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A Versatile Theory for Finding Multi-baggers in Any Industry

Oct 13, 2016

In this issue:
» The fickle nature of a company's brand value
» Problems continue to pile up for bad loans
» ...and more!
00:00
Rahul Shah, Co-Head of Research

Anywhere you drive in Mumbai these days, you are bound to see loads of spanking new cars sporting bright yellow number plates. The proliferation of tourist vehicles operated by cab aggregators such as Ola and Uber has been amazing.

The island city witnessed an impressive 13% growth in vehicle registrations in 2015-16, a bulk of which was accounted for by the growing popularity of app-based aggregators.

Needless to say, the taxi and auto rickshaw guys are a worried lot. The ground under their feet is fast shrinking. And while they have tried every trick in the book, including threatening to go on an indefinite strike, the proliferation continues. New Ola and Uber cars come on the roads every day and by the hundreds.

But how did it come to this? Why are the incumbents so defenseless? What accounts for the growing popularity of the cab-based aggregators?

Uber's website has a part of the answer. The entire cab-aggregating revolution has its roots in a simple idea: Tap a button, get a ride. While taxis are ubiquitous, hailing them can be extremely troublesome at times. Uber simply wanted to take the trouble out of the equation and make transportation as reliable as running water. The idea is working. At last count, Uber had connected more than one billion people in need of a reliable ride in 514 cities across the world.

The story is indeed fascinating. But will it help us find the next Uber, i.e. a company that's revolutionizing the way we go about our daily lives? We don't think so.

To find the next revolutionary company, one needs a coherent theory and not some story. We need a set of questions that we can ask across industries and improve our odds of finding that next multibagger.

Fortunately, strategy guru Clayton Christensen has most of the answers to our questions. In fact, he has one theory, a framework to answer all our questions.

Christensen is calling it 'the theory of jobs to be done'.

The 'theory of jobs to be done' says that businesses succeed when they help people do certain jobs. And they start failing the very same day they lose sight of what that job is.

And what exactly is a job? Jobs are defined by the customers who hire companies to do them. In the case of taxis, the job wasn't just about moving people from point A to point B. They lost sight of the fact that their job was more about reliability than moving people around. Uber saw opportunity here. It saw what the real job was, and the rest is history.

Dropping this theory because of its simplicity would be a huge mistake. For it is mighty effective as well. Don't we come across companies that, once they achieve a certain size, start to look inward? Gone is the will to change based on the job the customer hired it to do. The emphasis is on wanting to do more of what they know they are good at. No one wants the trouble that comes with changing the way a job is done. Before long, the entire company is working around products and functions. And barely anyone pays attention to the jobs the customer needs to be done.

As Christensen highlights, 'Even great companies veer off course in nailing the job for their customers - and focus on nailing a job for themselves.'

The takeaway then is clear. If you are an investor in a well-established large company, you would do well to ask whether the company is changing according to the needs of the job to be done and not the needs of the organization. If the answer is no, some serious rethinking is required.

On the other hand, if you are looking for the next multibagger, you need to ask what job the customer is hiring this new company for, whether it makes any sense, and if it has potential. And the less abstract the answer, the greater your chance of zeroing in on the right universe of stocks.

Uber had a very simple proposition. Its job was to be reliable and a tap of a button away. Even Google was founded with the idea of doing a very simple job.

We know such companies are one in a hundred. But the theory of jobs to be done does get you closer to the eventual winner. And also get out of the large, inefficient ones.

Do you agree with Christensen? Do you think there is merit in his theory? Let us know your comments or share your views in the Equitymaster Club.

03:00

Investing in big companies is usually safer than investing in smaller ones. Their size provides them with greater ability to tide over internal and external misfortunes.

But here's the problem. Big companies also make big mistakes. Take Samsung for example. Its loyal customers who quickly pounced on its marquee product - Galaxy Note 7 phones - as soon as it hit the shelves have been in for a rude shock. Turns out, these handsets have a tendency to catch fire and there's been quite a few such nasty incidents.

The company has begun a massive recall of this model. 2.5 million units are being recalled and replaced it seems. A Livemint report estimates that at a retail price of US$850, the company is staring at a hit of US$2.1 billion at the very least.

But the company's troubles don't end there. Now, even one of the replacement handsets the company had provided a customer caught fire on an airplane! An ominous sign for a company operating in an industry where customers buy products based on the reputation of the brand.

Will Samsung's Strong Brand Hold-up to its Recent Troubles?

As today's chart of the day shows, it was just last week that the 'Samsung' brand was ranked as 7th most valuable in the world by Omnicom's Interbrand. They pegged its value at about US$ 52 billion. Its investors will be anxious to see how these recent debacles will affect the company's brand value. Brands, as valuable they can be to a company, can also turn out to be quite frail if not lived up to. Investors will do well to remember that.

04:20

The malaise of bad loans has been haunting the Indian economy for long now. And many in the banking circles have been hoping to keep things rolling until a turnaround happens so that companies start making enough money to repay their loans. But so far, things hardly seem to be getting better. As per a Mint report, one-third of incremental industry loans lent out during the past five years is unsustainable under RBI's new S4A norms.

The S4A norms are a scheme introduced by the Reserve Bank of India in June this year for the purpose of sustainable structuring of stressed assets. Under these norms, a bank can split a stressed company's debt into a sustainable portion and an unsustainable one. The sustainable part is that portion of debt that can be serviced by the company's immediate cash flows. And as per the norms it must be at least 50% of total funded exposure. Anything debt over and above this is unsustainable.

One-third of incremental industry loans lent out during the past five years being unsustainable is a cause for worry indeed. As it does point to the fact that even companies who do not have sufficient cash flows have been let to accumulate higher levels of debt even since the onset of the slowdown.

04:52

The Indian stock markets were trading weak today on the back of sustained selling activity across most index heavyweights. At the time of writing, the BSE-Sensex was trading down by around 470 points. Losses were largely seen in and stocks.

04:57

"Risk comes from not knowing what you're doing." - Warren Buffett

This edition of The 5 Minute WrapUp is authored by Rahul Shah (Research Analyst).

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Oct 14, 2016

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