Stock Idea: Thangamayil Jewellers - The gold edge

Describe the business in a few sentences. What does the company do? Who are its primary customers?

Thangamayil is a gold jewellery retailer based mainly out of Madurai and Tamil Nadu. 92% of sales are from gold jewellery. 30-35% sales are from recycled jewellery. The company currently operates 22 stores and is looking to expand its stores by 3-4 every quarter.

Is the sector that the company is in growing? i.e. Is there a headwind or a tailwind present?

The gold retailing industry is very fragmented mostly with local small retailers. Very few large branded players in the market – Tanishq and TBZ are a few large players. Gold has been a traditional & sentimental asset class for Indians. And with the rise in its price in the last 5 years, the attachment towards it is unlikely to go down in a hurry, unless there is a lon & protracted price decline. That is an unlikely event till there is a long term improvement in global financial markets.

What is the current market share of the company? Can the market share be increased?

Currently, the company has a 25% market share in and around Madurai. It will be difficult for the company to increase market share as newer players are entering their markets. To increase sales, the company is moving into newer territories, smaller cities and towns in Tamil Nadu. The company has seen a rise in customers opting for its gold savings schemes. From 38,000 customers, it has gone up to 80,000 this year and is expected to be close to 125,000 by year end. This provides free funds to the company also provides assured customer sales.

Who are the primary competitors? Why is this company a better investment than them?

Large players like Tanishq, TBZ would not go down to the Tier II cities like Madurai before penetrating the Tier I cities. Similar sized players like Alukkas Jewellers, Bhima Jewellers, Kalyan Jewellers, Lalitha Jewellers, Kirthilal Jewellers are entering Madurai and may take away some market share from the company. An important factor in jewellery retail is “trust”. Women (the main decision makers wile purchasing jewellery) tend to stick to a particular store/brand and since pricing is the same across companies, personal relationships with the retailer are definite plus point. Thangamayil is the only small sized jewellery retailer that is listed on the stock exchanges.

What is the owners’ and managements’ stake in the company?

Promoters hold nearly 70% stock of the company.

Are management's salaries too high?

Management salaries were increased in 2012 to 90 lakhs (9 million p.a.) and 1% of net profits. At a 60 cr profit, 1% commission comes to 60 lakh. So, an annual compensation of 1.5 crores, which is not exorbitant by today’s standards.

How much debt is there in the balance sheet? Is it increasing, decreasing or remaining constant?

Company has a debt of 250.93 cr on its books. Most of the debt is short term working capital debt to finance buying gold and maintaining inventory at store level. Since, the debt is used to purchase gold, the risk associated is limited, unless there is a very sudden and sharp price decline in gold (which is a very low probability event).

Is the debt level normal for the sector the company is operating in (i.e. how much is the debt-equity ratio of its nearest competitors)?

Thangamayil’s D/E is 1.85. It has increased over the last 5 years. This is one area which needs to be carefully watched. Most gold retailers have high D/E ratios with the notable exception of Titan (which is practically debt free). TBZ has a D/E ratio of 1.28.

How much cash is there on the BS? What is the cash per share?

Cash is 9.5 cr as on Mar 31, 2012. Not significant with respect to either equity or debt.

Is the Networth rising over the years?

Networth has gone up from 22.9 in 2008 to 146 cr in 2012 at a growth rate of 59% CAGR.

Is the inventory/sales rising or more-or-less in the same range? [Rising ratio may mean company is not able to sell its products.]

Inventory / Sales is nearly 30% for the last 2 years.

Is the debtors/sales rising or more-or-less in the same range? [Rising ratio may mean company is not able to collect payment.]

Debtors is negligible.

Has the company increased its sale, net profit, operating margins and net margins over the years?

TRENDS: 5Years 3Years 1 Year Sales Growth 54.83% 66.12% 53.84% OPM 8.79% 9.23% Profit growth 80.3% 87.6% 9.64% RoE 41.41% 41.97% 48.35%

Has the company increased it RoE, RoCE, (RoA for financial companies) over the years or atleast maintained it? How does it compare to its competitors?

