Mohnish Pabrai's Interview at the Investor’s Podcast on April 25, 2023
 
 

  (00:00:00) - Introduction
 
  (00:00:54) - Poor Charlie's Almanack; handling biases
 
  (00:02:55) - Investing in Turkey
 
  (00:06:12) - Circle the wagons
 
  (00:08:54) - Nifty 50 in 1970's
 
  (00:11:51) - Rakesh Jhunjhunwala
 
  (00:13:57) - Naspers
 
  (00:19:09) - Shinoken; share buybacks
 
  (00:24:08) - How has my investing changed over the years
 
  (00:26:07) - Stock based compensation
 
  (00:29:17) - Constellation: Mark Leonard
 
  (00:36:43) - Handling investment mistakes
 
  (00:40:32) - The importance of truth
 
  (00:45:55) - Being open to discuss finances

I'm your host, Stig Brodersen, and It's Berkshire weekend, at least it's Berkshire weekend whenever you're listening to this.

And I'm thrilled to have invited no other than Manish Paparai to join us today.

Manish, thank you so much for taking the time to speak with us today.

Stig, it's always a pleasure at this time of the year just before the Woodstock for Capitalists gets underway.

This is the kind of the pregame tailgate party.

So my first question to you is sort of like with that as a backdrop is how do you make sure to stay objective whenever you process information from people that you really like, perhaps you even admire them, and you have this lot of palooza cascade of different biases that can make you susceptible to not seeing the world the way it really is.

Yeah, that's a great question, Stig, and it's really difficult to do.

And I think most of us, definitely myself, we fail at it.

So yeah, I mean, our brains, you know, they've evolved over the millennia and they are not optimized for being great investors.

They were really brain with optimized to help us survive and surviving on the African savanna needed a certain type of wiring and we need a different kind of wiring to be great investors.

So our brains have a lot of quirks and a lot of biases.

And I would say reading Munger's essay and reading Cialdini's book is going to be helpful in at least being aware of the pitfalls.

But we are susceptible to it, You know, the commitment and consistency biases, a number of the biases that come in and that are very much part and parcel of who we are.

The best, The best that we can do is try to be aware of it and try to sidestep as many of the pitfalls as you can, but I don't think anyone has succeeded in sidestepping all the pitfalls.

So yeah, I mean, I think that's a great essay and it is helpful.

And it's helpful to be aware that we, we are quirky living creatures with quirky brains, which don't necessarily follow a rational path all the time.

You also talked about how, whenever you translate the Turkish word, it's into, you don't invest, it's like play the stock market.

And so that sort of makes me think about what that dynamic do to the efficiency of a market.

Graham said decades ago, it took like 18 months to revert back to intrinsic value.

How do you think about the whole inverting to intrinsic value?

How is that different than, say, the data series we have about the States, if at all?

Well, I mean, I think Graham's bedrock that we all believe in is that in the long run, the stock market is a weighing machine and in the short run, it's a voting machine.

I think in the end, all companies get correctly valued.

And if they're undervalued, they're going to go up.

If they're overvalued, they're going to come down.

And So I think that is part of the bedrock that applies globally.

But I think that in a place like Turkey, and actually when I mentioned to local Turks about the 9 days, they are actually surprised.

They expected it to be a lot shorter because they're all the people they know basically, you know, invest at 10 o'clock and want to wrap it up by 02:00.

And so they actually expected that the holding period would be like, you know, 2 or 3 days on average.

So they were actually surprised that it's long, as long as 9 days, because they just said, like I said, that the way they look at the stock market is they're playing the market and not really investing.

And that's really the only explanation 1 can come up with to, you know, for the wide mispricing we've seen in businesses like RaySas, for example, is that no 1 is weighing the companies.

They're just, you know, dancing in and out of them.

He says that the stock market is a mechanism to transfer wealth from the active to the inactive.

And it could not be more true than a place like Turkey.

So yeah, actually I enjoy, it's kind of like, I would say it's almost a little bit of a time warp.

It's like going back to the sixties and seventies in the U.S.

I think that's all it feels like the early nineties in India, where you had a lot of very high quality businesses at single digit multiples.

So that existed in Western markets, it existed in India, and it doesn't exist anymore.

You know, so these places have, we will always have fear and greed, and we will always have mispricing, but the degree of mispricing that I can find in a place like the U.S.

