30-year m anthan , 1 mantra - PowerPoint Presentation

1. 30-year manthan, 1 mantra: QGLPBackdrop for the Think Equity Think QGLP ContestFor more details & clarifications, email thinkQGLP@motilaloswal.com

2. The manthan (churn)

3. The manthan – Knowledge churnWide-range of readings on business & investing

4. The manthan – Knowledge churnRich learnings from 21 years of Wealth Creation Studies

5. Warren Buffett’s investing processA business we understand;Favorable long-term economics;Able and trustworthy management; andA sensible price-tag. — 2007 Annual Letter

6. The mantra: QGLP

7. QGLP in a nutshell“QGLP – Quality, Growth, Longevity, reasonable Price”Quality of business x Quality of managementStable business, preferably consumer facingHuge business opportunitySustainable competitive advantageCompetent management teamHealthy financials & ratiosGrowth in earningsVolume growthPrice growthMix changeOperating leverageFinancial leverageLongevity – of both Q & GLong-term relevance of businessExtending competitive advantage periodInitiatives to sustain growth for 10-15 yearsPriceReasonable valuation, relative to growth prospectsHigh margin of safetyPrefer stocks with PEG of around 1xQGLP

8. Q – QualityHigh quality business x High quality managementQuality of businessLarge profit poolSize of opportunity(eg IT, Pharma, Financials)Competitive landscapeMonopoly (Bosch), Oligopoly (OMCs)Dominant market share (Asian Paints, United Spirits)Niche / Strategic opportunity(Eicher, Page Industries)Favourable demand-supplyQuality of managementUnquestionable integrity– Impeccable corporate governance– Concern for all stakeholders– Preferably paying full tax and a well-articulated dividend policyDemonstrable competence– Excellence in strategy & execution– Sustaining competitive advantage Growth mindset– Long-range profit outlook– Efficient capital allocation

9. G – Growth in earningsUnderstanding short-term Growth is a science but Understanding long-term Growth is an artA lollapalooza of C, V, P, M – Cost, Volume, Price, Mix(lollapalooza is a big effect from large combinations of factors)Growth = Earnings growth x Valuation growth

10. G – Growth in earningsHigh earnings growth situationsValue Migration – flow of value (profit & market cap) from outmoded businesses to superior businesses (e.g. wired telephony to wireless, public sector banks to private banks, etc)Sustained industry tailwindSmall base with large opportunityNew large investment getting commissionedInorganic growth through M&AConsolidation of competitionOperating & Financial leverageTurnaround from loss to profit

11. L – LongevityLongevity of both Quality and GrowthNo breakdown of the business model for the foreseeable futureGrowth sustained over the long-term— huge opportunity size— periodic new product launches / capacity expansion— non value-dilutive inorganic growth

12. P – PriceReasonable Price i.e. well below intrinsic value, leaving good Margin of SafetySeveral valuation approaches possibleSome proprietary formulas – 1. Payback ratio Less than 1x is almost a sureshot formula for multi-bagger Payback ratio = Market Cap Next 5 years PAT 2. PEG (PE to Future growth) Less than 1x improves chances of huge wealth creation

13. QGLP: Case Studies

14. QGLP Case StudiesBajaj Finance HPCLEicher MotorsPage IndustriesBoschVoltasMax Financial ServicesKotak Mahindra BankCity Union BankCummins

15. QGLP Case 1: Bajaj FinanceQ — QualityQuality of BusinessBajaj Finance has a clear moat in the consumer durable financing businessIn an opex-heavy business, it has effectively used technology to lower operational costsIt has developed strong cross-selling capabilities enabling asset-sweating. It aims to achieve a cross-sell ratio of 5-6 products per customer (global benchmark)Its strong relationships with dealers is key to attract high volumes and acquire customers.Quality of ManagementStrong pedigree – promoted by Bajaj Group with 57% stake held by Bajaj FinservCompetence: It has delivered 59% PAT CAGR over last five years; internally, the management works and thinks like a bank – especially, when it comes to raising funds at cheap cost. Lower cost of funds is the biggest source of moat in financing businessIntegrity: Flawless track record of corporate governance; steady payout of 12-13%Growth mindset: Management has steadily found new lending segments in a commoditized business like lending e.g. lifecare financing

