel.

b) Secular growth.

c) Management in which we can trust

d) Companies which has pricing power

e) Above all, they must be available at reasonable valuations.

Only the companies that have fulfilled these criteria’s have succeeded in the past and will do in the future. These companies will do the magic, even if they are picked up by the monkeys.

Outcome of this experiment:


If you see the performance graph of Individual companies, secular growth companies like ITC, HDFC bank, Lupin, Axis bank and Marico have outperformed all other fancies over long run. I am not considering Unitech and L&T, because of the HUGE standard deviation associated with it in the past 6 years. In my humble opinion they are lose makers.

NEVER chase fancies, Repeat NEVER EVER chase fancies. No matter how tempted you are. You may make money out of it initially, but you will end up just as a monkey sitting on huge losses when the party ends. There is no evidence in the past that a fancy or a fad of the market made wealth in long term. 


To be honest, I was skeptical before writing this post. This post can be taken in wrong way, if not conveyed properly.

This post is NOT to say, every stock and every investor will make money in Bull Run.

Or this is NOT to say, pick any leader from any sector and you will make money.

Also NOT to stay that good companies will always outperform good diversified mutual funds.

This post is to say:

“Stay Informed & Know what and why you are doing so?”, especially during the times of Bull runs, where all the valuations goes for a toss and every Tom, Dick and Harry around you are making profits in stock markets and you also want to join them. Always keep it in mind, initially you will make money just as my monkeys did, but ultimately if you want to continue those profits, we have to Learn, Learn & Learn!!!

I am personally feeling happy to conduct this experiment on my own and this can be a triggering point for other posts to come.

Please let me know your learnings and views on this experiment. Many Thanks.





How little we know?

That was exactly my feeling after reading some of the facts in the past few days which I am going to discuss below.

The heading of this post have 2 meanings:

1) How much as an individual I know?

2) How much as a retail investor community WE know compared to big players out there?

Companies, Promoters, Brokers, Auditors, Institutional investors etc, all these people have only one thing in their mind apart from making profit. It is to use every opportunity to take the money out from Retail investors pockets. (Not all companies, but most of them). This greedy nature of companies combined with the pressure to stay top in the competition allows them to do such things. They make use of every option they have, to show us that their books are stronger than actual.

Let’s look at some of the examples in the past. Be ready to see some BIG names here in this section.

Before that just to have better understanding of what actually happened, let’s see some definitions. Don’t worry even if you don’t understand them in particular, just get the gist of them.

BIG BATH Accounting: The strategy of manipulating a company’s income statement to make poor results look even worse. The big bath is often implemented in a bad year to enhance artificially next year’s earnings.

Capitalize: An accounting method used to delay the recognition of expenses by recording the expense as long-term assets. It will do so inappropriately & most likely to artificially boost its operating cash flow and look like a more profitable company.

Write-Off: A reduction in the value of an asset or earnings by the amount of an expense or loss. Companies are able to write off certain expenses that are required to run the business, or have been incurred in the operation of the business and detract from retained revenues.


1) In FY 2000-01, a giant in private banking sector had done Big Bath accounting. ICICI bank wrote off Rs 813 crore of bad loans against its profit and loss account, as a result profit fell by 55%. As against this, ICICI wrote-off only Rs 701crore in the three years 1997 to 1999 and that too against reserves.

Tata Motors Logo

2) Another example of such act comes from most respected corporate house in the world TATA.

TATA Motors, during the time of its Indica launch in the year 2001-02, it has spent Rs 1178 crore on the launch process. Later the company showed a net loss during 2001-02 of just Rs 53 crore as compared to a loss of Rs 500 crore in the previous year (2000-01). If this expenditure of Rs 1,178 crore was shown on the P&L Account, the net loss for 2001-02 would have been more than double of that in 2000-01.


3) Rolta India was accused off propping-up its sales in the late 1990s by adopting some creative method of accounting. The company has been accused of inflating its sales by asking one of its own divisions to sell capital equipment to another on much higher profit.


4) Another example is from most respected firm and an example of wealth creating by its two twins (HDFC & HDFC bank).

