Why We Recommend a 100-Year Old Company Now?

Earlier this week, my colleague Sarvajeet wrote to you about the 100-year-old company we were about to recommend. Well, we did recommend it yesterday.

But why now?

I mean when a company has been profitable for hundred long years, why on the earth are we recommending it now?

Well, as value investors we always need valuations on our side. In short, we seek a margin of safety in valuations before we recommend any stock.

So, how does one can find a margin of safety in a quality company with a good track record.

Generally, we are left with two options:

1. Pay up for the quality (which may prove risky)
2. Wait for the right time and buy when valuations are in distress.

True value investors always prefer to wait.

We did the same. Not that we don't like to pay for quality companies but we know that if we wait for the right price instead of paying up, it will help to maximise returns.

But there's more...

Now the company in question operates in a sector where the quality of management is the key differentiator.

With no product or client differentiation, the only way a company can be successful over another is by running efficiently.

Specially for smaller players (like the company in question), the key to success is a superlative management that can run the company efficiently.

The management should have a perfect mix of aggression and conservatism. There should be a balance between growth and profitability.

They should understand their customer profile to pursue the right kind of growth (profitable growth).

Now, in the case of this 100-year-old company...

An aggressive management took charge in 2011-12. Their hunger for growth led them to invest in highly risky segments.

They not only went for high growth at the cost of profits, they also made the company vulnerable to in-efficiencies.

Management Can Make or Break Companies in this Sector

As many of you can imagine, there is a feedback loop in business. It acts with a lag. To put it simply, if you opt for a strategy today, the results will come in next 2-3 years.

And as we entered 2017, the management's wrong path came to haunt the company.

Both the balance sheet and profit and loss account started to bleed. The company lost its market share in the areas it had always dominated.

It was chasing what everybody else in the industry was pursuing rather than focusing on its own core strength.

It was the market leader with a huge client base (6.75 million customers). The leadership position went for a toss.

Just to give you some idea of the pain - in FY18, the company is expected to report 45% decline in the profits. This is reflected in the stock price. The company is trading below its average long-term valuations.

This lead to a very important decision by the board - bring in the best management.

There are numerous case studies in Indian markets where right managements have transformed regional companies like this one into big national players.

The new management has experience of more than two decades with the best companies in the sector.

They are already turning around the company.

All they need to do is to stick to the core strengths of the company from which the earlier management deviated.

They understand the market it operates in and is focusing on the areas the company has always been strong.

While the company should report a decline in profits this year, it still has the best operating margins in the sector.

If the decline in profits turns around, profits would grow multi fold from the bottom reached in FY18.

This company proved to be a very interesting case study for the Smart Money Secrets team. What we learnt, reminded me about something my friend and colleague, Richa Agrawal, swears by: management quality. If the management isn't good, she doesn't recommend the stock.

Richa who is managing editor at Hidden Treasure, our small cap service, nails it when I argue with her about giving more emphasis to annual reports over management meetings...

• 'Kunal, I agree annual reports are like bibles for understanding business and management inside out. But there are also some soft issues, that I can only gauge when I sit next to the management'.

I'll be honest. Her boots on the ground approach has yielded astonishing results for her subscribers.

If you too want to experience superlative market returns by betting on India's best emerging managements, Hidden Treasure is the right place for you.

Chart of the Day

A management change can often turnaround a company. A recent Indian example is IndusInd bank.

IndusInd bank saw a management change somewhere in 2008-09 and rest is the history.

The new management not only made the bank highly efficient, they focused on the right areas for profitable growth.

Today's chart shows how the bank managed to grow profits faster than its income.

A Management Change at IndusInd Bank Changed Its Future

An important step the current management took was to lower the bank's exposure to high risk corporate loans (with big ticket sizes). That helped improve profitability along with better asset quality.

The superior performance in the financials has over the years was reflected in share price and the stock has returned 52% (annualised) over FY09-18.

Our recent stock recommendation in Smart Money Secrets, also has the right management to grow the company more profitably than ever. It has already started showing some signs of improvement.

Regards,

Kunal Thanvi (Research Analyst)
Editor, Smart Money Secrets

PS: You can get a free year of Richa Agarwal's small cap recommendations right now, as I write this. But this is a special offer that will close within the week. So get in now, and get started with your wealth-building work. Subscribe here.