Due to the extensive use of leverage, ROCE is nearly double that of RoE. Narration Mar-08 Mar-09 Mar-10 Mar-11 Mar-12 RoE 30% 27% 21% 32% 40% RoCE 23% 20% 16% 19% 22%

Is the company operating cash flow positive? Is the operating – investment cashflow positive? Is the company net free cashflow positive? Is the Operating cash flow higher than earnings per share?

Company has negative operating cash flow for the last 5 years.

Does the company pay tax, dividends every year?

Company is paying a standard tax rate. Dividend payout. Div yield is over 2% at CMP. The company has decided to expense out all its advertisement and publicity expenses (written off accumulated deferred revenue expenses) in this year. This will reduce reported net profits for FY13. e.g. In Q2Fy13, profit was under stated by 7.3 cr as a result of expensing deferred advertisement expenses.

Is the Free Cash Flow per share higher than dividends paid?

The company has been consistently running a negative operating cash flow in order to grow. Again, a key monitorable.

Is the business capital intensive?

Gold retailing is very capital intensive. The company maintains around 1,500 kgs of gold as inventory. As the numbers of stores go up, the size of the inventory also needs to go up.

What is the possible valuation or price target?

FY12 EPS is 43.05. Unadjusted EPS for FY13 could be around the same level as last year. FY14E EPS could be around 60-65. A conservative PE of 8-10 could provide a price range of 480 – 650 which is substantially higher from CMP.

Is the PE ratio below 15? Is the PEG above 1.0?

PE is around 8.5 (TTM). PEG is well below 0.5 as the company has been growing well over the last 3-5 years.

Why do you think the stock is under priced? Is there an expectation to double the investment in 2-3 year timeframe? If not, why bother?

The peer group of gold or jewellery companies is all trading at much higher earning multiples. The differential is primarily because Thangamayil operates in Tier-II & Tier-III towns and not the large metro cities.

What has been the share price over the last 5 years? Has it matched the profit growth? If not, why not? Does the market know something I don’t?

The stock has moved from about 70 to 330 in approximately 3 years (a return of 368% vs 20% of the Sensex in the same period.

Guru Speak: Michael Mauboussin on Luck vs Skill in Investing

Michael Mauboussin - One of the best minds out there.

Guru Speak: Buffett Partnership Letters (1957 to1970) - Key Takeaways and Learnings - Part VI

In continuation of reading the Buffet Partnership Letters, here is the 6th part in the series. You can read the previous posts here:
Part I
Part II
Part III  

Part IV 

Part V

I would request you to read Buffett's 1967 letters. Those two letters are by far the best I have read so far and shows some of the crystal-clear thinking that became his signature in the later years. I try to capture some of the best lines from the letters.

---

1966 July

If we start deciding, based on guesses or emotions, whether we will or won't participate in a business where we should have some long run edge, we're in trouble. We will not sell our interests in businesses (stocks) when they are attractively priced just because some astrologer thinks the quotations may go lower even though such forecasts are obviously going to be right some of the time. Similarly, we will not buy fully priced securities because "experts" think prices are going higher. Who would think of buying or selling a private business because of someone's guess on the stock market? The availability of a quotation for your business interest (stock) should always be an asset to be utilized if desired. If it gets silly enough in either direction, you take advantage of it. Its availability should never be turned into a liability whereby its periodic aberrations in turn formulate your judgments. A marvelous articulation of this idea is contained in chapter two (The Investor and Stock Market Fluctuations) of Benjamin Graham's "The Intelligent Investor". In my opinion, this chapter has more investment importance than anything else that has been written.

---

1967

In the last few years this situation has changed dramatically. We now find very few securities that are understandable to me, available in decent size, and which offer the expectation of investment performance meeting our yardstick of ten percentage points per annum superior to the Dow. In the last three years we have come up with only two or three new ideas a year that have had such an expectancy of superior performance.

We will not go into businesses where technology which is away over my head is crucial to the investment decision. I know about as much about semi-conductors or integrated circuits as I do of the mating habits of the chrzaszcz. (That's a Polish May bug, students - if you have trouble pronouncing it, rhyme it with thrzaszcz.)

Furthermore, we will not follow the frequently prevalent approach of investing in securities where an attempt to anticipate market action overrides business valuations. Such so-called "fashion" investing has frequently produced very substantial and quick profits in recent years (and currently as I write this in January). It represents an investment technique whose soundness I can neither affirm nor deny. It does not completely satisfy my intellect (or perhaps my prejudices), and most definitely does not fit my temperament. I will not invest my own money based upon such an approach hence, I will most certainly not do so with your money.

