Gujarat Reclaim & Rubber Products: A Journey from Waste to Wealth

According to Mr.Peter Lynch, a boring business with a boring name is likely to be a great investment! Gujarat Reclaim Rubber Products Limited (GRRPL) is definitely one such prospect available in Indian market. 

GRRPL is engaged in business of recycling tyre and rubber scrap through thermo-chemical process which will convert scrap into reusable rubber for making tyres and other rubber products. GRRPL is one of the pioneers in this field in India and largest player in the country. GRRPL is also the third largest reclaim rubber manufacturers in the world.

Reclaim rubber is fast emerging as third source of rubber material apart from natural and synthetic rubber due to 

• persistent high volatility of natural rubber and crude (raw material for synthetic rubber) 
•  "green" nature of the product(It saves significant amount of natural resources by reusing scrap rubber which otherwise would have gone to the landfills). 
• Significant less price compared to natural rubber/synthetic rubber (almost 1/3rd that of other two rubber sources)

All tyre manufacturers use certain percentage of reclaim rubber in tyre making. Even though reclaim rubber percentage varies from 1%(high performance tyres) to 35%(bicycle tyres), typically tyre will use 5% reclaim rubber. The most interesting part is that reclaim rubber percentage in tyre making has steadily increased from 2% to 5% and is likely to grow to 8-10% in years to come. Reclaim rubber also finds application in making conveyor belts, hoses, automotive profiles, tubes etc.

Reclaim rubber industry, world over, operates in unorganized fashion and hence there are very few large players in the industry. Large players like GRRPL enjoys significant advantage due to consistent and superior product quality and strict adherence to environmental norms (which are flouted by most of smaller players). GRRPL has developed its own equipment and machinery that has ability to process wide variety of scrap material such as natural rubber, synthetic rubber, nitrile rubber and latex. This flexibility gives GRRPL and edge over smaller players who mainly process only natural rubber scrap. GRRPL derives roughly 70% of its revenue from exports and is an approved vendor for 7 out of 10 largest tyre manufacturers in the world and 4 out of 10 non tyre rubber consumers in the world. 

Identifying a Great Business: Typical Characterization

Almost all great investors have made serious money by making investment in great businesses at reasonable price or dirt-cheap price and staying invested in those businesses for long period of time. Warren Buffet has created enormous wealth through his investments in Coca Cola, Gillette and Washington Post  while Peter Lynch made billions by owing Fannie Mae. Rakesh Jhunjhunwala has made tons of money through his investment in Titan. Now the question is how do we identify great businesses? Is there any framework that will help us in identifying great businesses? 

Even though there is no definitive framework or quantitative ratios that separate great businesses from mediocre businesses, I have tried to put together certain characteristics of great businesses. One should look for these traits in a business to understand the quality of business. Even though,   a high quality business may not possess all the traits, it will have many of the characteristics outlined below.

Safety of Capital: Most Understated Yet Most Rewarding Element of Investing

Warren Buffet has attributed his success to two golden rules. 

Rule 1: Never Lose Money 

Rule 2: Never forget Rule 1. 

This is the most simplistic and yet most fundamental idea behind value investing. According to Ben Graham,  "An investment operation is one which, upon thorough analysis, promises safety of principal and an adequate return. Operations not meeting these requirements are speculative." This is one of the most succinct and effective definition of investment. Hence the most important task while following value investing approach is to assess the safety of principal. 

How does one go about ensuring safety of capital while making investment decision in stocks? the answer lies in the framework provided by Ben Graham called Margin of Safety. According to Warren Buffet, "Margin of Safety" are the three most important words ever written about investing. The idea behind margin of safety stems from the belief that it is almost impossible to predict future of an enterprise, its profitability and cash flow over long horizon. Hence after all the rigorous analysis of business, financials and management quality, intrinsic value of business is still, an approximation, at best. Moreover even this approximation of inherent value of an enterprise may not materialize due to number of negative unforeseen events and intrinsic value of an enterprise may be lower than the estimated. 

Mr. Graham suggested that to account for "unforeseen negative future events"     one must apply discount to the approximation of intrinsic value derived based on conservative assumptions. Even though he has left the decision for quantum of discount to investors, most successful value investors suggest it to be at least 25%. Hence if one decides that based on very conservative assumptions of growth rates, profit margins and capital investment needs, the intrinsic value of business is 100, one shall buy interest in such enterprise if the market values such enterprise below 75 (25%  discount to conservatively estimated intrinsic value).

Now one may start thinking that since this frame work is based on low risk approach, returns shall commensurately be lower.

My First Tryst With Scuttlebutt: Cera Sanitaryware

After reading the title of my blog, many of you would have been perplexed by this relatively unknown word called "scuttlebutt". What does this word mean and how is it relevant to a value investor? I will first summarize the concept of scuttlebutt and then talk about my findings for Cera while I applied this method. 

Scuttlebutt term was first phrased in investing by legendary investor Mr.Philip Fisher in his seminal book "Common Stocks, Uncommon Profits". Scuttlebutt simply means finding out from the real, "Main Street" sources if the business/firm is good or bad. The central idea here is that, customers,dealers, suppliers, competitors and employees of the firm do possess some very useful and authentic information about the operations of the company and management. This information can help investor gauge certain business traits, company's position in competitive landscape and overall impression of the company with its various stakeholders. He suggested that such information is far more authentic  than the assumptions and inferences drawn by Wall Street analysts who,many a times, have no connections with various stakeholders in business operations.He suggests that "business grapevine" is a very powerful tool for investors if applied intelligently. 

