Is Exide Industries Undervalued? 

Hello everyone, Rahul Shah here, trying to make investing accessible and profitable for the average investor.

I am sure you must have heard about the famous fable of the 'Elephant and the Six Blind Men'.

It's a story about how a group of six blind men are taken to an elephant enclosure and made to touch a big, full-grown elephant.

Now, obviously, they are touching a giant elephant for the first time and since all of them are well spread out around the elephant, they are each touching and feeling a different part of the elephant.

So, the first blind man is touching the trunk of the elephant and starts assuming that the elephant is nothing but a big, fat snake.

No, it's a spear, shouts the second blind man who's obviously got hold of the elephant's sharp tusks.

Are you all crazy, says the third blind man, who's standing close to one of the legs and obviously thinks of the creature as a huge tree.

The fourth, fifth and the sixth blind guy think of the elephant as a wall, rope and fan respectively as they feel its body, tail and ears.

So, six blind men imagining an elephant as six different things. It goes without saying that an intense argument follows with each blind person trying to make his case.

Soon, a wise man who's watching all this action unfold from a distance, approaches the group and asks all the six men to calm down.

He then tells them that all of them are right as they were all touching different parts of the elephant. The elephant, in reality, is the sum of all of these parts. Instead of arguing with each other, all they had to do was consider each other's perspective and arrive at a unified picture.

Interesting, isn't it? There are a lot of lessons that one can learn from this story.

In fact, there is a very important lesson around investing as well.

I'd like to believe that the stock price of any a stock in the stock market is like the elephant in our story.

And all the other investors who are trying to value the stock are like the six blind men, each having its own opinion about what the stock's correct valuation should be and the price it should be trading at.

So, there's a stock price and there's a fair value or an intrinsic value of the stock that depends on what the individual investor feels about the future of the company.

An individual investor may be right based on his own assessment of the fair value of the company and yet, his value may be quite different than that of the other investor because the other investor is looking at things differently.

Let us try and understand this whole process better by using Exide Industries India Ltd as an example.

The stock has been a stellar performer and has more than doubled in the last one year.

In fact, several experts are of the opinion that the stock's upward journey may have just started, and it could go up substantially even from these levels.

So, how should an investor deal with this development? Should he buy, hold or perhaps, take advantage of the current rally and sell his holdings?

well, the right answer will depend on comparing the current price of the company with our estimate of the stock's fair value, which in turn will depend on what kind of an investor we are.

As far as I am concerned, there are 5 different types of investors.

The first one is a deep value investor. A deep value investor is interested in only those shares that are trading below or close to their book values.

They do not consider any shares that are trading at a significant premium to their book values. Exide Industries' current book value stands at close to Rs 147 per share.

This translates into a buy price of Rs 112.5 after considering a margin of safety of 25%. What this means is that the share price of Exide Industries needs to fall by at least 70% before a deep value investor can consider buying Exide Industries shares.

Well, as things stand now, the possibility of Exide Industries falling to the buy price of Rs 112.5 per share in the near future is close to zero in my view.

Which is why a deep value investor should forget investing in Exide Industries shares and should consider those stocks that are trading below or close to their book values.

Given his valuation preference, a well-established market leader like Exide Industries is way out of reach for a deep value guy.

What about our second investor, a value guy. Yes, that's correct. Not a deep value guy but a value guy.

Now, what is the difference you may ask. Well, a value investor tries to value companies based upon its earnings power or earnings capacity and not on book value.

The earnings power of a company is the earnings per share that Exide Industries has managed to earn in a normal year. It can also be considered as the average earnings of the last 3-5 years provided the business conditions were normal.

Now, this number for Exide Industries comes to around Rs 9 per share in my view. There have been years where Exide Industries earned Rs 8 per share and there have been years where it has earned close to Rs 10 per share. Thus, Rs 9 per share looks like a good number as far as the earnings power is concerned.

The average PE multiple for Exide Industries has been in the 20x-22x range the last few years and here also, we consider an average of around 21x.

Therefore, multiplying the two and sticking a margin of safety of 25% on top of that gives us a fair value of Rs 142 per share, against the current share price of Exide Industries of 377 per share.

Hence, even for a value investor, Exide Industries is quite expensive and the stock may have to fall by more than 60% before a value investor can think of entering the stock.

Well, a 60% crash does look like a remote possibility. But please note that during the coronavirus crash in March 2020, the stock had fallen to as much as Rs 130 per share, thus giving a huge opportunity for a value investor to buy the stock.

Whether the same may happen again is anybody's guess. But the possibility does not look as remote as it is for a deep value investor.

The third type of investor can be called as a Growth at reasonable price or a GARP investor.

This is Warren Buffett territory. The Oracle of Omaha made a switch in his investment philosophy when he changed from being a deep value investor to a Growth at reasonable price investor.