The evaluation of securities and businesses for investment purposes has always involved a mixture of qualitative and quantitative factors. At the one extreme, the analyst exclusively oriented to qualitative factors would say. "Buy the right company (with the right prospects, inherent industry conditions, management, etc.) and the price will take care of itself.” On the other hand, the quantitative spokesman would say, “Buy at the right price and the company (and stock) will take care of itself.” As is so often the pleasant result in the securities world, money can be made with either approach. And, of course, any analyst combines the two to some extent - his classification in either school would depend on the relative weight he assigns to the various factors and not to his consideration of one group of factors to the exclusion of the other group.

Interestingly enough, although I consider myself to be primarily in the quantitative school (and as I write this no one has come back from recess - I may be the only one left in the class), the really sensational ideas I have had over the years have been heavily weighted toward the qualitative side where I have had a "high-probability insight". This is what causes the cash register to really sing. However, it is an infrequent occurrence, as insights usually are, and, of course, no insight is required on the quantitative side - the figures should hit you over the head with a baseball bat. So the really big money tends to be made by investors who are right on qualitative decisions but, at least in my opinion, the more sure money tends to be made on the obvious quantitative decisions.

When the game is no longer being played your way, it is only human to say the new approach is all wrong, bound to lead to trouble, etc. I have been scornful of such behavior by others in the past. I have also seen the penalties incurred by those who evaluate conditions as they were - not as they are. Essentially I am out of step with present conditions. On one point, however, I am clear. I will not abandon a previous approach whose logic I understand (although I find it difficult to apply) even though it may mean foregoing large and apparently easy, profits to embrace an approach which I don’t fully understand, have not practiced successfully and which, possibly, could lead to substantial permanent loss of capital.

Guru Speak: Buffett Partnership Letters (1957 to1970) - Key Takeaways and Learnings - Part V

In continuation of reading the Buffet Partnership Letters, here is the 5th part in the series. You can read the previous posts here:
Part I
Part II
Part III  

Part IV

---

Last year in commenting on the inability of the overwhelming majority of investment managers to achieve performance superior to that of pure chance, I ascribed it primarily to the product of: "(1) group decisions - my perhaps jaundiced view is that it is close to impossible for outstanding investment management to come from a group of any size with all parties really participating in decisions; (2) a desire to conform to the policies and (to an extent) the portfolios of other large well-regarded organizations; (3) an institutional framework whereby average is "safe" and the personal rewards for independent action are in no way commensurate with the general risk attached to such action; (4) an adherence to certain diversification practices which are irrational; and finally and importantly, (5) inertia.”

We diversify substantially less than most investment operations. We might invest up to 40% of our net worth in a single security under conditions coupling an extremely high probability that our facts and reasoning are correct with a very low probability that anything could drastically change the underlying value of the investment."

We have to work extremely hard to find just a very few attractive investment situations. Among the few we do find, the expectations vary substantially. The question always is, “How much do I put in number one (ranked by expectation of relative performance) and how much do I put in number eight?" This depends to a great degree on the wideness of the spread between the mathematical expectation of number one versus number eight.” It also depends upon the probability that number one could turn in a really poor relative performance.

If good performance of the fund is even a minor objective, any portfolio encompassing one hundred stocks (whether the manager is handling one thousand dollars or one billion dollars) is not being operated logically. The addition of the one hundredth stock simply can't reduce the potential variance in portfolio performance sufficiently to compensate for the negative effect its inclusion has on the overall portfolio expectation. Anyone owning such numbers of securities after presumably studying their investment merit (and I don't care how prestigious their labels) is following what I call the Noah School of Investing - two of everything. Such investors should be piloting arks.

Guru Speak: Micheal Mauboussin on Skill Vs Luck in Investing

Michael Mauboussin is one of my most favourite thinkers and writers. I try to read everything he has written. His writings at times can be a bit complex and may require a number of iterations before I can really make some sense of it, but is always extremely insightful and thought-provoking.