16. QGLP Case 1: Bajaj FinanceG — GrowthBajaj Finance’s 4-year AUM CAGR is a high 44%; PAT CAGR 38%This implies it is not merely growing, but delivering profitable growthThe key positive of this strong growth is that it has been able to raise capital at 4-5x book valueGoing forward, as India’s penetration of white and brown goods rises, Bajaj Finance is best placed to capitalize on this opportunityBajaj Finance will also continue to expand its presence geographically into Tier-II & III citiesIt has delivered the above growth in the worst of credit cycles

17. QGLP Case 1: Bajaj FinanceL — LongevityIndia’s credit to GDP is relatively low at 60-65%, implying long-term sustained growth opportunityGiven Bajaj Finance’s strong dealer presence and high-end systems and processes, it should sustain higher-than-sector growth for a long timeExpect Bajaj Finance to evolve into a full-fledged commercial bankP — PriceTTM P/E of 32x and Price/Book of 5.2x are reasonable, considering sustainable RoE of 20% and PAT CAGR of 30%Expect stock return of 25-30% in line with earnings growth

18. QGLP Case 2: HPCLQ — QualityQuality of BusinessIndia’s 3rd largest oil refining & marketing company, market share of ~25%Key beneficiary of oil sector deregulation including free pricing of auto fuelsFavorable competitive landscape – only 3 major state-owned players, privatesector slow in ramping up fuel pumpsPost-deregulation, RoE (consolidated) bounces back to 30% levels in FY16Quality of ManagementCompetence: Over four-decade track record of focused business.Integrity: Track record of sound corporate governance; dividend payout of 25%+Growth mindset: – Investment in continuous modernization and expansion– 49% stake in a 9 million ton refinery in Bhatinda, Punjab

19. QGLP Case 2: HPCLG — Growth7-8% sustained volume growth in auto fuelsSignificant headroom for marketing margin to gradually expandfrom current levels of Rs 1.5 per litre (USc 2.2) to global levels ofUSc 5 per litreThe company is increasing its focus on non auto fuel products – currently less than 10% of EBITDA vis-à-vis global average of 40%Post-deregulation, healthy cash flows to help redeem debt, leadingto some financial leverage

20. QGLP Case 2: HPCLL — LongevityAuto fuels to remain relevant in India for the foreseeable futureCompany regularly investing for growth, both organic and inorganic,across the oil & gas value chainP — PriceValuation attractive at single-digit P/EsExpect stock return of at least 25%on the back of earnings growth and valuation re-rating

21. QGLP Case 3: Eicher MotorsQ — QualityQuality of Business95% share in 250cc+ motorcycles through the Royal Enfield brandIndia’s third largest commercial vehicles player in JV with Volvo; Eicher has 54.4% stakePremiumization in 2-wheelers; also, growing culture of leisure biking in IndiaAsset light and high cash generating business with zero capital employed; RoE is 50%+The only 2-wheeler company with significant pricing power due to lack of competitionQuality of ManagementCompetence: Highly competent management with strong focus on costs and known for their frugal manufacturing style.Integrity: JV with Volvo is empirical evidence of integrity and credibilityGrowth mindset: – Global ambitions in 2-wheelers; The CEO has shifted to London to oversee the international foray– Aggressive entry into CVs and CV engines is also testimony to growth mindset

22. QGLP Case 3: Eicher MotorsG — GrowthExcess demand situation in motorcycles over last 5 years despite a 9x increase in production to 0.45mnMotorcycles waiting period at 3-4 months lends growth visibilityExpect volumes to double over 3 years, in line with productionThe Indian CV industry can grow at 10% annually for the next 10 years with 20% CAGR during an upcycleVECV has only 3.7% share in HD trucks that forms half the industry. Market share gains can drive 13% volume CAGR over 10 yearsExports is a huge opportunity, in motorcycles, CVs and CV enginesOver next 3 years, expect revenue to double and PAT to grow 2.7x

23. QGLP Case 3: Eicher MotorsL — LongevityLeisure biking appears to be a mega trend in India; Eicher’s motorcycles may even start getting used for commuter bikingLow market share in CVs lends longevity to growth prospectsVolvo’s search for low cost manufacturing hubs in Asia could further shift production of auto parts and engines to VECV.P — PricePrima facie, valuation appears richwith P/E of 54x TTM & 25x CY17However, major de-rating unlikelygiven RoE of 40%+ and doubling ofearnings in 3 yearsExpect stock return of 22-25% in line with earnings growth

