The document discusses the concept of mispriced stocks, emphasizing that stocks represent fractional ownership in businesses rather than mere market tickers. It highlights strategies for identifying mispriced bets, outlining various types of mispricings, and emphasizes the importance of return on invested capital (ROIC) in determining business quality. The document concludes by advising investors to seek asymmetries, understand the distinction between valuation and mispricing, and focus on margin of safety while avoiding loss aversion.

1. Anatomy of a Mispriced Stock
Anshul Saigal
June 2024
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2. Presentation
Flow
2
What is a stock
What are Mispriced bets
Is Mispricing = Cheap Valuations
What are the types of Mispricings
Margin of Safety and asymmetries

3. What is a Stock?
3

4. 4
Stocks are fractional ownerships in businesses. They are not
tickers that go up or down with the mood of Mr. Market
- Benjamin Graham

5. 5
Disassociate Fundamentals from Stock price
Eg. Patni Computer
Market Cap ~ Rs 2400 Cr
Cash & Equivalents over Rs 2,000 Cr
Operating Profit ~ Rs 500 Cr

6. Thought experiment - LBO of Patni Computer
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Offer to Patni Computer ~ more than 2x the prevailing market cap
• Merge the SPV with Patni
• Use Patni cash to repay Rs 2,000 Cr the first day
• Repay the rest in the next 5-6 years
• Create a Rs 450 Cr operating cashflow stream with Rs 375 Cr of invested equity capital
Patni Computer Debt Capacity
Rs 450 Cr
Operating Cash
1.2x
Interest cover
Rs 375 Cr
Interest payable
Rs 3,750 Cr
Debt capacity @10%
Blackstone LBO SPV
Rs 3,750 Cr
Debt
Rs 375 Cr
Equity Capital (10% of
Debt)
Rs 4,125 Cr
Total Capital

7. What are Mispriced Bets
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8. 8
Munger on investing
“To us, investing is the equivalent of going out
and betting against the pari-mutuel system. We
look for a horse with one chance in two of
winning and which pays you three to one.
You’re looking for a mispriced bet. That’s what
investing is. And you have to know enough to
know whether the bet is mispriced.”
- Charlie Munger

9. - 3 horses in a race ~ Total Bets 35,000
- Horse 1 – 20,000 (Payout 3.5 to 2, odds 3-4)
- Horse 2 – 10,000 (Payout 3.5 to 1, odds 5-2)
- Horse 3 – 5,000 (Payout 7 to 1, odds 6-1)
- Once in a while Horse 3 will be lighter, better suited
for the conditions, will have rested well, etc. So he
will have a 20% chance of winning vs 14% applied
odds ~ value bet
- Other players are setting the price here ~
objective is not to identify “The Most Likely
Winner”
- Skill lies in determining which horses are
offering odds that exceed their actual chances of
victory
Horse Racing (Game of skill) ~ Bet against other bettors
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Steven Crist says, “There is no such thing as LIKING a
horse to win a race, only an attractive discrepancy
between his chances and his price”

10. Curious two years in Century Ply’s long life
Implied Terminal Growth
Sustainable Margins
Sales growth % (10yr)
Price
0%
13%
5%
110
Implied Terminal Growth
Sustainable Margins
Sales growth % (10yr)
Price
6.5%
19%
12%
700
April 2020
March 2022
• 100m HH to become home ownership capable in 10 years
• 17m of these in the upper and middle income category i.e. 1.7 Mn p.a.
• Total cost of construction at Rs 1 Cr per home ~ Rs 17 Lakh Cr p.a.
• Plywood is 10-15% of total construction cost of a new house
• @10% ~ Rs 170,000 Cr pa total mkt size and 50% in organized sector ie Rs 85,000 Cr pa
• Century ply FY20 revs ~ Rs 2,000 Cr with 10-15% market share
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Source: Bloomberg
Proof by contradiction over prediction of future scenarios
~ Growth offered option value in this trade
This example is for illustrative purposes only. This is not a recommendation to buy or sell

11. 11
Investing is tough
62x PER
19x PER
Source: Bloomberg
5Y Avg
CAGR%
EPS (Rs)
Company
ROE(%)
2020
2017
26.0
12.7%
29.0
20.2
Asian Paints
29.4
19.2%
9.9
5.8
APL Apollo
This example is for illustrative purposes only. This is not a recommendation to buy or sell

