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| The Sleuth Heads I Win, Tails I Don’t Lose Too Much August 17, 2006
With all the marketing hype you come across day after day, a 30% annual return doesn’t always seem super sexy. But it is. We’re talking supermodel sexy. Since 1999, the S&P 500 is up only 0.42% a year. The Russell 2000 (the small-cap index) is up 7.5% a year. The red-hot XAU (the gold and silver index) is up 11.1% a year. Meanwhile, Pabrai’s funds have grown from $1 million in assets to over $300 million in assets. A $100,000 investment at inception would be worth about $569,800 today. Like I said, supermodel sexy. *********************************** The End of America’s Oil Addiction Begins With This Product It reduces oil usage by 68% and cuts the transportation industry's operating costs by $4 billion annually… This is the value play that could make even Mohnish Pabrai proud. Learn why the U.S. Government requires it, and how early investors can profit 50% or more... *********************************** I had the privilege of hearing Pabrai speak about his investment strategy this past May at an exclusive meeting for the top value investors in the investment community. The title of his presentation was "Heads I Win, Tails I Don’t Lose Too Much." To explain this concept, Pabrai told the story of Mr. B.U. Patel. Mr. Patel was a refugee from India. He came to the United States with a very small amount of money, a large family and an incredible work ethic. In order for Patel and his family to survive, he had to take some risks. But they had to be the kinds of risks where the rewards were large and the downside was almost nil. In other words, he couldn’t bet what little money he had on a lotto ticket, hoping to win the jackpot. If he lost, his family would have no food, shelter or hope. That wasn’t a possibility. So Patel did what he knew made sense -- he bought a beaten-up motel in California for pennies on the dollar. Patel fired the existing staff. He and his family did everything. They washed the sheets, maintained the grounds, checked in the visitors, etc. Not only did this provide jobs for his family, but it also provided shelter. After all, the entire family could live at the motel, as well as work there. Since the Patel family ran all the operations at the motel, the overhead was tiny. Salaries were virtually nonexistent. And Mr. Patel was able to undercut the competition to attract more business. It worked. In no time, the Patel family was able to raise enough money to buy more and more motels in the area. And today, Mr. Patel is the richest East Indian in America. Patel was (and is) a smart man. He knew if the hotel didn’t make millionaires out of him and his family members, it would provide shelter and at least some small amount of income until they could find something else. So the downside was nothing. But if the motel model caught on, the family would be quite rich. “Heads I win, tails I don’t lose too much.” This is a great way to think about investing. When you put your money in a company, you want to know the upside is incredible and the downside is virtually nil. So how does Pabrai do this in real-life investing situations? First, he looks for companies Wall Street hates or doesn’t know about but are throwing off lots of cash or have lots of hidden value. As Pabrai says in his book Mosaic, “One needs to get back to the Ben Graham fundamentals of cash flow and intrinsic value. The intrinsic value of a company is the total sum of free cash flow it will generate from now until eternity.” Second, Pabrai invests only in a few companies. Right now, his entire fund (worth nearly $300 million) is made up of 14 stocks. That’s it. And about 10 of those stocks make up about 85% of his entire fund. Pabrai believes in making a few big bets where the odds are in your favor, and not watering down the results with a lot of other wannabees. Plus, on a more practical side, there are only so many companies anyone can follow and really keep up with. Third, Pabrai looks for what he calls copycat companies. “The world belongs to those who are great copycats -- not the initial entrepreneurs.” For instance, Microsoft copies everything and manages to kill the opposition in the process. It is truly the B.U. Patel of the software world. And Dr. Reddy’s Laboratories (an Indian pharmaceutical company) is famous for making its millions simply by copying existing drugs and selling them on the cheap. *********************************** 768% in 6 Months You could use this new loophole to rake in Street-stomping gains of 68%, 85%, 133%, even 768% in just six months. Read on to find out how these important trading laws are now in your favor... *********************************** Of course, there are a lot of other criteria Pabrai looks at before making an investment decision. But those are three of the big ones. With that in mind, I thought you might be interested in a couple of small-cap stocks he is bullish on right now. ABX Air, Inc. (ABXA:NASDAQ) According to Investor.com: “ABX Air, Inc. (ABX) operates a fleet of 112 aircraft, providing air cargo transportation. ABX complements its air transport capabilities with package handling, warehousing and line-haul logistic services. The company operates primarily in the United States but has the authority to fly worldwide. ABX also offers aircraft, crew, maintenance and insurance (ACMI) and on-demand charter services to freight forwarders and other major shippers. The company sells aircraft parts, provides maintenance and repair services for airframes and aircraft components and conducts flight-training services for customers. Additionally, ABX operates a sorting facility for the United States Postal Service and has provided cargo transportation and sorting services. DHL Express (USA), Inc. (DHL) is the biggest customer of ABX, constituting approximately 98% of total revenues in 2005. In 2005, a Boeing 767 aircraft from Delta Airlines, Inc. was acquired.” ABX is a $300 million company that generates great cash flow from operations. It trades for just 9.7 times earnings, 0.2 times sales and 4.2 times cash flow. Pabrai owns 2.8 million shares at an average price of $6.04. It trades for $5.15 today. Pabrai added about 800,000 shares to his position in the most recent quarter. Pinnacle Airlines Corp. (PNCL:NASDAQ) Pinnacle is a regional airline company that provides capacity to Northwest Airlines, Inc. The company operates 124 Canadair Regional Jets and serves 118 cities in 37 states and four Canadian provinces. Like ABX, it is cheap at just 9.6 times earnings, 0.16 times sales and 7 times cash flow. Over the last three years, the company has generated over $115 million in cash from operations. It is net income positive in each of the last five years. And it is sitting on $78.2 million in cash right now. That’s a lot when you consider the entire company’s market capitalization is only $129.8 million. Pabrai owns 2.1 million shares of Pinnacle for an average price of $7.04. It trades for $5.89 today. And he added 364,000 million shares to his position in the last quarter. Star Gas Partners LP (SGU:NYSE) Star Gas Partners is a home heating oil distributor and services provider. At $2.23 a share, it trades for 0.13 times sales, 0.98 times book value and just 5.8 times cash flow. Last year, it generated $94 million in cash. Pabrai owns 4.4 million shares of Star Gas Partners for an average price of $2.68 a share. And you should know that he added 1.7 million shares to his position in the last quarter. Two Final Comments... I can’t promise you will make money investing in ABX, Pinnacle and Star Gas Partners. But Pabrai does have a knack for finding deals. So at the very least, you may want to look into them further. Second, please notice something... In all three of these positions, Pabrai is currently losing money. His average cost is greater than the current market value of these stocks. But that’s OK. Pabrai makes his bet and waits for the market to realize what he already knows. Sometimes, that takes a while. But when it happens, you make a lot of money. As long as you are willing to wait, the downside is pretty limited. Heads I win, tails I don’t lose too much. Makes good sense, doesn’t it? Regards, James
Now it’s your turn. Check out how you could grow 30% richer while ignoring Wall Street... |
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James Boric is the editor-in-chief of Small-Cap Strategy Report and he constantly scours the market for fundamentally sound small-cap companies with tons of growth potential... <click here for full bio> |
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