Mr. Market

Mr. Market is the famous metaphor created by Benjamin Graham, commonly known as the father of value investing and Warren Buffett's mentor.

This is by far the best write up on how a fundamental investor should approach markets and investing. I'd strongly recommend revisiting this every once in a while; or every time you start feeling lost in stock tickers.

Following is an excerpt from Warren Buffett's Annual letter to Shareholders (Berkshire Hathaway) 1987 


Whenever Charlie and I buy common stocks for Berkshire's insurance companies (leaving aside arbitrage purchases, discussed later) we approach the transaction as if we were buying into a private business. We look at the economic prospects of the business, the people in charge of running it, and the price we must pay. We do not have in mind any time or price for sale.

Indeed, we are willing to hold a stock indefinitely so long as we expect the business to increase in intrinsic value at a satisfactory rate.
 

When investing, we view ourselves as business analysts - not as market analysts, not as macroeconomic analysts, and not even as security analysts.

Our approach makes an active trading market useful, since it periodically presents us with mouth-watering opportunities. But by no means is it essential: a prolonged suspension of trading in the securities we hold would not bother us any more than does the lack of daily quotations on World Book or Fechheimer. Eventually, our economic fate will be determined by the economic fate of the business we own, whether our ownership is partial or total.

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Ben Graham, my friend and teacher, long ago described the mental attitude toward market fluctuations that I believe to be most conducive to investment success. He said that you should imagine market quotations as coming from a remarkably accommodating fellow named Mr. Market who is your partner in a private business. Without fail, Mr. Market appears daily and names a price at which he will either buy your interest or sell you his.

Even though the business that the two of you own may have economic characteristics that are stable, Mr. Market's quotations will be anything but. For, sad to say, the poor fellow has incurable emotional problems. At times he feels euphoric and can see only the favorable factors affecting the business. When in that mood, he names a very high buy-sell price because he fears that you will snap up his interest and rob him of imminent gains. At other times he is depressed and can see nothing but trouble ahead for both the business and the world. On these occasions he will name a very low price, since he is terrified that you will unload your interest on him.

Mr. Market has another endearing characteristic: He doesn't mind being ignored. If his quotation is uninteresting to you today, he will be back with a new one tomorrow. Transactions are strictly at your option. Under these conditions, the more manic-depressive his behavior, the better for you.

But, like Cinderella at the ball, you must heed one warning or everything will turn into pumpkins and mice: Mr. Market is there to serve you, not to guide you. It is his pocketbook, not his wisdom that you will find useful. If he shows up some day in a particularly foolish mood, you are free to either ignore him or to take advantage of him, but it will be disastrous if you fall under his influence. Indeed, if you aren't certain that you understand and can value your business far better than Mr. Market; you don't belong in the game. As they say in poker, "If you've been in the game 30 minutes and you don't know who the patsy is, you're the patsy"

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Ben's Mr. Market allegory may seem out-of-date in today's investment world, in which most professionals and academicians talk of efficient markets, dynamic hedging and betas. Their interest in such matters is understandable, since techniques shrouded in mystery clearly have value to the purveyor of investment advice. After all, what witch doctor has ever achieved fame and fortune by simply advising "Take two aspirins"?

The value of market esoterica to the consumer of investment advice is a different story. In my opinion, investment success will not be produced by arcane formulae, computer programs or signals flashed by the price behavior of stocks and markets. Rather an investor will succeed by coupling good business judgment with an ability to insulate his thoughts and behavior from the super-contagious emotions that swirl about the marketplace. In my own efforts to stay insulated, I have found it highly useful to keep Ben's Mr. Market concept firmly in mind.

Following Ben's teachings, Charlie and I let our marketable equities tell us by their operating results - not by their daily, or even yearly, price quotations - whether our investments are successful. The market may ignore business success for a while, but eventually will confirm it. As Ben said: "In the short run, the market is a voting machine but in the long run it is a weighing machine" The speed at which a business's success is recognized, furthermore, is not that important as long as the company's intrinsic value is increasing at a satisfactory rate.

In fact, delayed recognition can be an advantage: It may give us the chance to buy more of a good thing at a bargain price.

Sometimes, of course, the market may judge a business to be more valuable than the underlying facts would indicate it is. In such a case, we will sell our holdings. Sometimes, also, we will sell a security that is fairly valued or even undervalued because we require funds for a still more undervalued investment or one we believe we understand better.

We need to emphasize, however, that we do not sell holdings just because they have appreciated or because we have held them for a long time. (Of Wall Street maxims the most foolish may be "You can't go broke taking a profit.") We are quite content to hold any security indefinitely, so long as the prospective return on equity capital of the underlying business is satisfactory, management is competent and honest, and the market does not overvalue the business.

10 reasons why "retail investors" Invest in Stocks !

Through the course of my journey as an investor, I have come across a lot of "retail investors" wanting to invest for different reasons... 

While I have kept going on my mission of investor education and spreading financial literacy...particularly amongst retail investors...on the giving end...       I have also thoroughly enjoyed their motivations, perspectives and the reasoning behind investment decisions... on the receiving end...

Here are some of the most interesting conversations I have had with some of them...
(some funny, some foolish and some serious and thought provoking... )

Top 10 reasons on why and how "retail investors" Invest in Stocks !

10. I want to make some easy money (like you). I am sick of my job, tired of working 14 hours a day and I want to be rich...