24. QGLP Case 4: Page IndustriesQ — QualityQuality of BusinessPlay on branded, premium innerwear in India, a fast-growing nichePage is exclusive franchisee of Jockey International in India, Dubai, Sri Lanka, Nepal and Bangladesh till 2030High entry barriers given strong brand recall, widespread distribution, and integrated manufacturingQuality of ManagementCompetence: Page awarded by Jockey International Inc. for “20 years of service and dedication to the Jockey Brand” between years 1995 and 2015; RoE consistently at a high 50-60%Integrity: Flawless track record of corporate governance; high payout of ~50%Growth mindset: Consistent entry into new categories (women’s innerwear, leisure wear, kids wear and swim wear) and new SKUs in existing categories

25. QGLP Case 4: Page IndustriesG — GrowthContinuous value migration in innerwear at two levels, from – (1) unbranded to branded, (2) branded to premium brandedThe mid- and premium innerwear industry in India is growing at about 13% p.a.; expect Page to grow at least 20%Page is growing at three levels – (1) Unabated launch of new SKUs in existing categories(2) Entering new categories; and(3) Steadily increasing market share across categoriesPage is continuously investing in IT to lower working capital,and interest costsLast 10-year Sales CAGR at 35%, PAT CAGR at 47%; expect future rates to be marginally lower given high base

26. QGLP Case 4: Page IndustriesL — LongevityInnerwear is a relevant product for nearly eternityLongevity of premium innerwear is high given low penetrationManagement has taken up several initiatives to sustain bothtopline and bottlom line growth for a fairly long periodP — PriceAt current price levels, Page’svaluation seems rich with TTMP/E at 70xValuations have run-up sharply; we continue to hold given huge opportunity, healthy profit growth, high RoE and healthy payouts

27. QGLP Case 5: BoschQ — QualityQuality of BusinessDominant market share in diesel fuel injection systems with monopoly in certain auto sub segmentsHigh entry barriers: (a) technology leadership supported by a strong parent;(b) stickiness with customers; (c) cost leadership due to scale and localizationGood cash generation, ROEs of 15%+ despite underlying cyclicalityQuality of ManagementCompetence: Ability to maintain dominant market share over a long period and strong focus on productivity enhancementIntegrity: Strong corporate parent; track record of ~20% dividend payoutGrowth mindset: Ahead of the curve in developing low cost localized products required due to emission norm changes, which helps it capture a large chunk of a new market

28. QGLP Case 5: BoschG — GrowthThe underlying sub segments like tractors, CV, PV, 3W & 2W have long term growth potential of 8-10% annually and 12-15% in an economic upswing.Emission norm related changes due to BS4 & BS6 will result in requirement of new products almost 3-4x the cost of existing ones over the next 5 years. The corresponding new market creation is almost 3x the revenues of the company.Strong pricing power due to monopoly position provides operating leverage.Option value if India emerges as a manufacturing hub for global auto companies over next 10 years.

29. QGLP Case 5: BoschL — LongevityFuel injection systems in automobiles will exist for a long timeOpportunities like Euro VI emission norms will sustain profitablegrowth over the medium and long termP — PricePrima facie, valuation appears rich with P/E of 57x TTM & 35x FY18Given strong, longevated growth prospects over next 5 years led by regulation, expect valuations to remain elevated while earnings growth will drive stock returns.

30. QGLP Case 6: VoltasQ — QualityQuality of BusinessMarket leader in room air conditioning in India with a 20% share.Well-entrenched distribution network (over 11,000 touch-points/7000 dealers), a key entry barrier in the industry.Core RoCE of 43% (FY16) which is reflective of the strength of its business model of largely outsourced manufacturing (runs only an assembly operation) and focus on developing brand and distribution. This is despite the fact that 50% of Voltas’s business is project business which currently does modest margins of 1.4% while the room AC business does 13.2% margins.Quality of ManagementVoltas is part of the TATA group which holds 30.3% stake in the company. TATA’s as an industrial group enjoy amongst the highest reputation for integrity in India.