Is, is much, much less than many other places.

With all of that said, I also heard you say in another video that here in 2023, you wanted to study 50 businesses if it passed those first few hours of tests.

So I'm curious what you learned and again, not to put you on the spot of any kind of specific stocks, but whether you found, I don't know, perhaps a new mentor model you want to share or, or a new perspective on things.

And I've made some good progress on the 50 businesses.

And I have to pull it up maybe like 17 or 18 or something like that, which is I'm on track because basically I'm behind if I'm not at least 1 per week.

And of course, you know, when I make a trip, like I made a trip to Turkey, I see all these new companies.

So I get a lot done during a week like that.

But yeah, I mean, I think that 1 of the things I am excited about is kind of a new way of me looking at things is what I call the circle, the wagons, circle, the wagons approach, to investing.

And, you know, this year, For example, Buffett in his letter mentioned that Berkshire has a few truly extraordinary businesses, many pretty good businesses, and a very large number of mediocre or below average businesses.

And he also mentioned that in 58 years, it's really been 12 decisions that have created most of the great outcome for Berkshire.

And most of the other decisions have just been at best so-so.

So if you look at something like Berkshire Hathaway over 58 years, Warren has bought more than 80 companies in that period.

He's probably made at least 10 key hires and probably bought at least 210 stocks over that period.

And when he says that 12 stand out, it's like 1 in 25.

It's like a 4% hit rate for someone as great as Warren Buffett.

And Charlie Munger said many times, if you took our top 15 decisions and took them out, our record would be useless.

And we actually see this particular phenomena of this

So for example, if you look at the Nifty 50 in the early 70s, which was very popular by the 50 blue strip stocks and don't worry about the valuation, kind of set it and forget it.

There is some controversy whether Walmart was part of the nifty 50 or not.

If you assume that Walmart is part of the nifty 50.

We'll take 2 cases here, but let's say you assume Walmart is part of the nifty 50.

And you assume that it has a 2% weight in the nifty 50 because there are 50 stocks, each 1 has a 2% weight.

And you assume that the other 49 stocks go to 0.

And you assume that you bought Walmart at the IPO in

The nifty 50 with 49 out of 50 gone to 0 would have ended up with something like a

annualized return, and the S&P is 10 and change, you know, 10.3% or something.

So with just 2% of the portfolio surviving and being there for the entire 52-year period, you still significantly outperform the S&P.

And of course, 49 of the other names didn't go to 0.

They were like McDonald's and Coke and Procter & Gamble.

There were some bad companies like, you know, Polaroid and Xerox and Kodak and Burrows and a lot of these companies basically went to 0.

But you can just see that the 1 decision whether Walmart is part of the group and whether you keep it or not has such a outsized impact.

Now, if you take the other case, which is that let's assume that Walmart is not part of the Nifty 50, and you assume that you invest in the Nifty 50 at the all time high in

What you find is that the annualized return is 10.2% annualized, and the S&P is

So even with buying at ridiculous valuations and, but just holding them, of course what happened in 73, 74 is the nifty 50 went down 50%.

Nobody was in the nifty 50 by 1975, you know, that everyone exited.

But if they had held on, and if they held on till today, they would pretty much be toe to toe with the S&P.

So, and you know, this lesson again plays out where we had this great investor in India who passed away last year, Rakesh Jhunjhunwala.

And Rakesh Jhunjhunwala never managed money professionally.

And maybe close to the end of his life, he was starting a business.

And he started with $400 when he was 25 years old.

Rakesh put 4% of his portfolio into a company in India called Titan Industries.

He had about $85 million in total assets at that time.

If you, again, like the nifty, take everything to 0 that he had in

except for Titan, and he owned like, you know, a little over 5% of Titan.

Now his widow has kept Titan, so it's still compounding.

It became 1.4 billion excluding dividends.

If you reinvest the dividends, it's even higher.

And so even if you took everything else to 0, it still have 1.4 billion.

So again, we see this phenomenon, and these are not venture investments, right?

I mean, when Buffett buys Coke or sees candy, These aren't like, you know, we're not early stage like Sequoia, making a bet on Amazon when it's early stage business.

These are mature, you know, businesses with a lot of history.

And We see the same thing with Nick Sleep with Amazon.