9. I heard an analyst on TV recommend this stock. No, I don't remember his name, but he seemed confident. So this looks like a great opportunity.

8. I want to invest in IPO's. I have heard they are good and a lot of people made money last time there was an IPO.

7. I want to do "day trading"...and these days days you can get stock tips from anywhere, so that's not going to be a problem. I have seen a lot of people doing it and they make a lot of money too...

6. I just want to invest and try my luck. Here..take this money and do as you feel like... And don't worry... I have already considered this money lost...

5. Because anybody can make money with IPO's. It is so simple. You just have to open a Demat account and you can even apply for IPO online. And just sell it (like everybody else) on the day it lists (at twice the issue price). You don't have to be an investor to do that. It's a no-brainer...

4. I basically want to invest in a good company. No. Not the one that I work for. How could it make any profits. It is so full of stupid people.

and the smarter ones who have by now mastered the art of stock picking...

3. 900....what! NO... That's an expensive stock...we should buy one below 50, as it is cheap and is sure to go up...

2. ya, see this one....its near its 52 week low... so it can't go below that price and is simply bound to go up...its so obvious...

1. We are in a bull run... I heard the Sensex has gone up from 3000 to 21000 in last 7 years. That means, if I invest 1 lac today, it will be worth 7 lacks in 7 years.

Now the "Ellsworth Toohey's" of the Investment world know better how to trap more monkeys...

the thing called "money"

[this blog is a continuation of the last two blogs "Does money grow on trees?" and "Why doesn't government print more money?"]

Let us suppose there is an island with a population of 100 people. Unfortunately, all the food currently produced on the island is just enough to feed 80 people (say we have 80 pizzas)

How do you suppose we address the food shortage?

Will printing and distributing more money to people solve the problem? Or will producing more food help? 

Did you say "producing more food will help ?"

Well... Yes! I believe the last example sets the mind of the right track.

An economy or a country is more likely to grow/prosper with increase in resources, output and productivity rather than with printing more units of currency.

Hold on! I know some of you might be thinking that with more money, the island people can buy/import food from other islands :)

Nice idea, but if this worked… before long, all countries would just be printing money and buying stuff from the other countries :)

Unfortunately, there is one huge island in the west that specializes in the art of printing money/paper and importing resources from all the other island's :)

For a change, let us go over the history of money...

Who created Money? (No, money was not created by the almighty!)

Why was Money created? And how does it really work?

You must have heard about the "barter" system. In fact, most of you would have practiced it too (knowingly or unknowingly)

How the barter system naturally evolved as a medium of exchange of resources between people. Cattle exchanged for wheat, meat exchanged for swords and so on…

Having thought as much, also think of the challenges and constraints of the barter system (particularly with mutual coincidence of needs (lack of open markets) and lack of standardization; making storage or transformation difficult)

Before long, everyone converged and felt the need for a standard unit or measure that could be the medium of exchange and even storage for that matter.

Well, it started as sea shells or rather beads made of shells for north American Indians, whale’s teeth for Fijians, tobacco for early American colonists, cakes of salt in Ethiopia and Tibet; gold, bronze, nickel and silver slabs for most other civilizations… eventually took the form of coins and notes, scaled out to bank accounts /cheque books and then to smart cards.

It occurs quite naturally that the real things in this world are the resources though. We don’t really eat and drink money, rather exchange it for resources (“goods and services”, to be technically correct)

As you begin to look at money as a measure or an exchange for goods and services, may it be milk, oil, sugar, rice or gold; or the dress you admired in the store the other day, or a hair cut or a body massage; you also start thinking of money as a resource itself that you could store to exchange for some other resource in the future.

Further, the purchasing power (or "value") of money itself also adjusts over time, just as other resources adjust in their relative demand and supply, and consequently in the their relative value.

that is to say...just like everything else, even money does not escape the laws of demand and supply...

• With the increase in supply of money, as if it were freely flowing everywhere, the value of money (like other things) goes down. (Ever heard the term “liquidity” on news/money channels)
• So as a result of more money in the society/system (or excess “liquidity”), the prices of other resources increase (self adjust) and consequently you have to shell out more money to buy the same thing. (Ever heard the term “inflation” on news/money channels)

Though not the best way to look at, but for now think of the equation as:

“Sum of all money = Sum of prices of all goods and services available for consumption”

[the equation always balances itself, but with higher prices every time]

This explains why having money trees or printing more currency wouldn’t work.

In fact, in most circumstances, these solutions would lead to more imbalances caused by the uneven distribution. The balance gets disturbed, every time fresh money gets pumped into a selective section of the society. (For Instance: IT professionals getting relatively higher average salaries compared to several other fields; thanks to outsourcing and currency difference between rupee and dollar)

Ever heard about 11000000% (yes, that’s 11 million percent) Hyperinflation in Zimbabwe in 2008?