31. QGLP Case 6: VoltasG — GrowthACs is amongst the least penetrated consumer durable categories in India; AC penetration in India stands at ~4% vs ~25% in China and ~50% in Korea. The number of ACs sold in India are 3.5m units vs ~65m units sold in China.Easy availability of consumer financing / penetration of e-commerce to accelerate the growth and penetration of ACs.Better electricity availability: With the Indian power situation going from a deficit to surplus, peak demand is better addressed which increases propensity to buy high power consuming durables like ACs. India being a tropical country creates a natural demand for ACs.Higher incomes and declining interest rates are broad macro enablers which can accelerate demand.Voltas is regularly launching newer innovative products and leveraging its marketing strengths.

32. QGLP Case 6: VoltasL — LongevityExpect high longevity for ACs. Initially new will drive demand; as the industry matures replacement demand will drive growth.The pedigree of the TATA group lends longevity to the Voltas franchise.P — PriceThe stock trades at an expectedFY17E PE multiple of 28x.Given high medium term growthoutlook (15-20% PAT CAGR), alongwith it being a high core RoCE business (~43%), we believe it willbe a steady 15%+ compounder.

33. QGLP Case 7: Max Financial ServicesQ — QualityQuality of BusinessLife Insurance is a unique financial service - liability business with no asset-side riskMax has strong banca relationships in place – Axis Bank, Yes Bank, LVB apart from having run the best agency setups in the private life industryMax has best in class persistency measures with 13th month persistency of 79%Well capitalized with a solvency ratio of 350%Best in class profitability metrics with post overrun NBAP (New Business Achieved Profit) margins of 18%Post merger with HDFC Life, the combined entity will be the largest private life insurer in India with a market share of 12% overall and 24% amongst private life players.Quality of ManagementCompetence: Post merger, HDFC Life CEO Mr Amitabh Chaudhry will be leading the entity.Integrity: HDFC group has a track record of highest integrity and reputation in India.Growth mindset: HDFC-Max coming together highlights the growth mindset and synergies

34. QGLP Case 7: Max Financial ServicesG — GrowthOn sum-assured-to-GDP ratio, India (~60%) significantly lags developed markets (270% for the US), implying strong growth potential.Value migration: Over FY03-16, new business premiums CAGR is 9%. State-owned LIC’s CAGR is 4% CAGR while for private players it is 28%. Thus market share of private players is up from 6% to 47% over FY03-16. Going forward, expect this value migration to continue, driving growth.Private life insurance is dominated by Top 5 players who command 2/3rd of industry. Thus the entry barriers and scale barriers for existing private players are very high. Hence, expect market leader HDFC-Max Life to gain market share led by strong product innovation and distribution.

35. QGLP Case 7: Max Financial ServicesL — LongevityInsurance, being a savings and protection oriented business has high longevity. Further, with no asset side risk, and no leverage longevity of the business is well ensured.The pedigree of HDFC lends significant advantages to HDFC-Max Life.P — PriceExpect insurance to enjoy rich valuations as it does not require capital infusions unlike other financial businesses.We value HDFC-Max Life at INR 675/share implying valuation multiple of 35x NBAP and FY16-36 APE CAGR of 14%.

36. QGLP Case 8: Kotak Mahindra BankQ — QualityQuality of BusinessIndia’s credit-to-GDP is only 75% v/s world average of 180% (source: World Bank)Massive value migration from state-owned banks to private banks.Kotak Mahindra Bank is the 4th largest private bank; second best in asset qualityKotak offers full play on India’s growing financial services sector - subsidiaries in investment banking, broking, institutional securities, wealth management, asset management and life Insurance.Quality of ManagementCompetence: Despite being a late entrant (Kotak got a banking license only in Feb 2003), it has managed to create a valuable franchise and achieved the target of becoming one of the top 5 banks in the country.Integrity: The bank is renowned for several best banking practices in the country.Growth Mindset : The bank recently acquired ING Vysya Bank, post which it jumped two ranks from 6th to the 4th largest Indian private sector bank. The vision of the management is to become the most preferred financial service company globally.