12. 12
Process & Patience pays
Source: Bloomberg
CAGR%
EPS (Rs)
Company
2022
2021
6.7%
33.0
33.4
Asian Paints
57.2%
24.4
16.1
APL Apollo Tubes
28x PER
94x PER
This example is for illustrative purposes only. This is not a recommendation to buy or sell
Value Investing is the art of taking advantage of mispriced expectations

13. Mispricings = cheap valuations ~
Myth or Reality?
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14. 14
Using Real Estate as a metaphor to understand Mispricings
Lower Parel
Sewri

15. 15
Using Real Estate as a metaphor to understand Mispricings
At what prices?
High Quality Medium Quality Affordable Quality
High quality properties are highly unlikely to be available at affordable quality prices.
Similarly, high quality stocks are highly unlikely to be available at low quality valuations

16. 16
Return on Invested Capital (ROIC) is the most helpful measure to gauge
quality of a business
ROIC is a calculation used to assess a company's efficiency in allocating capital to
profitable investments. The ROIC formula involves dividing net operating profit after
tax (NOPAT) by invested capital
What is the marker of quality in Equity Markets?

17. 17
The magic of ROIC ~ 6% vs 18%
Consistently high ROIC is a reflection of quality of a business and typically depicts
competitive strengths
1 2 3 4 5 Total
Invested Capital 100 110 121 133 146
ROIC 6% 6% 6% 6% 6%
NOPAT 6.0 6.6 7.3 8.0 8.8
Capex @10% of IC 10.0 11.0 12.1 13.3 14.6
Shareholder Cash -4.0 -4.4 -4.8 -5.3 -5.9 -24.4
Company A
1 2 3 4 5 Total
Invested Capital 100 110 121 133 146
ROIC 18% 18% 18% 18% 18%
NOPAT 18.0 19.8 21.8 24.0 26.4
Capex @10% of IC 10.0 11.0 12.1 13.3 14.6
Shareholder Cash 8.0 8.8 9.7 10.6 11.7 48.8
Company B

18. 18
It is hard to outperform ROIC ~ Mispricing does not equal absolute
cheapness

19. Types of Mispricings
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20. Mispricings are birthed by Uncertainty and confused for Risk
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Environment
Centric
Market collapse E.g.
Covid/ Lehman Crisis
Sectoral Headwinds E.g. Real Estate
oversupply, Pharma USFDA clearance
hurdles
Regulatory changes E.g. MF market cap
classification
Business centric
Temporary Earnings Decline E.g.
disruption caused by changes in
distribution policy
Management Uncertainty e.g. CEO
superannuating
Behavioural e.g. overreaction to news
Stock Liquidity i.e. Low stock liquidity
attracts limited investor attention

21. 21
Druckenmiller on what is relevant in equity analysis

22. 22
Focus on Earning Power to distinguish between Risk & Uncertainty
Earning Power is a company’s ability to generate profits and is forward
looking
Earning Power emanates from
- Moats & Entry Barriers
- Growth & Ability to self finance Growth
- Owner Operators (Skin in the Game)
- Corporate Culture, which is hard to replicate
- Good Governance
Earning Power of good businesses does not diminish. Market Values
may come down, since they are beyond anyone’s control, but Earning
Power rarely does

23. 23
Case Study ~ Public Sector Banks
This example is for illustrative purposes only. This is not a recommendation to buy or sell

24. 24
Lower than Average Businesses trading at Roadkill valuations
ROEs/Profitability improved as NPLs came down
Source: CLSA, Motilal Oswal Research
As ROEs expanded, PB multiples also rebounded, albeit with a lag
Positioning oneself to positive Black Swans is lucrative
GNPLs%

25. 25
Moneycontrol
Headline
BoB assets were Rs 7 Lakh Cr, over 3x Kotak Bank’s, while mkt cap was 1/10th. PAT went from Rs
1,620 Cr in FY21 to Rs 18,000 Cr in FY24. Stock is 3.5x from the time BoFA upgraded in June ’21.
This example is for illustrative purposes only. This is not a recommendation to buy or sell