I mean, if you pull Amazon out of the equation, Nick Sleep's record isn't that great.

And when you put it in, it's an exceptional record.

So the important thing, and then of course, the most extreme case of all of this is NASPERS in South Africa.

it's almost a hundred year old newspaper company.

That's how it started about a hundred years ago.

In 2001, they have a market cap of about $500 million.

They put $32 million into Tencent, and they get a 46% stake in Tencent.

And The most surprising thing about the NASPR's 10 cent adventure is they basically never sell.

They sold a little bit of the IPO, but they still own 36% of the company in

And in 2018, their stake was worth 170 billion.

And in 2021, at the peak of 10 cent, their stake was worth 270 billion.

So here's a sleepy old media company in South Africa.

They suddenly start seeing some Chinese company become

or even more than 99% of their total assets.

And they don't trim it, and they don't hedge it.

And they end up with an astronomical analyzed return over the last 20 years.

And So if you look at the 10 cent bet, it was 6%, approximately

There were only 2 things that mattered, buying Tencent, and more importantly, not selling Tencent.

So the circle of the wagons concept comes from the 19th century on the American frontier.

So when the pioneers and the settlers were moving west to stake out and take over land and start farming it and so on, these wagons used to get attacked by the American Indians.

And the defensive posture they took to defend against the Indians was to circle the wagons, which means you put everything, your crown jewels in the center of the circle, and then you fight and you try to protect the center.

And it's a similar concept in investing with the nifty 50 with Walmart.

Similarly with C's Candy and American Express and Coke for Berkshire, you know, all of these, you know, hiring Ajit Jain and so on, you need the long runway and NASPERS needs the very long runway with Tencent.

And so the key in investing is to recognize 2 things.

1, we're going to make a lot of mistakes.

You can be wrong even 98% of the time, still come out smelling really nice.

And 3, that is only going to happen if you are able to buy businesses with great economics at reasonable valuations and then hang on to them forever.

So when they get fully priced, they don't get sold.

When they get overpriced, they don't get sold.

It's only possibly when they get completely, ridiculously, egregiously overpriced that you can consider selling.

And so this framework of circle the wagons is very fundamental.

I think it's very hard to beat the market if you don't have this framework.

Because you're going to be cutting the flowers and watering the weeds.

And what we need to do is make sure we don't cut the flowers.

And it really doesn't matter whether you water the weeds or not.

But the important thing is you just don't cut the flowers.

It's it's so well set money's and and I think you brought up this stat Of the index is like 5% that generates all their turns because the index is too dumb to sell Amazon and, and alphabet.

And, and then you'll have this joke where you're like, yeah, and you don't want to pay up for it.

Good luck, you know, good luck finding them.

And of course, there are exceptions where we can get a wonderful, wonderful company for small, multiple, but you know, it is.

That's why, Stig, that's why we hang out in Istanbul.

So we have to find the great businesses and we have to go fishing where the fish are.

Perhaps we can talk about 1 of your previous holdings, Shinnokin, which I know there are also some cultural differences in terms of Japan and how they do capital allocation, but could you paint some color around why a founders who are clearly very good at capital allocation, not necessarily good at buying back their own stock when it's clearly below their liquidation value, which they would know better than anyone, but their liquidation value is of their assets.

So just to give you an update on Shinnokin, there was a take under and they did a tender offer offering a small premium and they took the company private.

And so the founder with some investors, basically in effect did what you're suggesting they should do.

And it took them some time to understand.

We had a number of conversations, I had a number of conversations with Shinnokin, including I actually sent them a PowerPoint in Japanese on the benefits of buybacks, explaining, because I realized that a builder may not understand that, entrepreneur or builder.

And what ended up happening is actually they took my advice in very large doses.

So instead of nibbling at a buyback like I was suggesting, I mean we had already sold the stock because we were a little bit frustrated that they were not really acting the way they should because they had significant amounts of cashflow and they could retire a significant number of shares, but they were nibbling.

It was a very small amount that they were buying back.

And then we exited, and I think a year or 2 later, they basically took 1 big gulp and bought it all at a, actually a spectacular discount to what the business was worth.

Shinnokin is, was a exceptional business because it has very strong recurring revenues from all the properties they're managing.

I mean, the visibility into cash flows go out many, many years.

And 1 of the things that attracted me to Shinneken in the first place was that it was founder run and that he did not fit the template of most Japanese managements.