(A loaf of bread costing 200,000 in Feb 2008 had surged to 1.6 trillion Zimbabwe dollars by August 2008. And most notes are worth a lot more in scrap than what they can collectively buy as currency. Imagine taking a briefcase full of money to the grocery store, so you could buy a loaf of bread or hiring several trucks to carry notes to pay for your new car. To address this, the government introduced new notes of higher denominations every year adding more and more zeroes; more zeroes than you can count using all your fingers (hands and feet combined)

From Wikipedia:

Hyperinflation in Zimbabwe began in the early 2000s, shortly after Zimbabwe's confiscation of white-owned farmland and its repudiation of debts to the International Monetary Fund, and persisted through to 2009. Figures from November 2008 estimated Zimbabwe's annual inflation rate at 89.7 sextillion (10²¹) percent.^[1] By December 2008, annual inflation was estimated at 6.5 quindecillion novemdecillion percent (6.5 x 10¹⁰⁸%, the equivalent of 6 quinquatrigintillion 500 quattuortrigintillion percent, or 65 followed by 107 zeros – one googol 65 million percent).^[2] In April 2009, Zimbabwe abandoned printing of the Zimbabwean dollar, and the South African rand and US dollar became the standard currencies for exchange. The government does not intend to reintroduce the currency until 2010.

Such can be the results of extreme situations such as a world war, a revolution, a political disturbance or natural disasters; For Zimbabwe it was the land reform that started in 2000, which completely devastated the economy.

In situations like these, people tend to shift back to other resources (such as gold) or more stable currencies. (Having lost faith in their currency, which is paper after all)

Nevertheless, coming back to less adverse situations:

In times of excess money (liquidity) in the society: sucking some money back into the banking system sounds like a reasonable idea to me. (Just like we drain out excess water from our homes in time of floods or heavy rains)

For instance, with every hike in interest rates:

• More people tend to save money  
• Businesses have to shell out more interest on their loans, hence making it less favorable for businesses to take loans for expansion etc

Now you know both “why” and “how” the Fed in the USA, RBI in India and similar bodies in all countries endlessly keep trying to maintain a balance between the interest rates, inflation, liquidity (flow of money), unemployment rates, GDP and so on…

Upon some more thought I realized that the problems we face though aren’t with lack on money, but about lack of resources/production and more so in the uneven distribution of those.

Coming back to the example of the island with 100 people and food availability for 80 people, there are 3 possible ways of distribution: 

• First, all 100 people share the 80 pizzas equally amongst themselves (or based on their needs) 
• Second, 80 people consume 80 pizzas and the remaining 20 people scramble, fight or crave for food. 
• Third, 40 people consume 70 pizzas (some consume two or three, some overeat and some even waste) and the remaining 60 people scramble amongst themselves for what’s left.

While first is too idealistic and second is unlikely (too theoretical); third is a reflection of how we usually establish the balance…

As for the money plant, as I grew up to be 8, I did plant a French beans creeper instead; nurtured it well, enjoyed watching it grow and distributed the first lot equally amongst all my neighbors.

Why doesn't government print more money?

[this is a continuation of my last blog: "Does money grow on trees?" ]



As a child, I often thought, why are we a developing country, why is there poverty, why doesn't everyone have enough money to buy everything that they need?

To this, I often questioned as to why doesn't our government (or RBI for that matter) print more currency notes, so that everyone could be rich?

(I bet at least 9 out of 10 people reading this must have thought it too :))

Mummy, being a banker herself assured me that the RBI was indeed printing a lot of new notes, but somehow more money it printed, more costly things became and most people still remained poor, if not gotten poorer.

So I thought, may be they should buy more printing machines and setup more plants for printing currency instead of trying to do so many other things like roads, education, health care etc.

what if the government borrowed a helicopter; filled it with notes and sprinkled the money all over the nation?

Would it solve the problem and make everyone rich?

Think! Think! Think!

(Coming to think of it, this might actually help; as for the first time, the villagers or the farmers would likely get a larger share attributed to the widely spread farmlands (surface area) compared to the high rise apartments piled up on a tiny piece of land in the metro cities)

By now, you understand how hard I worked all through my childhood towards solving the countries economic/poverty problems and more so, towards becoming rich :)

Some of my more adventurous ideas included trying to discover/mine for treasures under an ancient fort, a temple or a river; or searching for sunken treasures under the ocean; or even robbing a bank for that matter (the place where all the money sat!)

Coming back to our more legitimate ideas of growing money on trees and printing more money...

Let us consider two scenarios or two questions or two hints...

Scenario 1

Imagine… what if all the money with everyone was to become 10 times starting tomorrow. (i.e.: 10 rupees notes become 100’s, 100’s become 1000’s and so on. The money in your bank also becomes 10 times, so does your salary and so does your loan…)

How do you thing the prices of potatoes (selling for 10/- a Kg today) would get affected tomorrow?

Would potatoes continue selling for 10/- per Kg or increase to 100/- per Kg?

Scenario 2

Let us suppose there is an island with a population of100 people. Unfortunately, all the food currently produced on the island is just enough to feed 80 people (say we have about 80 pizzas)

How do you suppose we address the food shortage?

Will printing and distributing more money to people solve the problem? Or will producing more food help?

Think through while I attempt to complete my next blog...

[Continued in my next blog: "the thing called money" ]

Does money grow on trees?

"paise kya ped par ugtay hain !!! "

The infamous middle class answer to every child's unrealistic demands…

For some strange reason, every time I got this reply from someone, I imagined a gorgeous tree bursting with currency notes ... something like this...

What more: Whenever in need of money, just walk down to the nearest (or the most prosperous :)) money tree, shake the tree, collect the money and vroom...

I for one shook a lot of trees, but only to find dry leaves and fruits (mostly rotten ones), fall over my head.

