Notes from You can be a stock market genius

Spin offs

Institutional investors are usually sellers when the stock is spin off and it is not based on investment merits but because of the spin off small size.

Insiders want the spinoff(are the managers of the new spinoff incentivised along the same line as shareholders, will they receive their compensation in the spin off stocks. Checked up on the compensation package.)

Institutions don't want the spinoff.( take note of high illiquid stock price during spin off).

A previously hidden investment opportunity is uncovered by the spinoff transaction. (A cheap stock, a great business, a leveraged risk/reward situation).

As a general rule, if institutional investors are attracted to a parent company because an undesirable business is being spun off, they will wait until after the spin off is completed before buying stock in the parent. This practice relieves the institution from having to sell the stock of the unwanted spinoff.

That's why, if the parent company appears to be an attractive investment, it is usually worthwhile to buy stock in the parent before the spinoff takes place.

Partial spinoffs

Once the stock of the partial spinoff is publicly trading, you are able to place a value on those shares. By doing that, you now know two things. You know how much is the remaining stakes of the partial spin off co in the parent company and you know the value the market places on all the rest of the business.

Rights offering

Anytime you read about a spinoff being accomplished through a rights offering, stop whatever you're doing and take a look.

One telltale sign of a bargain offering price is the inclusion of oversubscription privileges in a rights offering. When oversubscription privileges are involved, the less publicized the

rights offering, the better the opportunity for insiders and enterprising investors to pick up spinoff shares at a bargain price.

Merger securities 

Merger securities are usually sold without regard to the investment merits. Institutional investors are not even allowed to hold these sweeteners used during a deal. Everyone who receives these merger securities are most likely going to sell, and this presents a buying opportunity. Good to take a look at areas which people don't usually see.

Restructuring

Tremendous values can be uncovered through corporate restructuring.

The most clear-cut restructuring opportunities are the situations where companies sell or close major divisions to stanch losses, pay debt and focus on more promising lines of business. By selling the loss making division, the earnings of the conglomerate will rise, increasing the eps. The sale of the loss making business can result in positive net proceeds, making the investment opportunity more compelling.

The sale of a major division may create a more focused enterprise and investors are willing to pay a premium for more specialised and profitable operation.

Look for situations that have limited downside, an attractive business to restructure around, and a well incentivised management team.

In potential restructuring situation, look for a catalyst to set things in motion.

Make sure the magnitude of the restructuring is significantly relative to the size of the total company.

Bankruptcy

Unwarranted selling from the new shareholders of a company that has just recently emerged from bankruptcy. Since the new stock is issued to banks, trade creditors, it makes sense that they have every reason to sell as soon as possible.

An otherwise good company maybe forced to file for bankruptcy is to protect itself from lawsuits. If the lawsuits can be settled within the bankruptcy process, a very viable company can re-emerge.

A company can make it out of bankruptcy by shedding unprofitable business line while banking its future on one or two profitable divisions with attractive prospects.

Unless the price is irresistible, only invest in companies with attractive business. 

Stub stock- the equity stake that remains after the company has been recapitalised.

Investing in a stub stock is like investing in the equity portion of a LBO.

There is a tax advantage to having a leveraged balance sheet.

A modest 20% increase in pretax earnings can lead to a potential of an 80% gain. With pretax earnings exceeding its interest expense more comfortably might result in a huge PE ratio.

Cash is easy to see on the balance sheet, but that is not the end of your analysis. You have to determine what will happen to the excess cash.

Side note

Form 8k is filed after a material event occurs such as an acquisition, asset sale, bankruptcy, or change in control.

Form 10 is the form used to supply information on a spinoff distribution.

Form 13d is the report where owners of 5 percent or more of a company must disclose both their holdings and their intentions regarding the stake.

It all boils down to a simple two-step process. First, identify where you think the treasure is, then you start to dig.

Pre-suasion key takeaways.

Privileged moments

Identifiable points in time when an individual is particularly receptive to a communicator's message. Natural human tendency to hunt for confirmation rather than for disconfirmation. Channeled attention is to alter what prominent in that person's mind at the moment of decision. A marketer could greatly increase the chance of finding survey participants by beginning with a opener asking people if they considered themselves helpful.

The importance of attention

The human tendency to assign undue levels of importance to an idea as soon as one's attention is turned to it.

What's focal in attention is presumed casual- to have the ability to make things occur. Car plate numbers in accident lifted expectations of lotteries success.

The attractors 

Features of information that automatically invite attention and therefore does not even require a communicator's special efforts. The naturally occurring commanders of attention. The sexual, the threatening and the different.

The magnetisers 

The benefit of holding the audience focus. The self-relevant, the unfinished and the mysterious.

Association

Language, imagery and places can be used to produce desirable outcomes such as greater job performance, more positive personnel evaluation. Possible to send ourselves in desired directions by locating to physical and psychological environment prefit with cues associated with our relevant goals.

If you wish to prompt an action, should find a concept already assocIated strongly and positively with the action and bring that concept to mind in potential helpers just before requesting their aid.