Most Japanese managements and boards run the business for the benefits of the employees.

They do not run the business for the benefit of the shareholders.

So their number 1 concern is to make sure that the business is very stable and can survive downturns without layoffs.

And the shareholders pay a very big price for a business that takes that approach.

And so I generally find Japan difficult to invest in for 2 reasons.

And the second is the demographics of the declining population.

million Japanese citizens died and 800, 000 new ones were born.

So we're looking at almost a net 1 million reduction in the population in a single year.

And South Korea is even more extreme than that.

So we did see founder act very rationally eventually for his own self-interest.

In the case of Resas, I think that again, they were very focused on building And they have very much woken up to the fact that they blew it.

I think that if they look back, they wish they had given a 50% premium and bought the whole company, taking the whole company private, for example.

And they've been trying to fix that mistake by increasing their holdings.

They've been buying back shares in the last couple of years or so.

So they did wake up to the fact that, oh, we should have approached this differently.

But it's not easy for CEOs, even founder-led CEOs, to look at things like buybacks.

Basically what ends up happening is you see cash leave your treasury and you don't immediately see a pop in the stock price.

So you see something go away and you don't see anything on the other side.

So it's really, you have to have a kind of faith the way Henry Singleton had faith, that when you retire a very large number of shares, and of course, you're going to see the stock react to that.

And thank you for Pinnus and Kolar running.

So if we look at the stock market, or if you look at the game of investing, well, as a game, has that changed since you started in 1999?

And if it has, how have you adapted to the new rules of the game?

And 1 of the things with this particular game, it's actually very similar to bridge, is that, you know, bridge is a game that would take you 15 minutes to learn and you cannot master it in a lifetime.

There's really no plateau that shows up in bridge.

Even if you were playing 30, 40 hours a week for your whole life, you would still be learning.

And I think investing is very similar in the sense that this is a game with a lot of twists and turns.

And anytime you look at a business, the myriad of factors that affect where it might be in the long run are so diverse.

And some of them you may be able to understand, some of them may be within your circle of competence, a lot of them may not be.

So, you know, lifelong learning is going to serve you very well.

So I think I am as excited about the investing game as I was nearly 30 years ago when I was just getting started with this.

But I think what has happened in the previous almost 3 decades is that more competency has been built up.

More mental models have been refined and incorporated.

And so the pattern recognition is probably faster now than it used to be and it's broader now than it used to be.

I wanted to talk a bit about shares and dilution and buying back shares.

I heard you talk about NVR over the past few years and how they have been doing a wonderful job buying back shares.

They've also been deluding some of their shares, giving to shares to management and whatnot.

And do you have a threshold for how much shareholder dilution you will tolerate in companies you invest in?

Well, you know, we would ideally like compensation.

I think you can set compensation and incentives quite well without giving out equity.

And you could encourage managements to buy equity.

And I think for example, Constellation Software does that, and they do an excellent job.

Berkshire does that in the sense that there's a lot of the Berkshire managers have significant ownership of Berkshire, but they've basically taken after-tax earnings and bought it with those earnings.

So, and that's worked out well for them and everyone.

So, I think Silicon Valley and the tech world is overdosed on a certain model, which is that you give away equity to everyone and their brother.

And boards don't understand the value of this equity.

And because it is non-cash, it becomes attractive because you're not really using the company's cash.

So 1 good thing that happened in accounting is that the GAAP accounting rules changed a while back to force them to treat stock-based compensation as an expense and to show it as an expense on the income statement.

And so the companies have gone to, you know, metrics like adjusted EBITDA or adjusted net income and adjusted whatever, you know.

Yeah, so it's an unfortunate state of affairs.

We can still do well in some businesses, even with that drag, can still work out okay, but it's far from ideal.

Yeah, I'm happy you say that because it sounds like such a, it sounds like such a plausible thing that you give out options, Everyone's now an owner, so now everyone's going to work a lot harder.

And what you basically mainly see is just the existing shareholders are being diluted.

It's heads they win and tails they don't lose.

You know, and so there's no real skin in the game there.

And I really liked the plan that Mark Leonard put in place at Constellation.

See all Chai with Pabrai transcripts on Applepodcasts

Mohnish Pabrai's Interview at the Investor’s Podcast on April 25, 2023