Perhaps, I was too small to comprehend it when I first got this as a casual reply from my dad, in response to one of my usual stupid demands.
However, I most definitely remember asking my mother to buy and grow a Money Plant so all our financial needs would be addressed. (After all, I had heard so much about the length of the money plant in our neighbors house)

...and to this, my merciless habit of day dreaming and building mental pictures for words I heard further ensured that I never reached out for the real meaning; at least not for the many opportunities that followed over the silly childhood years... 

No. Don’t be surprised! …I’ve spent most of my childhood doing nothing but day dreaming. (Planting money trees in my own world)

As I grew up, I thought more on what if money really grew on trees :)

Would it be 100 rupee notes or 500's :)

Would there be different seeds for different money trees?

And how much would those seeds sell for?

But who would ever want to grow the 5 or 10 rupee ones when you had the option of 100’s and 500’s? (Perhaps, every once in a while for the sake of crop rotation)

And what about coins?

Would they grow under the earth like potatoes and carrots or hang on trees like the guavas and mangoes :)

Would we have any other plants or trees?

Would everybody stop working? (As most people I know work for money)

What if money really grew on trees?

Would money then be worth anything at all?

Like all good things come to an end...
My dreams of money tree soon came to an end as someone assured me that growing money on trees wouldn't solve the problems :( ...

Nevertheless, I soon thought of other alternatives…

[continued in next blog: "Why doesn't government print more money"]

Compound Interest - the strongest force in the universe!

Einstein once said: "the strongest force in the universe… Compound Interest!"
(think about it!)

A lot of us know the formula for compound interest, but few understand it and even fewer actually see the force and use it to their advantage...

Let us look at Compounding more closely…

[A rate of 30% over 5 years expands the amount to: P * 1.3 * 1.3 * 1.3 * 1.3 * 1.3 = 3.7129 P]

Have you heard the phrase: "Money making Money!"
It is all about your interest bringing more interest and henceforth (growth over growth!)

In fact, Compounded Interest is also the single biggest force that drove me into the world of Investing and have my life committed to it.

In my career as an Investor, I simply focus on these 3 parameters:

Principal
Principal is the size of your kitty.

By the very nature of compound interest, your Principal is dynamic and keeps adjusting itself with the latest value of your kitty. The role of principal is simple. Had you started out with 2 instead of 1, you would have had twice as much today.

Rate
The rate of returns is a measure of your investing intellect/aptitude. By far, the single biggest factor of focus for an investor. Nearly everything you do as an investor is oriented towards maximizing this parameter.

Theoretically, no matter how small a Principal you start with, if you have a higher rate of return, you would eventually surpass anything however big. (Alternatively, if you are driving faster (and in the right direction :)), you would overtake any vehicle however ahead, if the race is long enough)

The difference between a 10% versus a 20% return stretched over 10 years is 140%

There is a crucial role of consistency here. For instance, if you aiming for 50% annual returns and fail to get any returns for an interim year, than you need to get 125% returns to make up for it the next year. (Imagine what it would take to cover up for a loss)

Time
Time is your tenure or longevity as an investor. Starting early is one advantage, not quitting is another and living longer is yet another. If you are healthy and live 3 extra years at 26% an annum, you would die/retire twice as wealthy :)

However, compound interest is not meant for gamblers or those willing to risk the life of their investments.

Over the years, a number of very smart people have learnt the hard way that a long string of impressive numbers multiplied by a single zero equals zero

Simple Interest: Unless the interest is paid back to the investor year after year, any calculation using simple interest is wrong, rather unfair.

Time and again, I have failed to understand the application of simple interest.

The world human population grew from 1 billion to 6 billion in the last century (1900 to 2000) at 1.8% compounded rate. If it was the simple interest at work, the same 1.8% rate of "simple" growth, would have resulted in a population of just 2.8 billion instead of 6 billion. So you see, it is never "simple" when it comes of application! Moreover, simple interest here would have meant that only the first generation reproduced.

While simple interest is addition, compound interest is multiplication.
Remember: Repeated multiplication always beats repeated addition!

Coming back to compound interest, here is a chart that will help you see the potential.

These are the returns with a one time investment of $ 100 or INR 100/-
Imagine the returns if you invested more or recurring monthly/annually through SIP.

I decided to limit the chart at 50% and 50 years as I neither aspire to get anything close to 50% compounded returns nor expect to live beyond 50 years from now. Moreover, I started having trouble with numbers beyond these.

Another example: If you consistently manage to double your money every 2 years:

• An amount of $ 100 K would be approximately $ 100 Million in 20 years after 10 doublings.
• And the same $ 100 K would be approximately $ 100 Billion in 40 years after 20 doublings.

However, it would be foolish to think only math's and continuous compounding in a limited real world…

That brings me back to an excerpt from Warren Buffet's 1989 letter to the shareholders of Berkshire Hathaway... 

We face another obstacle: In a finite world, high growth rates must self-destruct. If the base from which the growth is taking place is tiny, this law may not operate for a time. But when the base balloons, the party ends: A high growth rate eventually forges its own anchor.