During FY 2002, HDFC bank had shown the profits from sale of investments as part of operating profit. About 4% of such profits came from sale of securities.

(I have immense respect on HDFC and Deepak Parekh in person. He is truly a legend and some of these happenings must be restricted and tighten the auditing process)

And the list goes on and on…

“Krishna, to find this kind of fishy happening in the company, we need to read all the financial statements, foot notes, Annual reports etc. But we don’t have that much time.”

Agreed with you 100%, you need some time to find out this kind of book cookings. But what if I told you even after knowing “ALL SUCH COOKINGS”, people still invest in such companies.

Don’t believe me? Let’s take an example.

What if I told you “Bro, I am running a business X, which is not running well. Hence I want to start a new business Y in SAME SECTOR. Invest in my company”

You: What Same sector?

Me: Yes same sector.

You: But you said you already made losses in that sector, why to go again with it. Choose some other business.

Me: No I don’t. I want to go with same business.

You: Okay. How much is the value per share?

Me: 5 rupees, but I am selling it for 200 rupees.

You: Have you lost your mind? Firstly it is a loss running business and upon that you want to sell for 200 rupees. GO TO HELL GREEDY FELLOW.

This is exactly what happened in the India’s most scariest IPO till date Reliance Power.

Anil Ambani already had a company called Reliance Energy which is also into Power generating business, but because of the greed, he started another company Reliance Power and wanted to raise money for it. Each stock with a face value of 10, is reasonable to sell at Rs 100 or Rs 120 premium. But because of the greed, the issue went up to 450 per share. Promoters kept the share worth Rs 10 and for public sold it for Rs 450 (huge premium).

share holdings


Every person who subscribed to this IPO knows the shareholder pattern (it should be published in every report according to SEBI guidelines), but many acted on it with “Known information” only.

Okay Krishna, everything is fine. All the examples you have shown above tells us that:

1) First the companies can cook the books. Hence we investors can take a hit, because the valuations which we have done based on those cooked books goes for a toss.

2) Second, because of our greed, most of the times we first value a company and later look for the reasons to justify the price

But I can happily value a business which is easy to understand and the books are tight and correct.

Really, lets see that scenario as well?

For example, the books of the below company are accurate and detail. They are the MOST trustful promoters in the world (just an example).

Now tell me, What is SBI ? What business is it into??

sbi final

(Luckily SBI has the correct Logo which I am talking about )  :)

Off course it is a Bank. Sure?

What if I told you it is not a bank, but a Real estate company who runs a side business of running largest bank in India.

The huge branch network of SBI (it typically has at least one branch in the most valuable part of every large Indian city and not most of the buildings are leased) is also one of the most valuable real estate portfolio in the country.

If we were to value, at current prices, the real estate portfolio of SBI, we would find that, perhaps, it is far more valuable than the market value of its all its outstanding shares and debt. Does that make SBI a bank, or a real estate company?

Suppose, one was to do a branch-by-branch valuation of SBI. It would not be a surprise to find that the market value of the land underneath several hundred of its branches turned out to be worth a lot more than the value of the banking business that these branches are doing. Does that mean that SBI will close these branches, sell them, and distribute the after-tax proceeds to its shareholders as tax-free dividends? Well, for all sorts of reasons, we know that the answer to that question is “no”, at least for now.

Does it mean we should include the land base in the valuation of its business? Or do we have to only look at future aspect of its main wing called Baking.

Well, the answer is debatable. But the question is what we needed for now.

Now tell me my friend, How little we know about the companies which we look on daily basis? We think we know about them. Do we??

We think we know the business of SBI. We think big names like Tata Motors, ICICI, and HDFC etc will never make any mistakes. We seriously take the real meaning of Reliance.

But actually we know little, very little about all the companies.

We are dealing with the least ethical financial sector and we have nothing left except to learn and doubt everything.

Always use pure mathematics in investing (as said by one of my favorites as a person my inspiration as a blogger Pattabiraman Murari Sir of www.freefincal.com)

This constant learning will take years in fact decades (for me at least) to get some understanding, after all who told It is an easy ride?



