INVESTING FRAMEWORK

FOUR PILLARS OF INVESTING

ABDUL REHMAN
(@abdulrehman0292)

UNDERSTAND VALUE CONCEPT OF BEST

MINDSET THE BUSINESS INVESTMENTS
REALIZATION
LIKE OWNERS
We arrange our
We try to
The stock market We estimate core thoroughly
understand the
provides an business sustainable researched
business like an
opportunity to earnings going companies in terms
owner does, but
become silent forward in a normal greatest upside
always think like a
partners with top year. We analyze how potential, one being
minority
business tycoons strong are the future highest upside. We
shareholder.
of Pakistan and to economics of the invest in 6-8
We think hard
earn even more business. Over companies instead of
about how the
profits than they longer-term, share 3-4. As minority
profits earned by
do by operating price increase shareholders, we
the company will
these businesses. converges to returns have limited control
be transferred to
generated in the over timing of value
us.
business itself. realization.
 INVESTING PHILOSOPHY & FRAMEWORK
FOUR PILLARS OF INVESTING

Mindset

Investing in the stock market provides an opportunity to become silent partners with top
business tycoons of Pakistan and to earn even more profits than they do by operating
these businesses.

We can pick and choose amongst the top 100+ businesses of Pakistan, with no limit on
duration of our partnership. It is a global characteristic of stock market(s) that it can price a
business with fair value of Rs100 at Rs30 as well as Rs200, depending on the mood of the
participants.

In order to take an informed decision about which businesses to partner with, we aim to
completely understand how the business operates. We try to understand the business
operations in depth along with its profit-making ability as well as the owners do.
Furthermore, we pay importance to how the stock market will value a particular business
as this is the only place where we can sell our investments.

Understand the business as well as the owners do.

We try to completely understand what factors determine the pricing of final

product/service.
We try to fully understand the supply chain & pricing of main raw materials/input costs.
We estimate core business sustainable earnings going forward in a normal year.
We intend to stay on top of any major industry changing events, events which can
significantly increase/decrease earning power of the business.
We analyze how strong are the future economics of the business. Over longer-term,
share price increase converges to returns generated in the business itself.
Gross profit %, Net profit %, Free cash flows, PE ratio etc. all help in understanding the
business but cannot be used in isolation. In the end, it is all about how much profits will
be generated by investing an additional Rs100Mn/Rs1Bn/Rs10Bn in the business (return
on invested capital (ROIC).
Over the next 10-20 years, share price increase per year in percentage terms (CAGR) will
be very close to ROIC.
Value realization – Understand the business like an owner does, but
always think like a minority shareholder. We also think about how will
the stock market value the business?

We think hard about how the profits earned by the company will be transferred to
you. There are only two ways for minority shareholders, dividends & share price
increase.
We check historical value realization (pricing during a moderate market), does the
company have a history of trading close to its intrinsic value, at least during bull
markets.
We pay extra importance to dividend policy during bear markets.
We always check 20-year share price CAGR – best indicator for putting a stamp of
approval on our analysis. It is a very comprehensive indicator covering earning power
as well as ability and quality of the management. We have not seen any average
business with 25%+ annual returns for 20 years.
We always investigate the likelihood of off the book sales. Inaccurate accounting can
deviate returns for sponsors and minority shareholders. Auditor profile, industry
dynamics, taxation system, all help in understanding the likelihood of accurate
financial reporting.
We also study senior management compensation (as a percentage of profits). Only
capital light businesses can justify management compensation greater than 10% of
profits.

Concept of best investments - Building a portfolio

We diversify, but we don’t diworsify. We do not intend to make money on every

company’s share price fluctuation.
We arrange our thoroughly researched companies in terms greatest upside potential,
one having the highest upside. Instead of adding the 11th best investment in our
portfolio, we add more of our top ideas in the investment portfolio.
We invest in 6-8 companies instead of 3-4. As minority shareholders, we have limited
control over timing of value realization. Diversification helps in this respect without
compromising investment returns.
We diversify within an industry only when businesses are of similar quality/upside.
We also consider alternate investments beyond the stock market (Gold (devaluation
hedge), fixed income) under the concept of best investments.
 INVESTING THEMES
FAST GROWERS: UPCOMING BRANDS, IT
COMPANIES, RETAILERS, LOCAL FMCGS
Risk-reward over 5 years: -100% to 1,000%.
Possibility of off the book sales. Sponsor’s
vision/future business expansion plan for
next 3-5 years.
Is this the group’s main business, is it
getting ample attention required for
successful execution.
CYCLICALS – AUTOS AND ALLIED
PARTS/STEEL/CEMENT/GLASS/BANKS
Risk-reward over 3 years: -50% to 1,000%
We strictly avoid leveraged cyclical companies;
aim is to survive until the next cycle.
Banks – our debt/GDP has reached a point
where prolonged high interest rates increase
the chances of local debt restructuring.
Investing strategy when most companies are overvalued.
TURNAROUNDS: BUSINESSES SELLING AT
IMPORT PARITY (CHEMICALS), REFINERIES ETC.
Risk-reward over 2 years: -25% to 500%
Significant change in business earning
power and/or dividend policy.
We do not consider debt to equity
conversion as a turnaround, nor a
management change.
STALWARTS – INTERNATIONAL FMCGS
Risk-reward over 5 years: -25% to 500%
Stable demand, stable margins, slow volumetric
growth (<10%). Consistent dividend policy.
We try to understand economics & margins of
all major brand/product offerings separately.
HEDGERS: BONUS (TO BE COVERED LATER)
ASSET PLAYS: IPPs, OGDC/PPL,
DELISTING/ACQUISITION PLAYS
Risk-reward for acquisition/delis(ng: -15% to
150%, for circular debt plays: -15% to 300%
Tangible assets available at an extremely
cheap price, high probability of 2-3x in 2 years.
We follow “Heads I win, Tails I do not lose
much.”
SLOW GROWERS: UREA INDUSTRY &
FIXED INCOME
Risk-reward over 5 years: 0% to 200%
Strong ability to pass on any cost increase to
customers. Earning power unaffected by
macro conditions of the country.
We try to build complete industry knowledge
to understand why earnings are so bullet
proof.
ABDUL REHMAN
(@abdulrehman0292)
INVESTING THEMES: six types of stock categories in PSX
Characteristics of these companies.