Carl Sagan has entertainingly described this phenomenon, musing about the destiny of bacteria that reproduce by dividing into two every 15 minutes. Says Sagan: "That means four doublings an hour, and 96 doublings a day. Although a bacterium weighs only about a trillionth of a gram, its descendants, after a day of wild asexual abandon, will collectively weigh as much as a mountain...in two days, more than the sun - and before very long, everything in the universe will be made of bacteria." Not to worry, says Sagan: Some obstacle always impedes this kind of exponential growth. "The bugs run out of food, or they poison each other, or they are shy about reproducing in public."

Coming back to the real world:
The good news is that compounding does work in the real world, even with smaller and more realistic rates of growth.

We often tend to limit our minds with the highest or the best that we have seen in the past. Think for yourself, how many times have you looked at the 'all time high' and fallen short of being able to see anything beyond... man, that's the highest it ever got to! And we draw the line…(this is like driving a car with eyes on rear view mirror!)

An old or a newer high can most certainly be a resistance (more so because we create it in our minds), but certainly not the end. These are just milestones after all.

The other day, I heard someone say…
"Man, I don’t think Dow will ever go beyond 14000 again…!"

Here is best reply, in the words of Warren Buffet:

"The Dow averaged 5.4% per year during the last century despite two world wars and a great depression. To get 5.4% of gains per year, the Dow will have to end this century around 2 million. So you better get used to announcing these little milestones"

Happy Investing and Happy Compounding!

Foreign MNC's in India

Let us run through history of MNC's in Corporate India...

1970's: Most MNCs came to the Indian equity market as ‘unwilling guests’ following a government rule that made it mandatory for Indian arms of the MNCs to list on local stock exchanges.

A rule in 1973 directed foreign companies to sell majority holdings to locals.
What that meant for the parent MNC's was sharing equity, ownership and profits made from business done in India.

While some MNC's like Coca Cola and IBM exited Indian shores, unhappy with the regulation; Others like Nestle and Colgate chose to list (making millionaires out of investors who bought shares back then)

1991: In an effort to revive the industries and the economy, the government began to open various sectors and invited MNC's to India, what was until then a more or less closed economy.

In what was to follow, a lot more multi national companies entered Indian subcontinent mostly by way of fully owned (100%) subsidiaries and some through partnerships.

To name a few: Nike, Coke, Adidas, Puma, Vodaphone, Nestle, McDonalds, Dominoes, Pizza Hut, Toyota, Mercedes benz, Renault, Volkswagen, BMW, Sony, LG, Samsung, Microsoft, Apple, Google, Motorola, Nokia, Citibank, Bank of America, Wells Fargo, RBS, AIG, Shell and numerous others in the pipeline as you read...the list is HUGE

However, the MNC's that chose to enter India between 1973 and 1991 had to part with their stake in the Indian arms by having to list shares locally. They sure had the early mover advantage compared to those that entered post 1991, but it still looks unfair in some sense.

With an end motive of globalizing, expanding business and making more profits, there was a natural conflict of Interest between the MNC parents and the minority shareholders in the listed Indian arms. It wasn't long before most of these MNC's had their minds working on how to address this and get a larger share (rather full share) in the business done through their arms in India.

In the scope of the law, most public listed MNC's have done one or more of the following:

1. Royalties

Fair enough, MNC kids paid Royalties on Sales for technology, RnD, brand value to the MNC's parents. Since Royalties are paid on net sales and paid as expense (before tax), this was a good way for parent companies to take home some money. However, since the regulations capped Royalty payments at 5% on domestic sales and 8% on exports, this strategy alone did not solve the problem for high IP / high margin products.

2. Buy backs, Open offers and Delisting from exchanges

A lot of MNC's did buy backs, made open offers to increase stake in the Indian arms (Many were even successful in delisting which meant converting into a private ltd (100% sub) just like ones that started post 1991)

A lot of MNC's looking for delisting, in fact suppress financial performance to keep the stock price low, so as to make a cheaper open offer.

It isn't a coincidence that the profits of Reckitt Benckiser jumped 12 times from 21 crores to over 252 crores in just 4 years of delisting since 2002

The delisting of Cadbury India was attempted at 500/- per share back in 2003. After an appeal for fair pricing of shares by some retail investors, the company was forced to revise the price to 1340/- (EnY has now recommended 1742/- a share)

Don't confuse this with an exit from Indian markets: For almost all of the MNC's, globalizing business and expanding to India and other countries is beyond question. In fact, several of these Indian listed subs already contribute significantly to the overall business and profitability of the parent company.

3. Dividend Payouts

This is a very popular method of taking home profits. Depending on needs for fresh investments and taxation laws, several companies paid out heavy dividends (high dividend payout ratio), hence taking back profits home. However, dividend had to be shared between all shareholders. (So in principal it did not change anything)

4. Importing parts or products from parent MNC company

A lot of companies chose to source the products or parts from the parents companies, as only a limited part of the sales of products manufactured in India could be taken back as royalty and profits had to be shared with the local share holders. (This was particularly true for high IP or high margin products)

How about listing parallel 100% subsidiaries for doing selected businesses (sounds unfair?)

June 2009: The government made it mandatory for all listed companies to have atleast 25% float in 3 years.

…so these MNC kids that were stuck in a limbo had to decide fast whether to make open offers and delist fast or to give up and dilute stake to 75%

What more… Investors started taking stock prices for these listed MNC kids up.. up.. up.. speculating open offers and a host of delisting's to happen. (some of the names include Gillette, Foseco, BOC India, OFSS, Honeywell Automation, BlueDart Express, Novartis, 3M India, Thomas Cook and several more)

While delisting may bring immediate gains, Investors will lose a big opportunity of being able to share prosperity in the long term. Moreover, with the ever increasing role of MNC's in Indian economy, a large portion of Indian Business is out of reach for the domestic investors.