Guru Speak: An Interview with Buffett

Guru Speak: Buffett Partnership Letters (1957 to1970) - Key Takeaways and Learnings - Part IV

In continuation of reading the Buffet Partnership Letters, here is the 4th part in the series. You can read the previous posts here:
Part I
Part II
Part III

There are from his posts for 1965. He focuses on how to make intelligent choices on post-tax returns.

Truly conservative actions arise from intelligent hypotheses, correct facts and sound reasoning. These qualities may lead to conventional acts, but there have been many times when they have led to unorthodoxy. In some corner of the world they are probably still holding regular meetings of the Flat Earth Society. 

We derive no comfort because important people, vocal people, or great numbers of people agree with us. Nor do we derive comfort if they don't. A public opinion poll is no substitute for thought. When we really sit back with a smile on our face is when we run into a situation we can understand, where the facts are ascertainable and clear, and the course of action obvious. In that case - whether other conventional or unconventional - whether others agree or disagree - we feel - we are progressing in a conservative manner.

More investment sins are probably committed by otherwise quite intelligent people because of "tax considerations" than from any other cause. One of my friends - a noted West Coast philosopher maintains that a majority of life's errors are caused by forgetting what one is really trying to do. This is certainly the case when an emotionally supercharged element like taxes enters the picture.  What is one really trying to do in the investment world? Not pay the least taxes, although that may be a factor to be considered in achieving the end. Means and end should not be confused, however, and the end is to come away with the largest after-tax rate of compound. Quite obviously if two courses of action promise equal rates of pre-tax compound and one involves incurring taxes and the other doesn't the latter course is superior. However, we find this is rarely the case.

It is extremely improbable that 20 stocks selected from, say, 3000 choices are going to prove to be the optimum portfolio both now and a year from now at the entirely different prices (both for the selections and the alternatives) prevailing at that later date. If our objective is to produce the maximum after-tax compound rate, we simply have to own the most attractive securities obtainable at current prices. And, with 3,000 rather rapidly shifting variables, this must mean change (hopefully “tax-generating” change). 

It is obvious that the performance of a stock last year or last month is no reason, per se, to either own it or to not own it now. It is obvious that an inability to "get even" in a security that has declined is of no importance. It is obvious that the inner warm glow that results from having held a winner last year is of no importance in making a decision as to whether it belongs in an optimum portfolio this year.

If gains are involved, changing portfolios involves paying taxes. Except in very unusual cases (I will readily admit there are some cases), the amount of the tax is of minor importance if the difference in expectable performance is significant. I have never been able to understand why the tax comes as such a body blow to many people since the rate on long-term capital gain is lower than on most lines of endeavor (tax policy indicates digging ditches is regarded as socially less desirable than shuffling stock certificates).

Guru Speak: Sanjoy Bhattacharya & Raamdev Agarwal

Sanjoy Bhattacharya is always great to listen to. Great intellect.

Guru Speak: Buffett Partnership Letters (1957 to1970) - Key Takeaways and Learnings - Part III

In continuation of reading the Buffet Partnership Letters, here is the 3rd part in the series. You can read the previous posts here:
Part I
Part II

On being contrarion and doing your due diligence:

You will not be right simply because a large number of people momentarily agree with you. You will not be right simply because important people agree with you. In many quarters the simultaneous occurrence of the two above factors is enough to make a course of action meet the test of conservatism.  You will be right, over the course of many transactions, if your hypotheses are correct, your facts are correct, and your reasoning is correct. True conservatism is only possible through knowledge and reason.

The hallmark of value investing. Buy cheap!

This is the cornerstone of our investment philosophy: “Never count on making a good sale. Have the purchase price be so attractive that even a mediocre sale gives good results. The better sales will be the frosting on the cake.”

On the kind of management he likes.

On Harry Bottle who took over as President of Dempster Mills once Buffet bought controlling stake - "Harry had never thought of running an implement company six days before he took over. He is mobile, hardworking and carries out policies once they are set. He likes to get paid well for doing well, and I like dealing with someone who is not trying to figure how to get the fixtures in the executive washroom gold-plated."

Market fluctuations and how it really does not matter much.

I think you can be quite sure that over the next ten years, there are going to be a few years when the general market is plus 20% or 25% a few when it is minus on the same order, and a majority when it is in between. I haven’t any notion as to the sequence in which these will occur, nor do I think it is of any great importance for the long-term investor. 