So, After reading about this fairly common-sensical approach, I decided to venture into it and try it for one of my portfolio companies and see how accurately I have been able to judge the position of the company. I picked Cera Sanitary ware for several reasons. First, Cera has a well established dealer networks and retail presence hence I can get the information relatively easily by visiting nearby dealers/retailers. Secondly, it offers products which is used by all my relatives,friends and acquaintances hence seeking and opinion on Cera's products and gauging their preference may be easier. Lastly, Cera has manufacturing set up located near Ahmedabad and hence, if required, I can go and visit the company to get a sense of the operations. Once I zeroed in on the company, I located dealers, retailers of the company. I also found that some of my relatives/friends have bought new sanitary wares and I tried to understand from them the decision making process while they bought sanitary ware. Following are my observations from this   small little investigative journey.

Shriram Transport Finance: Wonderful Business at Reasonable Price

As we witness extra ordinary volatility in the market both ways, it is indeed very interesting time for value investors. As described by Seth Klarman, volatility is the friend of value investors that creates fertile ground for avid stock pickers. Warren Buffet is one such master stock picker who has repeatedly invested in some of the greatest businesses on earth in turbulent times to reap gigantic benefits from such investments. Mr.Buffet always focused on investing in companies that are engaged in business that is easy to understand, enjoys sustainable competitive advantage (moat), generates high return on equity and is run by competent management. In my opinion, Shriram Transport Finance (STF) fits very well in all the parameters.

STF is India's largest commercial vehicle finance company established in 1979. STF is also one of the largest asset financing NBFC in India with network of 488 branches and service centers. STF has established a unique business model whereby it finances the purchase of pre-owned (used) trucks by small truck operators. STF has, over a period, developed this as its niche as banks are reluctant to lend to this class of borrowers due to lack of credit records and perception of higher risk. STF has more than 25% market share in pre-owned commercial vehicles which makes it the largest player in this segment. What is really heartening is that STF is leveraging its strong brand recognition, distribution network and knowledge base of small truck operators to create new business models such as auto malls and sale of refurbished vehicles (similar to used certified cars) that will create synergies between various business segments and diversify its revenue stream. 

Now let us look at the some critical factors that investors like Warren Buffet and Charlie Munger look for while making investment decision.

25 Pearls of Wisdom: Great Quotes From Value Investors

Good quotes have certain characteristics that makes them special. They are short, represents central idea/tenet of the subject and conveys the same idea very effectively without getting verbose. True beauty of great quotes lie in the impact it creates due to its simplicity! In my readings on value investing, I have come across some great quotes from equally great value investors/economists. I would like to share a few of them here as they represent some very powerful and central ideas in value investing that has the ability to prevent one from digressing from the path of value investing. Here they are...

“Price is what you pay; value is what you get.” – Ben Graham

“It is remarkable how much long-term advantage people like us have gotten by trying to be consistently not stupid, instead of trying to be very intelligent.”     –Charlie Munger

“Activity is the enemy of investment returns.” – Warren Buffett

“In the short run, the market is a voting machine, but in the long run it is a weighing machine.” – Ben Graham

“The stock market is filled with individuals who know the price of everything but the value of nothing.” – Phil Fisher

“It is impossible to produce superior performance unless you do something different from the majority.” – John Templeton

“Markets can remain irrational a lot longer than you and I can remain solvent.” – John Maynard Keynes

“The trick of successful investors is to sell when they want to, not when they have to.” – Seth Klarman

“We are big fans of fear, and in investing it is clearly better to be scared than sorry.” – Seth Klarman

Oriental Carbon and Chemicals: Keeping a close eye

As I dig deeper into the market to identify undervalued businesses that have some kind of sustainable competitive advantage for at least next 10 years, I am coming across some very very interesting opportunities available in the Indian market. It is startling to know that some of these businesses are not only enjoy no.1 or no.2 position in India but also enjoy no.1 or no.2 position in the world in their respective businesses. To name a few Vinati organics (world's largest producer of isobutylbenzene, second largest producer of ATBS), Gujarat Reclaim  & Rubber (Asia's largest reclaim rubber producer) and Oriental Carbon & Chemicals (India's only manufacturer of insoluble sulfur and world's second largest producer of insoluble sulfur). What is more amusing and intriguing is that these companies are available at very reasonable valuations (less than 10 PE) and have fairly strong balance sheets, decent growth prospects and high profit margin.

Oriental Carbon & Chemicals Limited (OCCL) is India's only manufacturer of insoluble sulfur and second largest manufacturer in the world. The company is a J.P.Goenka group company established in 1978 and first plant for insoluble sulfur was established in 1994. Insoluble sulfur is amorphous form of sulfur having polymeric form that is insoluble. Insoluble sulfur is required in vulcanisation of rubber and hence is used by all tyre manufacturers. Company has two facilities located in Haryana and Gujarat. Haryana plant, after debottlenecking, has capacity of 14,500 MT and recently commissioned plant in Gujarat has capacity of 5500 MT and is likely to go up to 11000 MT by Q4FY12.

Business Quality: Insoluble sulfur (IS) market operates in oligopoly due to technological barriers and R&D efforts required to develop certain properties for the product. Solutia Inc is the world leader (Crystex brand) in this market with close to 75% market share. OCCL was late entrant into the market but due to constant R&D and quality standards it has gained close to 10% market share. Company derives 60-70% of its revenue from exports.

OCCL is the only supplier of IS in India and hence enjoys virtual monopoly in Indian market. Company has enviable list of clients in the form of both Indian and International tyre manufacturers such as Apollo, Ceat, MRF, Bridgestone, Continental, Kumho, Goodyear. OCCL has been primary supplier to Indian tyre manufacturers and alternate supplier to international tyre companies. However, recently OCCL has introduced some value added products which has opened up doors for increase in demand from international tyre manufactures.