2010: The RBI removed the upper cap on the royalties paid by companies to their parents companies. (Earlier the royalty payments for import of technology was capped at 5% for domestic sales and 8% for exports, while the royalty for using trademark/brand name was capped at 1% of domestic sales and 2% of exports)

Does this mean that these companies can now pass all their potential profits to their MNC's parents as royalties, pre tax.

Looks scary and off course unfair for the retail investor. [Yet another way of milking the investors :) ]

Last week, Maruti announced lower than expected profits for the quarter on account of higher "royalty payments" to the parent company. So was the case with the quarterly results of Hindustan Unilever. So the bad news for the retail investors has already started to reflect.

Are Royalties Justified ?

Off course! I don't disagree with the fact that the original inventor deserves a royalty/pie in the sales. (think of it as sharing the cost for RnD, technology and brand value/marketing)

Did you know, even Tata Sons charges brand name royalty to several Tata group companies.
(Sounds fair, as long as it is a common pool of money from group companies, which will be spent on group advertisements)

In fact, I believe the Royalties paid to various parent MNC's offshore should be counted as Imports (of technology, RnD and Brand Value), if not already so.

My ask from the government is for the protection of the minority shareholders. To ensure that these companies don't do the obvious (increase royalties, suppress performance and then do an open offer) One way this could be taken care of is by making an open offer at say 20% premium to the stock price before increase of royalties, so that the minority shareholders get a chance to exit at a fair price.

There is a certain good that comes out of the removal of upper limit on royalty payments: (more so, in context of listed MNC's)

1. Incentive to manufacture/export products from India.
2. High IP products can now be sold/manufactured/exported from India.

Given that the MNC parents can now take a fair share of royalties from the revenues from Indian operations, the manufacturing can now happen in India instead of sourcing of parts/products through imports. Further, manufacturing in most cases should be more economical given lack of transportation/import and lower cost of production in India.

In fact, India can be seen becoming the manufacturing and export hub for several of these MNC companies.

Coming back to listed MNC kids in India:

The pain that I face as an Investor though, is the complexity in predicting profits and valuations for these listed subs in India... amid these unknowns, changing policies, conflict of interest and in absence of a definite "beneficiary" of the company's growth and profits... it just adds to the component of "speculation" in making Investment decisions...

China overtakes Japan ?

I saw the following news flash on several news channels and almost every news paper I picked up today.

China overtakes Japan as No.2 economy

Well, if you wish to see how these countries did relatively, here is another one:

Let us skip our discussion on the figures above.
Moreover, the stats above say more than anything I can describe in the scope of a blog.

However, if you were an alien who just landed on earth and came across this article in the news paper that you received as the first thing upon landing. And incidentally you had a geographical map of the planet earth in the other hand.

You'd better be surprised!

How could this possibly be a news?
Wondering ?

The gross domestic output of a country with 6.5% of world's land area and 19.5% of the world's population has just crossed that of a country with 0.25% of world's land area and 1.86% of the world's population!

GDP: The gross domestic product (GDP) or gross domestic income (GDI) is a measure of a country's overall official economic output. It is the market value of all final goods and services officially made within the borders of a country in a year

Further, with such difference in the land areas and populations of different countries, GDP alone surely isn't a true reflection.
So let us look at Per Capita Income.

Per capita income means how much each individual receives, in monetary terms. It is the measure of the amount of money that each person earns in the country, of the yearly income generated in the country. This is what each citizen is to receive if the yearly national income is divided equally among everyone.

China's per capita income of $3800 per person is only a fraction of Japan's $40000 per person and America's $47000 per person. In case you are curious to know, India's per capita income is now in 4 figures (that's over $1000 per person)

But then, you can afford a lot more with $10 in India or China than you potentially could in the US. (i.e.: with $10 in your hands, you can eat more burgers or get more haircuts done in India than in US)

$10 in US not equal to $10 in India not equal to $10 in China (!!!)

To accommodate for this difference in the cost of goods and services, and in the absence of "one world" and "one currency", comes the concept of "Purchasing Power Parity"

Well, come to think of it, and it is this parity that has helped build a lot of export oriented/outsourcing based businesses across borders. (Other than those arising either from the abundance/uneven distribution of resources by geographies or from specialization in creation of products/technologies/services)

Coming back to GDP, Per Capita Income and Purchase Price Parity:

"With 90% of India's wealth and income in the hands of 10% of the people and the remaining 10% of wealth and income distributed amongst the remaining 90% of the population, all above parameters and figures are far from a true reflection and we continue to be the most unbalanced"

In short, these macroeconomic terms may still show economic progress with "the rich getting richer and the poor getting poorer"

Perhaps, we need not the mean or median but the standard deviation to measure ourselves.

Laundry Business

As if my idea of selling vegetables wasn't disturbing enough for my mom, I thought one step ahead and this time decided to do laundry for people.

Jokes apart, but: Why Laundry business of all things ?

