Q & A with Fund Manager – Lalit Nambiar
Question: What does the word 'Value' connote to you? Would say you are a contrarian as well?
Answer: Value to me implies that the price does not fully reflect the intrinsic value of the business. Put another way we find margin of safety in buying companies during a weak but transitional phase but with an important condition - their past operational history has been above average and there is reason to believe that they could revert to mean in terms of valuation. The focus at entry is thus on those companies where the improvement in the business could surprise weak or depressed expectations. That said, I do look at companies in my portfolio as a business owner. So I would not be in a rush to sell them just because their performance improves and valuations rise.
Our quest is for turnaround names, the bottom-up approach to identifying them usually results in stocks situated in contra spaces, and to that extent, this process would make me a contrarian.
Question: How do you mix the top down and bottom up approaches?
Answer: From a bottom-up perspective the businesses I buy, must pass a number of in-house screens in terms of long term viability of the business model, past execution track record, cash flow and return ratios over a cycle. A top-down process creates awareness and helps set the baseline assumptions on the business environment within which each of these companies work as well as how their fundamentals correlate to each other under various business scenarios. This can help us understand the percentage of the portfolio exposed to different macro risks. For example, if bottom-up a coal-based power generation company seems attractive, on a top-down basis one cannot ignore the fact that the alternative energy narrative may have permanently damaged the viability of its business and that of its bank. Precision in measuring these risks is impossible but a top-down approach helps think through the extent of the portfolio exposed to specific risks.
Question: What are the essential attributes of the stocks you typically like to buy?
Answer: Ideally, we are looking at turnaround opportunities – for businesses to recover on return ratios through a reversion to mean, triggered by factors which could include – a change in competitive landscape, a recovery in the business cycle, a change in regulatory environment, introduction of a new product line perhaps or even a disruptive innovation or a change in management. We also consider essential, a healthy record of accomplishment of having navigated past cycles well – measured in terms of focus on cash flows, prudent capital allocation history and healthy corporate governance standards.
Question: What would you not do in your portfolio?
Answer: As stock market movements are cyclical in nature, no stock will probably remain permanently undesirable. However, we would limit our enthusiasm for some of the so-called perpetual turnaround candidates, which usually sprout when markets are extremely upbeat on midcaps. While it is possible that we may invest in companies which do not generate positive operating cash flow consistently over a cycle, if we do succumb to such temptation, we would limit such stocks to less than 1% - 1.5% of the portfolio on an individual basis. We prefer to avoid exposure to stocks that we judge are excessively leveraged as often turnarounds can be delayed and this can prove fatal for a company with excessive debt. Again, we avoid companies, which have more than once crossed lines drawn in the sand, on corporate governance, transparency or minority shareholder rights.