When to walk away if you do not understand the transaction. Ignore tips.

Early in 1962 I heard rumors regarding a sellout to Union Oil of California. I never act on such information, but in this case it was correct and substantially more money would have been made if we had gone in at the rumor stage rather than the announced stage. However, that's somebody else's business, not mine.

Guru Speak: Buffett Partnership Letters (1957 to1970) - Key Takeaways and Learnings - Part II

In the second part on Buffett's letters, the focus is on the types of stocks he buys. My comments are marked in blue in brackets. You can read the first part here.

Our Method of Operation

Our avenues of investment break down into three categories. These categories have different behavior characteristics, and the way our money is divided among them will have an important effect on our results, relative to the Dow in any given year. The actual percentage division among categories is to some degree planned, but to a great extent, accidental, based upon availability factors.  

The first section consists of generally undervalued securities (hereinafter called "generals") where we have nothing to say about corporate policies and no timetable as to when the undervaluation may correct itself. Over the years, this has been our largest category of investment, and more money has been made here than in either of the other categories. We usually have fairly large positions (5% to 10% of our total assets) in each of five or six generals, with smaller positions in another ten or fifteen. (provides a glimpse of Buffett's portfolio sizing thoughts.)

Sometimes these work out very fast; many times they take years. It is difficult at the time of purchase to know any specific reason why they should appreciate in price. However, because of this lack of glamour or anything pending which might create immediate favorable market action, they are available at very cheap prices. A lot of value can be obtained for the price paid. This substantial excess of value creates a comfortable margin of safety in each transaction. This individual margin of safety, coupled with a diversity of commitments creates a most attractive package of safety and appreciation potential. (His cigar-butt approach - legacy from Ben Graham). Over the years our timing of purchases has been considerably better than our timing of sales. We do not go into these generals with the idea of getting the last nickel, but are usually quite content selling out at some intermediate level between our purchase price and what we regard as fair value to a private owner.

The generals tend to behave market-wise very much in sympathy with the Dow. Just because something is cheap does not mean it is not going to go down. During abrupt downward movements in the market, this segment may very well go down percentage-wise just as much as the Dow. Over a period of years, I believe the generals will outperform the Dow, and during sharply advancing years like 1961, this is the section of our portfolio that turns in the best results. It is, of course, also the most vulnerable in a declining market.

Our second category consists of “work-outs.” (mainly arbitrage operations) These are securities whose financial results depend on corporate action rather than supply and demand factors created by buyers and sellers of securities. In other words, they are securities with a timetable where we can predict, within reasonable error limits, when we will get how much and what might upset the applecart. Corporate events such as mergers, liquidations, reorganizations, spin-offs, etc., lead to work-outs.

This category will produce reasonably stable earnings from year to year, to a large extent irrespective of the course of the Dow. Obviously, if we operate throughout a year with a large portion of our portfolio in work-outs, we will look extremely good if it turns out to be a declining year for the Dow or quite bad if it is a strongly advancing year. Over the years, work-outs have provided our second largest category. At any given time, we may be in ten to fifteen of these; some just beginning and others in the late stage of their development. I believe in using borrowed money to offset a portion of our work-out portfolio since there is a high degree of safety in this category in terms of both eventual results and intermediate market behavior. (Interesting thought process. Buffett defends using leverage when the results are predictable) Results, excluding the benefits derived from the use of borrowed money, usually fall in the 10% to 20% range. My self-imposed limit regarding borrowing is 25% of partnership net worth. Oftentimes we owe no money and when we do borrow, it is only as an offset against work-outs.

The final category is "control" situations where we either control the company or take a very large position and attempt to influence policies of the company. (Again extremely interesting and instructive. As an investor Buffett thinks in terms of buying out complete companies and be able to influence management. Very few investors, including UHNIs think on those lines) Such operations should definitely be measured on the basis of several years. In a given year, they may produce nothing as it is usually to our advantage to have the stock be stagnant market-wise for a long period while we are acquiring it. These situations, too, have relatively little in common with the behavior of the Dow. Sometimes, of course, we buy into a general with the thought in mind that it might develop into a control situation. If the price remains low enough for a long period, this might very well happen. If it moves up before we have a substantial percentage of the company's stock, we sell at higher levels and complete a successful general operation.