One fine day, I decided to give a thought to various forms of services that were still unorganized. (Most service oriented needs of consumers appeared to be addressed in a pretty decent way through several online businesses such as bill payments, booking air/railway/bus tickets, matrimony, career/jobs, ordering food/flowers/books/gifts etc)

Several others that I considered but did not find as compelling or ripe (for various reasons like scalability, market size, feasibility or competition) were Spa, Saloon, various extra curricular activities, tuitions, security/maid agencies and electronics/electrical/plumbing repair services.

So Laundry Service, it was to be.

Sounds boring/dull ?
Well, this is by far the most interesting business proposition of all that I have made so far.

The Opportunity:

There was tremendous scope for improving the Quality and Experience of the customer as well as Organizing the laundry market and Scaling out.

Needless to say, majority of "apes" on this planet wear clothes and among them a vast majority (leaving selected few) do wash and change clothes regularly :)

In this part of the world, the advent of dryers for clothes (ones that dry clothes completely, or in technically correct language, ones that remove 100% moisture) never happened.
Of the washing machines that are available, even the costlier fully automatic ones only shrink the clothes off the water without drying them completely. Hence, we use the sun for drying clothes, by hanging them in balconies, terrace or open grounds.

People spend so much time and energy washing and drying clothes including those who have fully automatic washing machines. Moreover, if you visit any society/household, more than half the balconies can be seen being utilized for drying clothes, in most cases taking away the look and charm of the house (sometimes all the more when the wrong set of clothes are visible to the audience)

A good capacity washing machine along with a tumble dryer (though costly) can reduce your turnaround time to less than 2 hours (with just about an hour for washing and 40 minutes for drying clothes) Hence, a customer can get his/her laundry serviced and back within 2 hours in the best case, or the same day in most typical scenarios.

I can think of 3 different models for Laundry business:

1. ATM / Kiosk model
2. Washing Plant / Bulk model
3. Retail model

ATM/Kiosk model

More suited where services/manpower is extremely costly and real estate/rentals are relatively cheaper. Self service booths with washing machines and dryers that can be operated by customer using coins for instance. These are similar to ATM's or phone booths or video game parlors based on slot machines.

Washing Plant /Bulk model

If capital investment in not an issue and you are a man of contacts and marketing expertise, then this is by far the best model. This involves setting up a centralized plant for washing clothes, preferably outside the city to reduce costs, near a river for availability of water. The location must also consider proper disposal of waste water.
The model depends on bulk orders instead of managing small orders for thousands and millions of retail customers.
i.e.: Tie up with hotels, corporates, guest houses, railways, gyms, spa, saloons etc.
(For example, the gym that I visit alone gives 200 towels for washing every day @ INR 5/-)

This requires both expertise and the adoption of right technology in the arena of washing.
If your pricing, quality and management are good, there is every reason for various businesses to outsource this task to you, rather than doing/managing themselves. This creates value for the customers, thus a win-win for both the businesses.

After all, there is a reason why Outsourcing works well for so many businesses.

Retail model

This is by far the most interesting one of the 3 models, though the toughest and most engrossing one to execute. This one actually has maximum room for innovation and requires the maximum thought and activity. For one, the model is extremely service oriented. The way clothes are arranged, collected, returned and even politeness can turn the business either way.

Above all, this requires scaling out to thousands of retail customers through an awesome network/coverage for pick up and drop points, without which you end up with low volumes and a high cost on transportation. Looking to build something extremely efficient, such as the dabba wala chain in mumbai. The cleaning and drying can happen at various(strategically located) outlets or at a centralized location (depending on what is favorable). Tagging and tracking of clothes is of utmost importance as even 0.01% misplaces in a high volume business can kill your business.

The price point has to be extremely low, ideally around 5/-or 6/- per garment (Not only less than what the local vendors charge, but also lower than the what people shell at home on washing (tangible or intangible; consciously or subconsciously)

Since the organized market needs to be built out from scratch, it is best suited to start with (target first) the bachelors and working couples in metros (one; for their lack of time and two; for the higher disposable incomes, lifestyles and mindset) So start with cities like Bangalore, Hyderabad, Mumbai, Pune, Delhi, Gurgaon, Noida...

Come to think of it, and there is so much to experiment and innovate:

• Tie up with Libraries, Theatres, Movie Halls for a small outlet. People can drop clothes when they arrive and collect them while returning (turnaround 2 hours)
• Mobile Seva: Have a couple of washing machines and water tankers fitted on truck for promotion activities. Go to a society, wash, dry and return clothes in 2 hours.
• Once you have a sizable customer base, you can do so much more from adding more services/goods to print advertising on the back of the bill to getting brand partners (one of FMCG companies for detergents)
• In fact, with a network like that, you could tie up with Logistics companies for distribution of couriers to retail customers.

The right use of technology and process will be key to the success and scale out (whether it is barcode, RFID or manual labels for tracking, pigeon hole style for sorting clothes or SMS/emails for notifications to customers)

One way to grow fast and grow right is by integrating the numerous existing local vendors into the new system. (off course, in a way that is viable for both parties. Again, this will be a major win-win-win for all parties. One, the company for it gets an immediate reach; Two, for the vendor who doesn't face competition, or lose business or livelihood; Three, for the government and economy as the employed/self-employed rates remain unaffected)

There is also a 4th model, that is doing laundry at high prices and high margins (high quality of service ), limited volumes and thus creating a niche for yourself. But this is pretty much like dry cleaning prevalent in today's world.