37. QGLP Case 8: Kotak Mahindra BankG — GrowthOn the revenue side, the ING Vysya acquisition offers several synergies and cross-selling opportunities e.g. (1) ING Vysya has good presence in South India, where Kotak was weak(2) ING Vysya was strong in SME, whereas Kotak is strong in retailOn the cost side, the erstwhile ING Vysya had a credit rating of AA+. The merged entity shall have a credit rating of AAA, implying overall lower cost of funds.The average CASA per branch for ING Vysya was INR 180 mn v/s INR 400 mn for Kotak. There exists huge scope for operational efficiency at ING Vysya, which should improve combined cost-to-income ratio and ROTA.Expect PAT growth of 20% p.a. for the next 5 years.

38. QGLP Case 8: Kotak Mahindra BankL — LongevityWith GDP growth rate of 6-8%, increasing financing penetration, value migration from state-owned banks, the growth story in the Indian private banking space has just begun unfolding.For a few private banks like Kotak, “digital” is a whole new growth driver.Also, expect the big to become bigger in the Indian banking sector.P — PricePrima facie, valuation appears rich; standalone P/E of 30x FY17However, major de-rating unlikely given its pristine asset quality, steady loan growth of 20%, and improving profitability.

39. QGLP Case 9: City Union BankQ — QualityQuality of BusinessIndia’s credit-to-GDP is 75% v/s world average of 180% (Source: World Bank)Massive value migration from state-owned banks to private banks.CUB is a 112-year bank with very strong presence in the SME belt in Tamil Nadu (TN), the second largest contributing state to India's GDP.With 68% presence in TN and 85% presence in south India, it well-positioned to benefit from the Indian macro economic recovery.Quality of ManagementCompetence: Track-record of being profitable and paying dividend for the past 100 years. For the last 10 years, its ROTA has been in the range of ~1.5-1.7%.Integrity: High transparency and healthy dividends suggest concern for minority shareholders.Growth Mindset : Over the past ten years, CUB has grown its advances at an average annual rate of 24%.

40. QGLP Case 9: City Union BankG — GrowthCUB in the recent years has gained market share in the SME segment from some of the ailing PSU banks.In the SME segment, CUB continues to grow at ~25% even asthe credit growth of the system has clocked in the range of 9-11%.CUB is spreading its wings outside south India.Expect earnings growth to broadly track business growth of average 20%.

41. QGLP Case 9: City Union BankL — LongevityWith GDP growth rate of 6-8%, increasing financing penetration, value migration from state-owned banks, the growth story in the Indian private banking space has just begun unfolding.CUB stuck to its core competencies, enabling it avoid large NPAs.We see CUB as a long-term player in the banking space.P — PriceP/E of 19x FY17 & 16x FY18 and PBV of 2.3x FY17 and 2x FY18.Valuations are reasonable for a strong franchise like CUB.

42. QGLP Case 10: Cummins India (CIL)Q — QualityQuality of BusinessMarket leader in India’s mid- and high HP diesel engines market35-40% of CIL’s revenue is exports; CIL is its parent Cummins Inc’s sourcing base for specific engine modelsDiversified sales mix – engines for power backup, off-the-road vehicles, auto, spares5-year average RoE of 25%+Quality of ManagementCompetence: – 51% subsidiary of Cummins Inc, a global leader in diesel engines– Product, R&D support from parentIntegrity: – Embedded as the first point in the company’s articulated core values– High dividend payout of 50%+ clearly indicates concern for minority shareholdersGrowth mindset: – Rs 18 billion capex in last 3 years, including a mega site (Phaltan in Maharashtra) with a focus on exports

43. QGLP Case 10: Cummins India (CIL)G — GrowthLast 6-year growth muted at 10% revenue and 8% PAT, given slowdown both in domestic and export marketsGood play on imminent recovery in Indian economyChange in emission norms is a potential driver of fresh demandSoft commodity prices and fous on cost control (e.g. Six Sigma) should help maintain margins

44. QGLP Case 10: Cummins India (CIL)L — LongevityDiesel engine gensets will continue to be used for backup powerfor a long time to comeRecovery in road construction and mining sectors to drive enginesdemand for off-the-road vehicles and construction equipmentP — PricePrima facie, valuation appears richwith P/E of 29x FY17However, this is reasonable from along-term perspective, given healthy return ratios, zero debt and dividend payout of 55%+Expect stock returns to track earnings growth of 15-20%

45. Best wishes for your participation in theThink Equity Think QGLP ContestFor more details & clarifications, email thinkQGLP@motilaloswal.com