We pay extra focus on these elements, specific to Pakistani stock market/economy.

1. Fast Growers: Upcoming brands, IT companies, retailers, local FMCGs.

Risk-reward over 5 years: -100% to 1,000%

30%+ revenue & profit growth over minimum 3 years.

Company market valuation below Rs10Bn.
Capital intensive industries do not qualify.
Max 5% allocation in a single company (we can only breach this condition if we
have held this company for at least 3 years), max 15% of fast growers in portfolio.

Possibility of off the book sales. Sponsor’s vision/future business expansion plan for
next 3-5 years. Is this the group’s main business, is it getting ample attention required
for successful execution. We never pay above 1x market PE ratio on forward earnings.

2.Turnarounds: Businesses selling at import parity (chemicals), refineries etc.

Risk-reward over 2 years: -25% to 500%

Significant change in business earning power (devaluation/energy prices/product

pricing locally or internationally).
Significant change in dividend policy. We do not bet on management changing
their dividend policy. These policies take years to change and once changed are
followed for at least a few years. Hence, we wait for confirmation.
We do not consider debt to equity conversion as a turnaround, nor a management
change.
Max 2 turnarounds in portfolio, max 25% of portfolio in turnarounds at any
particular time.
Turnarounds have max 2 year value realization timeframe.

For turnarounds, we track product/raw material prices on weekly basis. We also

monitor international developments closely if windfall profits are coming from global
dynamics.
3. Asset plays: IPPs, OGDC/PPL, delisting/acquisition plays.

Risk-reward for acquisition/delisting: -15% to 150%, for circular debt plays: -15% to 300%

Tangible assets available at an extremely cheap price.

High probability of 2-3x in 2 years.
We follow “Heads I win, Tails I do not lose much.” (Mohnish Pabrai) for this category.
Max 25% allocation for acquisition/delisting plays, 10% for CD plays if timeframe >>1
year.

We pay supreme attention to the likelihood of acquisition going through/circular debt

getting cleared instead of just focusing on the upside. We exercise additional caution
if SOEs are involved. For any such investment, we make sure intrinsic value is
increasing with time.

4. Cyclicals – Autos and allied parts/Steel/Cement/Glass/Banks.

Risk-reward over 3 years: -50% to 1,000%

Cyclical sales/cyclical margins.

We focus on industries which are protected from cheaper imports, this reduces the
chance of permanent loss of profit-making ability.
Banks – Our debt/GDP has reached a point where prolonged high interest rates
increase the chances of local debt restructuring (reducing intrinsic value of banks
considerably).
Max 10% allocation if current price >> 60% of intrinsic value, max 25% allocation if
current price << 40% of fair value.

We strictly avoid leveraged cyclical companies; aim is to survive until the next cycle.
Ample return is already on offer with low leveraged cyclicals. For banks, being under
an IMF program is of supreme importance.

5. Stalwarts – International FMCGs

Risk-reward over 5 years: -25% to 500%

Stable demand, stable margins, slow volumetric growth (<10%).

Consistent dividend policy.
Stable product portfolio.
Max 25% allocation, max 15% in a single company.
We do not pay more than 2x market PE ratio.

We study the entire product portfolio, and try to understand economics & margins of
all major brand/product offerings separately.
6. Slow growers: Urea industry & fixed Income.

Risk-reward over 5 years: 0% to 200%

Less than 5% volumetric growth in demand.

Strong ability to pass on any cost increase to customers.
Business earning power unaffected by macro conditions of the country.
No limit on max allocation (especially when market is overvalued), max 15% allocation
in one company.

We try to build complete industry knowledge to understand why business earnings are
so bullet proof. We continuously think about what factors can change this status quo?
We will act when/if it happens.

7. Hedgers: Bonus (to be covered later, investing strategy when most companies are
overvalued)

Finally, we would like to share some data on past performance of stock market index.
Shorter timeframe comparisons can give mixed results but any analysis beyond 25 years
is robust and comparable. For example, if KSE100 index would be twice it’s current value
today (130,000), that would improve 25-year CAGR% by just an additional 3% and vice
versa. High/low base effect almost cancels out over 25 years. Secondly, Pakistan economy
has a history of boom bust cycles as reflected by comparison of 5 year intervals. Hence, it
is essential to invest with a margin of safety when investing in Pakistani stock market as
illustrated by our investing framework.

Thank you & happy investing!!