If/when then plans

Design to help us achieve a goal by readying us (1) to register certain cues in settings where we can further our goal, (2)to take an appropriate action spurred by the cues and consistent with the goal. What is more accessible in mind become more probable in action and this accessibility is influenced by the informational cue around us and by our raw association to them.

The universal principles of influence.

Reciprocation works best when it is meaningful, unexpected and customised.

To get people to like you, similarities and complements are the best routes to that end.

A credible authority possesses the combination of two highly persuasive qualities: expertise and trustworthiness. A communicator who references a weakness early on is immediately seen as more honest. The advantage of this sequence is that, with perceived truthfulness already in place, the audience is more likely to believe 

Unity 

A certain type of unity of identity, that best characterises a WE relationship and that, if pre-suasively raised to consciousness, leads to assent.

WE relationships can result from acting together synchronously, this produces mutual liking and support.

Use words of endearment like family. Buffet uses " with that I will tell you what I would say to my family today if they asked me about Berkshire today" to gain trust.

Music is allied with system 1 responding, people acting imprudently when channeled to that kind of responding. Recipients with non rational goals should be matched with messages containing non rational elements such as music accompaniment. Those with rational, pragmatic goals should be matched with messages containing facts.

What are the elements of our thesis for consumer products investing?

The first is a high level of product differentiation. This is crucial because if you are right that your new way of designing your product is going to be loved by consumers, then either the incumbents will copy you or new startups will follow you, similar to what is happening to Casper. In the case of Nest, we bet that Honeywell would have a hard time figuring out how to build a Wi-Fi connected, batterypowered supercomputer that connects to a cloud data science service, does AI and machine learning on all the different sensors built into the device, and makes intelligent decisions about your home heating and cooling. We figured it would take Honeywell about four years to copy Nest, and that’s exactly what happened. It took about four years before Honeywell had a product in the market similar to that of Nest. Nest has already taken more than 50% of the smart thermostat market. A high amount of differentiation is critical, not just because of the incumbents and challenger brands but also because of Amazon. If you are going to sell your products through Amazon — Amazon already has a significant number of private label brands such as AmazonBasics — if you’re J. A. Henckels and you sell cookware, and you’ve been selling it through Walmart for a long time but traffic is in decline, you are going to shift to selling on Amazon. Well, Amazon has their own cookware lines, and guess who’s number one in cookware on Amazon? It’s Amazon! You now compete with the retailer, so there needs to be a high amount of product differentiation for you to succeed.

Second, we look for zero-sum markets. These are markets where, if you buy my product, you won’t buy my competitor’s product. If you subscribe to Dollar Shave Club’s razors, you will stop buying Gillette razors. We like this because you tend to eat market share quickly, as opposed to having to grow the market in order to demonstrate success. Some examples of products that don’t fit this category are apparel brands — Bonobos pants, or women’s intimate apparel, or sock companies. They don’t fit our thesis because if you buy Bonobos pants you can still buy Levi’s pants, and you will never quite get the premium on the pain you are putting on the incumbents.

The third criterion we look for is incumbents run by professional CEOs, i.e., non-founder company leaders. This is true of almost every legacy consumer products brand, not because the founders got frustrated and left but because they died. These brands have been around for fifty or a hundred years, and when you have had a company that has been in the market for a hundred years, you are on your third- or fourthor fifth-generation CEO. Nothing against professional CEOs  They are fantastic operators, and many of those companies are run well. However, data shows they are super risk averse and unlikely to self-cannibalize. Companies run by founders — there was a Harvard Business School case study that showed 2x or more innovation versus incumbents. We love competing against professional CEOs. Founder-led companies tend to be the most innovative and risk-taking.

Finally, we like products that improve over time. We look for products that are different from the way products have been built in the past. Products that observe data about their use and perform some machine learning. The products are able to either download software updates or change their usage based on what they learn about a customer. This is different from the way legacy consumer products are built — they are constructed in a lab for a year or two, some focus groups are bought in used to figure out if consumers will like it. They name it, ship it to retailers, and the product enters the market.

Notes taken from the Manaul of ideas.

Areas where values can be hidden.

1. A gradual transformation of a B2B business with much lower profit margins into a B2C business with much higher margins if it becomes successful.

2. How operating cash flows in some businesses are far in excess of reported earnings thanks to over-conservative depreciation policy and how, over time, the reported earnings will catch up with operating cash flows simply because of passage of time.

3. How the true earning power of some growing businesses can become visible just by mentally stopping the growth capex. Charlie Munger once said: “You should seek businesses that just drown in money if they just pause for breath.” Well, then why not mentally make them pause some businesses to catch their breath and visualize the results?

4. How in a highly leveraged firm, debt reduction from sustainable operating cash flow will increase value over time. So might debt reduction from sale of some operating Visual Thinking 2 assets under some circumstances.

5. How a firm’s true earning power is camouflaged because the earnings of a great business are subsidising the losses of some miserable ones and there is a credible plan in place to stop the haemorrhage. Or maybe the camouflage is there because some businesses which have great potential are still in growth phase and have not yet started recovering their costs which were incurred for a certain scale yet to be achieved by them.

6. How an asset-heavy business that’s into manufacturing transforms itself into an asset light business by outsourcing production or generally speaking, how tradeoffs between margins and capital turns can change the value of a firm over time.