Happy Laundering!

Vegetable Retail

The first real idea that I had for doing a business was around selling vegetables.

It was the year 2005. Most of my friends from graduation and I were employed at good companies where we spent more than half our days. The evenings and weekends were more fun, mostly attributed to the endless gossips, gaming, movies and a bachelor's activity in kitchen. Since many of us felt a nagging for doing something extraordinary (actually to be making a lots of money :)), our meetings soon became the forum for business ideas.

Apparently, most of my ideas were very conventional. Rather than crazy new inventions, they all covered activities/businesses that were already in place. (All my ideas were about one or more of the following: optimizing processes, redefining/improving user experience, automation, integration/unification, solving day to day problems, organizing an unorganized market etc)

My Vegetable Retailing idea had two dimensions:

1. First was my vision of an "Organized" vegetable retail market in India and the role of Reliance in it.
2. Second was that of creating a niche for myself (selling high quality vegetables at high prices (and high margins :)) for the high end customers (upper 2% of the market))

Coming back to the first part and answering the two obvious questions:

Why Vegetable Retail?

Well, I thought about the typical consumer spending patterns.

• People buy shoes/footwear once or twice a year (It is true for about 50% of the world population that has descended from Mars)
• People buy clothes once in a month or a quarter (again, the other 50% population that descended from Venus does this more often)
• People buy groceries weekly or monthly (typically)

(and all these naturally differ drastically in amounts and frequency for different people)

But one thing that no human can survive without is food.
Every single family that I have known buys vegetables at least once a week (in most cases, more often)

Another disheartening observation was to see how the Vegetable prices change between the time they leave the hands of the farmer and when they are finally bought by a retail customer for consumption. In some cases, I found what was sold by farmers at Rs 3/- per kg would retail anywhere between 10/- and 20/- in small towns and metros. (Poor farmers and Poor consumers!)

I realized there was a huge scope for backward integration. (Something on lines of what Amul has done for the dairy/milk sector)
Lastly, I'd expect higher operating margins for vegetable retail as compared to the other forms of organized retail.

Why Reliance?

Well, because I was a Reliance shareholder and strongly felt that this was the company that had the right scale that could completely transform the whole sector. (especially after having been positively impressed with their action and strategy in telecom market)

The question was: whether the presently scattered/unorganized vegetable retail market in India could be organized over the next decade.

Lets do a modest top down analysis to see the potential and market size:

Population: 110 crore (1100 million)
(Assuming that more than half the population does not eat food or grows its own food, we would still have about 50 crore (or 500 million) consumers)
Taking an average family size of 5, this translates into 10 crore (or 100 million) Families.
Assuming Rs: 10/- (or 20 cents) are spent everyday per individual on vegetables and fruits.
(This translates to Rs: 50/- per family per day and a monthly family expenditure of Rs: 1500/- on vegetables and fruits)

So 100 million families would spend about Rs: 15000 crore (or $ 3.2 billion) monthly on vegetables. That makes an annual market size of Rs: 180000 crore (or $38 billion)

If this market was to be Organized with the help of a superb backward network/integration, there was going to be value at least for the buyer(consumer) and the seller(farmers)

The major player could potentially grab about 20% of the market share as the market moved from unorganized to organized over the next 2 decades.
This meant sales of about Rs: 45,000 crore (or $9.5 billion)

Even at 10% profit margins, we are talking of a billion dollars in profits annually.

In fact, to be honest, I'd expect the market to be much bigger in the years to come. (at least 4 times the modest estimate above)

• The market increases when the remaining 600 million also start eating.
• The market increases with the development and improvement in lifestyles.
• The market increases when people start spending more than Rs: 10/- per person on fruits and vegetables.

Moreover, Intelligent players would not limit themselves to vegetables, they'd expand to fruits, regular grocery items, milk products etc

For Reliance, this would have meant growing a new business that could potentially be bigger than its existing business.

Eventually in 2006, Reliance did come up with its retail plans announcing "Reliance Fresh"

Needless to say, I was the most excited of all, as several close ones called me and asked if I had made my recommendation to Mr. Ambani :)

Over the last 3 years, my observation is that it has certainly not been as successful as I had imagined it would be. Backward integration is tough, specially when it comes at the cost of eliminating a lot of traders and middle men. Politics and resilience kicks in as soon as you begin realizing your ideas and plans. In fact, even of the front end, there is a lot of competition now, as more and more players have jumped into retail.

My idea for myself was that of forming a niche. That of having vegetable/fruit outlets in all higher end residential societies, starting from one society in one city and eventually expanding to more, pretty much organically.

In fact, there is also a good(fast growing) market for peeled/chopped/sliced/washed and nicely packed vegetables and sprouts etc that are "ready to cook". The value add here is more than obvious.

If you go up one more level up the value chain, you have "ready to eat, precooked/frozen foods" already retailed by several known brands :)

However, my software engineer friends were more interested in selling vegetables and groceries over the web/internet. I constantly argued that all the Indian women that I had ever seen buying vegetables, liked to feel/prick/stress-test every single tomato/ themselves before approving it for purchase. And this was not possible online!

However, my mom was pretty upset to know that I was planning to quit my job and start selling vegetables. (What have you done engineering for ?)

My plans of Vegetable Retailing like all other plans slowly faded away / died out, and I decided to continue my focus on consuming, one thing that I was really good at !