What is the difference between the two you may ask? In my opinion, a growth at reasonable price investor does not seek a margin of safety.

He still invests based on the earnings capacity or the average earnings power, but he expects this earnings to grow at a decent rate going forward.

The value investor on the other hand does not expect the earnings to grow but remain stable or grow at a very slow rate.

The reason GARP investor has a lower margin of safety than value investor or does not have any margin of safety at all is because he believes that growth is his margin of safety.

Since a GARP investor is not paying anything extra for the growth in earnings, he is willing to pay the full price for current earnings.

Well, this is how a GARP investor will value Exide Industries.

Everything is the same as a value investor except for the margin of safety. I have assumed a zero margin of safety versus a margin of safety of 25% that I assumed for a value investor.

Therefore, if you remove the margin of safety, you get a fair value for Exide Industries of Rs 190 per share, which is almost 50% lower than the current market price of Rs 380 or thereabouts.

Therefore, the stock will have to fall by 50% for a GARP investor to consider investing in Exide Industries.

So, that was all about GARP investing.

Let us take a look at the fourth type of investor, the growth investor.

This is Peter Lynch territory.

Peter Lynch was of the view that he was willing to pay a high PE multiple for a stock if the stock had significantly better growth prospects than the one with the low PE.

Here, in order to value the company, I have not considered the current earnings power like I did for a value investor or a GARP investor.

Instead, I have assumed the future EPS of the company, expecting it to double over the next 3-4 years i.e. go from Rs 9 per share to Rs 18 per share. Keeping the PE at 21x, we get a fair price of Rs 378 per share which is almost the same as the current price.

Therefore, from amongst the four different types of investors, it is only a growth investor that might find the company's current share price reasonable. However, even he won't be able to make good returns going forward as the stock is already trading at this higher price point and there's hardly any upside left.

The fifth and the final kind of investor is the momentum investor. Well, momentum investing is actually trading in my view and momentum investors don't try to find out the fair value of a stock.

They only try to figure out whether the stock is witnessing a strong momentum currently and if the answer is yes, they jump aboard and stay as long as the momentum remains strong. Any sign of weakness of momentum and they get out of the stock, no questions asked.

Here are the five different kinds of investors again, in one slide for easy reference.

Isn't this like the blind men and the elephant all over again? All the 5 types of investors could be right in their own way and yet, their idea of the fair value of the company is so different from each other.

So, in the end, who should you follow? Should you follow the growth investor or the GARP investor or is it the value guy or the deep value guy?

Well, the beauty of investing is that you can choose any of these approaches and still end up making good money over the long term, even market beating one.

Yes, that's correct. Each of these approaches are proven approaches and you can use any of them provided you select the right stocks for each of these categories, try and assess their fair values correctly and last but not the least, have a proper exit plan in place.

You can't be a growth investor and then fail to predict the future growth of the stocks in your portfolio. A growth stock turning into a value stock or a deep value stock could be a big disaster for your returns.

Likewise, if you are a momentum investor and don't get out as soon as the momentum weakens, you are asking for trouble.

I have seen stocks go from momentum all the way down to deep value and destroying huge wealth in the process.

At the other end, if you invest when the stock is deep value or value and then keep holding on to it all the way upto momentum, you will end up with one hell of a multi-bagger.

However, such instances are rare and you'd be better off sticking to your zone of investing. So, if you are a deep value investor, you should look to make those quick 50%-60% returns and then sell the stock.

There's no point in practicing a buy and hold strategy in deep value investing.

Likewise, if you are a growth at reasonable price investor, you should exit once the stock becomes a momentum investor unless you are like Warren Buffett who has a buy and hold strategy.

The bottomline is that each of these approaches can make you money in the stock market provided you know the line that separates your investing style from the other investing styles.

As long as you operate inside your zone or what is also called as your own circle of competence, you should be fine in my view. So, pick a style of investing and stick to it.

Now, coming to the question of whether Exide Industries is a potential multibagger or a bubble waiting to burst, I think from a deep value or a value perspective or even a GARP perspective, the stock is definitely greatly overvalued but not so much from a growth perspective.

However, if the strong momentum continues and people continue to pile into the stock with no regards to fundamentals or valuation, then the stock can certainly turn into a multibagger.

Other than this, the possibility of the stock giving huge returns over the next 2-3 years depends on whether it can improve its profits in a big way going forward. At least in the past it has not been able to grow its profits at a very fast rate.

This is my assessment about the stock. Your assessment can certainly differ based on the kind of investor you are and the way you see the company's future.

Whatever your valuation is, please be realistic in your assumptions and stick as close to your comfort zone or circle of competence as possible.

With this, I come to the end of this session. Please do not forget to like and share the video if you think it added value to your understanding of investing.

I will see you again next time. Good bye and happy investing.