26. 26
Case Study ~ Tips Industries
This example is for illustrative purposes only. This is not a recommendation to buy or sell

27. 27
● Catalog of over 30,000 songs in multiple languages
& genres
● Licenses these songs to OTT platforms, content
aggregators, TV channels, etc
○ YouTube, Spotify, Amazon, Reeso, Jio Saavn, etc.
○ Audio streaming driven by free subscribers in India
(unlike global markets)
○ Realization per-song (10p on avg) ~ paid
subscriptions could be 3-4x of that
● Growth drivers: Industry tailwinds, strength of
content, strong competitive positioning, acquisition
of new content, transition from 3G to 5G, short
format app monetisation, tie up with Wynk/Meta
Tips Industries ~ Business Model
Tips:
ROIC : 345%
ROE : 57.3%
Competitor:
ROIC : 24.3%
ROE : 13.9%
Competitor’s content is
older and less relevant -
Rev per song of Rs 29,500
vs Tips at Rs 62,300
TIPS gave a 30% revenue and profit growth guidance for the next few years

28. Multiples of high-ROE high-Growth cos can hit 100x
Page Industries Symphony Ltd
ENIL Sun TV
Why did TIPS with 30% growth guidance and 57% ROE trade at 20x PER till a year back?

29. Business Model : Honeypot, with highly repeatable content
Source: Tips Presentation, IFPI GMR (’22), EY-FICCI M&E
Report 2023; # EY Estimates
Tips growth 3x
industry growth

30. Easy to get anchored to price and ignore Earning Power when a
stock rallies 30x in 4 years
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Mkts overweighed risks ~ Corp Governance, Capital Allocation, Piracy, OTT deal uncertainty, etc
This example is for illustrative purposes only. This is not a recommendation to buy or sell

31. Margin of Safety and not losing
sight of asymmetries
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32. Margin of Safety
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Positive Correlation between Risk and Reward
“Sometimes Risk and Reward are correlated in a
positive fashion. If someone were to say to me, “I have
here a six-shooter and I have slipped one cartridge in it.
Why don’t you just spin it and pull it once? If you survive,
I will give you $1 M.” I would decline – perhaps stating
that $1 M is not enough. Then he might offer me $5M to
pull the trigger twice – now that would be a positive
correlation between risk and reward. “
Inverse Correlation between Risk and Reward
“The exact opposite is true with Value Investing. If you
buy a dollar bill for 60 cents, its riskier than if you buy a
dollar bill for 40 cents, but the expectation of reward is
greater in the latter case. The greater the potential for
reward in the value portfolio, the less risk there is.“
- Warren E Buffet
Investors shun out-of-favour stocks due to Loss Aversion

33. Avoid Loss Aversion
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Tennis
• Second Serve: Players utilize a slower Second Serve
to avoid committing a Fault & losing a Point
• As per ATP, the winning percentage of Second Serve
on Avg is 10% lower than First serve
• Interestingly, the highest ranked players also have the
best hit rate on 2nd Serves
• 2nd Serve Points Won: Nadal(57.3%) ,
Federer(56.75%)

34. Avoid Loss Aversion
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Never waste a good crisis: Times of distress have been the best times to
Invest. True for markets as also for individual stocks
Market Sentiment
Date Nifty Midcap Nifty Smallcap Nifty Midcap Nifty Smallcap
31-12-2008 Global Financial Crisis -59% -71% 99% 107%
31-12-2011 European Soveriegn Deb Crisis -31% -34% 39% 37%
31-12-2013 India Described as Fragile -5% -8% 56% 55%
31-12-2016 China Slowdown 7% 2% 47% 57%
30-09-2018 Rising Interest Rates -5% -19% -6.6% 32%
31-03-2020 Covid Lockdown -36% -46% 102% 126%
Past 1 Year Return Next 1 Year Return

35. 35
Summary
• Stocks are fractional stakes in businesses and not tickers
• Seek asymmetries through mispriced bets
• Cheapness of valuations does not necessarily equal
Mispricing
• ROIC is the clearest indicator of Quality
• Look for factors that make a stock move up or down
• Focus on Margin of Safety and Avoid Loss Aversion tendency

36. Thank You
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