Revisiting MOIL

I recently completed updating my investment checklist as well as asset allocation. Now it is time to start revisiting my existing investments and the stocks in watchlist, and see if there's any change needed. First one on the list is MOIL, since I've started to doubt my belief in the 'understanding of the business", which is like failing on the very first checkpoint in the checklist. So, here're my new thoughts on MOIL.

Here're the first two checkpoint:


Checkpoint 1: Is the business OUTSIDE your circle of competence [Charlie Munger]? Can you talk about it right after you're waked up from sleep? Do you understand the business well? Is it simple enough for an idiot to run [Peter Lynch]? Assume you're no better than an idiot!

Checkpoint 2: What is your main reason to look at this company? Write this down and once we analyze the business, we'll come back to see if our analysis is biased by this presumption [Anchoring bias, Charlie Munger]. If your reason is mainly a recent, sharp decline in share prices, try to find why so many people are selling, and if they know more than what you (prospective buyer) knows, or in other words, are you taking undue risk by investing into something with many unknowns?

My main reason to have invested in MOIL dates back to Nov 2010. This was around the time when MOIL IPO came on the street, and I had invested considering the comments from Mr. Udayan Mukharjee. I then watched CNBC regularly, and Udayan pointed out that MOIL was an industry leader, lot of cash on books, no debt, decent business and was trading at less than 10 P/E multiple, and hence it was a good buy. All good. Come Dec 2012 and we find the same company trading at less than 5 P/E if cash is discounted, and I started buying and took the stake to nearly 10% of my portfolio.

However, now, after soaking in lots of concept and having "experienced" value investing for more than an year, I realize one big mistake in having bought MOIL shares - I prooably don't understand the business very well, even if it is somehow a simple business that even an idiot can run. The major items that I don't understand well are:

- Manganese is used as a raw material in production of steel, and since MOIL extracts a large portion of their total ores for steel production, MOIL's performance is strongly dependent on how the demand of steel and hence manufacturing of steel fares. There're 4 layers involved here - demand and sale of steel, steel inventory levels, manganese demand and finally, the manganese inventory levels.
- This means, that for manganese prices to improve, steel production should increase to such levels that manganese inventory levels go down and production of manganese has to start again in larger quantities. This is a long chain of dependency, and the time to realize the benefits will be longer.
- I do not understand how steel demand will rise - yes, as infrastructure development  improves, steel demand will improve, but considering this 4-layer structure through which benefit of infrastructure spending will pass on to MOIL, the time to realize these gains will be elongated.
- I already hold a sizable amount of my investments in form of capital goods companies like BHEL and CROMPGREAV (where I've better conviction than about increase in MOIL margins), and hence, continuing to hold MOIL will further skew and increase downside risk due to uncertainties in improvement in infrastructure spending.

In short, I do not have conviction on how MOIL's profit margins will revert back, and how long they'll take.

What is the opportunity cost of holding and NOT holding MOIL's stock? This is an important question when making a buy / sell investment decision. Let us try to find out:

If I sell off MOIL, and the business conditions improve, it is possible that the stock can rebound to it's previous highs around Rs 450 when business conditions return back, and that's a gain of 100% over my existing purchase cost. However, as I described above, I've little conviction that this will happen anytime soon.

On the other hand, if I keep holding MOIL stock, I may lose upon opportunities like MCX India, IL&FS Investment Managers and other businesses I'm considering. For sure, I've conviction that I can generate better returns than MOIL in either these alternate stocks (if the analysis proves to be positive), or re-allocate the money into a good mutual fund and generate better returns.

Hence, I decide to sell off all my holdings in MOIL. However, I'll sell MOIL as I buy another investment, and hence, I'll start selling only after I've identified another investment opportunity.

Goodbye MOIL :-)