Source & References

Zenith international Journal for research

Sanjay Bakshi’s article on two values

Reliance IPO case study by IBS institute

What is the Piotroski score of your stock ?

In fundamental analysis, no single tool or ratio will give the complete picture of the stock. Let it be P/E, EPS, D/E etc, all these ratios must be considered together to get the overall financial health of the company. In today’s post let’s know about something called “Piotroski score” which gives a number using fundamental analysis. What is this number and how it must be used? Let’s see below:

Joseph Piotroski, an American professor of Accounting at Stanford University. He rose to fame by his most influential 2000 paper he wrote at University of Chicago titled “Value Investing: The Use of Historical Financial Statement Information to Separate Winners from Losers” (Click here link for the full report)

Image 1

His idea behind this was “Because value stocks are by definition often troubled companies, many will not possess the financial resources to recover. Consequently, if it was possible to improve the performance of a value stock portfolio by eliminating stocks that were the weakest financially. Then the returns will outperform the markets.”

What is Piotroski score ?

It is a simple nine point criteria (also called as Piotroski’s F-score) stock-scoring system for evaluating a stock’s financial strength that could be determined using data solely from financial statements.

Scores “one” point if a stock passes each test and “zero” if it doesn’t. The maximum score is 9.

a) Net Income: Bottom line. Score 1 if last year net income is positive.

b) Operating Cash Flow: A better earnings gauge. Score 1 if last year cash flow is positive.

c) Return On Assets: Measures Profitability. Score 1 if last year ROA exceeds prior-year ROA.

d) Quality of Earnings: Warns of Accounting Tricks. Score 1 if last year operating cash flow exceeds net income.

e) Long-Term Debt vs. Assets: Is Debt decreasing? Score 1 if the ratio of long-term debt to assets is down from the year-ago value. (If LTD is zero but assets          are increasing, score 1 anyway.)

f) Current Ratio:  Measures increasing working capital. Score 1 if CR has increased from the prior year.

g) Shares Outstanding: A Measure of potential dilution. Score 1 if the number of shares outstanding is no greater than the year-ago figure.

h) Gross Margin: A measure of improving competitive position. Score 1 if full-year GM exceeds the prior-year GM.

i) Asset Turnover: Measures productivity. Score 1 if the percentage increase in sales exceeds the percentage increase in total assets.

He classed any stocks that scored eight or nine points as being the strongest stocks any stock with two or three being the weekest.

Piotroski’s strategy:

1) He looked for stocks with low price-to-book ratios. Often such stocks are “financially distressed”, they languish there because they deserve to be (Sanjay Bakshi’s report on Value or Value traps wonderfully explains how some stocks deserve to be at low valuations irrespective of strong books).  Click here for Prof Bakshi’s report.

But there are some with solid and improving financials that are probably neglected by the market. Small, thinly traded stocks are rarely followed by analysts. The flow of information is limited for these stocks and can lead to mispriced stocks.

2) Also financially distressed firms may be beaten down below their intrinsic value as investors await strong signs that a company has fixed its problems and the worst is behind. Poor prior performance often leads to overly pessimistic expectations of future performance.

Piotroski found either situation can create buying opportunities if checked thoroughly for solid and improving financials.

 Well, did he succeeded?

Yes. It worked very well. Buying those companies that passed the his rigorous test and shorting those that didn’t produced a 23% average annual return from 1976 through 1996. That’s more than double the S&P 500’s gain during that time period.

 Below is the Piotroski score of Indian companies:

Image 2

Incidentally none of the Sensex companies are qualifying for the score of his Best stock (8 or 9)  :)

Any pit falls?

Yes. This score typically compares this year’s financial reports against those of last year and could create come to conclusions. For example, it requires a positive divergence between cash flow from operations and net income before extraordinary items. It will be a fair assessment if the divergence between cash flow operations and net income is evaluated on a multi-year basis rather than just an year. Cash flow from operations could fall below net income in any single year as a result of the timing in recognition of net income.

Finally, this score should act like another metrics to analyze the stock but surely not the only one.

 P.S: Before completing the post. Can someone tell me, why do analysts doesn’t track or recommend Value Stocks? Why they only go with Growth / Fancy stocks all the time?