7. How the fundamentals of a business deteriorate over time thanks to increase in the intensity of competition in its industry (how the P&L will change, and how the balance sheet quality will change).

Taken from Sanjay Bakshi notes.

Key Takeways from Zero to One

Biggest mistake of a start up is to describe your market so narrowly so that you dominate by definition.  Every startup should start with a very small market. It's easier to dominate a small market than a large one. It's much easier to reach a few thousand people who really  need our product than to try to compete for the attention of millions of scattered individuals.

Characteristics of a Monopoly Proprietary technology - A rule of thumb - The technology must be at least 10x better than its closest substitute. The clearest way to make a 10x improvement is to invent something completely new or radically improve an existing solution.

Network effects - Network effects business must start with especially small market.

Economic of scale - Many business gain only limited advantages as they grow to large scale. Service business are especially difficult to make monopolies. A good startup should have the potential for great scale built into its first design.

Branding - No tech company can be built base on branding alone.



Difference between a biotech start up and software startup.




The biggest secret in venture capital is that the best investment in a successful fund equals or outperforms the entire rest of the fund combined. Only invest in companies that have the potential to return the value of the entire fund.

When considering investing in a startup, study the founding team. Technical abilities and complementary skills set matters, but how well the founders know each other and how well they work together matter just as well. Founders should share a prehistory before starting a company.

How much does the CEO intends to pay himself. A company does better the lesser it pays the CEO.

These are the 7 questions every business should ought to be able to answer. 

Key takeways for Getting to Yes Negotiations

1)Separate the people from the problem
=>Give them a stake in the outcome by making sure they participate in the process
=>Change from a face to face orientation to side by side, jointly solve a common problem.
=>Listen actively, pay attention to core concern and acknowledge what is being said
=>Put yourself in their shoes

2)Focus on interests, not positions
=>Realise that each side has multiple interests
=>Seek out the shared and compatible interest.
=>Be specific on your interest, the wisest solutions are those that produce the maximum benefit to you, at the lowest cost to the others.
=>Examine their position, and ask why?

3)Invent options for mutual gain
=>Brainstorming for more options. Separate the act of inventing options from the act of judging them.
=>Broaden the options on the table rather than look for a single answer.
=>Search for mutual gain by dovetail differing interest. Any different beliefs, and different interest, difference in risk attitude or different values placed on time and structure options based on these.
=>Provide a few equally acceptable options and ask for their preferences to seek you their interests and belief. One fair solution might be..
=>Invent ways of making their decisions easy

4)Insist on using objective criteria.
=>Frame each issue as a joint search for objective criteria such as asking "What is your theory"
=>Reason and be open to reason as to which standards are most appropriate 
=>If the other side is powerful, the more you benefit by negotiating on merits.

5)Know your best alternative to a negotiated agreement (BATNA). 
=>The better your BATNA, the greater your power hence develop your BATNA
=>Consider the other side's BATNA. The more you can learn of their alternatives, the better prepared you are for negotiation. If they appear to overestimate their BATNA, you will want to help them think whether their expectations are realistic

6)Negotiation jutsu
=>Dont attack their position, look behind it. Look for the interests behind it and seek out the principles that it reflects. Seek out and discuss the principles underlying the other side's position.
=>Dont defend your ideas, invite criticism and advice. Ask them what's wrong with it.
=>Channel criticism in a constructive direction is to turn around and ask for advice. Ask them what they would do in your position.
=>Recast an attack on you as an attack on the problem.
=> Ask Questions and pause. Use questions instead of statements. Questions allow the other side to get their points across and let you understand them. Questions do not criticise, they educate.
Silence is one of your best weapons. If they make an unreasonable offer, best thing to do is just not say a word.

7)One-text procedure. 
=>Simply prepare a draft and ask for criticism and improve the draft, and than get the party to agree with a simple yes

Why did Long Term Capital Management fail?

LTCM treated volatility as risk.  LTCM relied heavily on these elegant models to compute risks. Using models to calculate risk only provide a greater sense of security than warranted. The real world is uncertain. Dice is predictable while Russia is not. Some things cannot be simply plug be into a mathematical model. Uncertainty is an abstract concept, one that does not conform to arithmetic. The belief that future risk can be calculated from yesterday prices or past volatility is asinine. Not all that matters can be calculated, while not all that can be calculated matters.

You could be highly leveraged but liquid, or you could be liquid with moderate leverage. LTCM  was highly leveraged yet their trades were illiquid. This not only requires them to be correct merely at the end but it requires them to be correct every single day until the day of maturity. That is akin to playing Russian roulette. Although eventually their trades do converge, they didn't manage to keep their head above water till then. Like how John Maynard Keynes put it, the market could stay irrational longer then you could stay solvent.

They ventured out of bond arbitrage which was their circle of competence, into other unfamiliar areas such as equity volatility.

After a winning streak, hubris sets in. LTCM partners felt like they could do no wrong.

One thing that completely baffled me was that LTCM partners were willing to leverage up and bet heavily for dollars they want but don't need(They were already super rich), in the meantime risking everything they need.