Note: I do not have any intention to criticize anyone. The only aim is to pen down my thoughts and to find out from fellow value investors if I am missing anything.
First, a confession
Till recently my investments were generally restricted to special situations [open offers, buy backs & delisting] and out of favour stocks. After reading repeatedly posts by Prof Sanjay Bakshi, where he insists on investing in high quality and scalable businesses [read here and this article in outlook business], I got convinced about investing in highly scalable business and not restricting myself only to contrarian picks. The principles laid down in the book “Accounting for Value” suggested by the Prof will make sure that one does not pay exorbitant price for growth. So finally thanks to all my friends who have repeatedly tried to push me towards consistent wealth compounding machines, but I was a slow learner.
During the lecture by Mohnish Pabrai in MDI , there was an excellent question about “How to select stocks for analysis from more than 5000 listed companies in India” and Mohnish answer was
“become a shameless clone and look at the holdings of intelligent investor”
Then do your analysis. Invest only if, your are convinced and stocks lie in your circle of competence.
So to begin my journey in high quality stocks, I started with analyzing holdings of PPFAS Long Term Value Fund [ a fund sponsored by reputed value investor Parag Parikh and managed by Rajeev Thakkar]
About the company:
Mahindra Holidays & Resorts India Limited (‘Mahindra Holidays’ or ‘the Company’) is a leading player in the leisure hospitality industry. It has established vacation ownership in India, and is the market leader in the business. Mahindra Holidays offers members a choice of 44 resorts. 2/3rd of the inventory is owned by it and balanced is on long-term lease. ‘Club Mahindra’ is the Company’s flagship product in the business, which entitles a week’s holiday every year for 25 years.
Watch this video by Rajeev Thakkar [Starting at 30:00]
Analysis using mental models
To analyse the business model we will use certain mental models. To answer why use mental models, let me reproduce what Prof. Bakshi replied on his blog for one of my question.
“Mr. Munger’s mental model framework is not just some abstract idea with little practical utility. His models from psychology alone should be applied to every business an investor is contemplating buying into for the long-term, by asking critical questions……. Some of the answers to those questions come from economics but several will also come from psychology. As Mr. Munger says, you need a checklist. And then you need to relate to what you see out there in with world to that checklist by asking a lot of questions that begin with the words “why?” or “why not?” [Emphasis mine]
We will use following mental models :
Watch this Video by Rajeev Thakkar to understand System Thinking and feedback loops [starting 4:00 to 12:00]
Working in favour of business: 1) Network Effect 2) Winners takes all 3) Social Proof
Reasons not to buy
Business model NOT a win win situation for everyone
Mohnish Pabrai, in his interview to Outlook Business, insisted that investors
“Should not look at business models in isolation — it has to be a win-win for the full Ecosystem.”
My limited analysis of the Mahindra Holidays suggests that customers are mostly the losers in the business model followed by Mahindra Holidays.
Let’s see how the required rooms are calculated for member base by the Company
Take time to read this comment by management in June 21012 quarterly conference call
Lets analyse the company’s reasoning
- 80% member addition through EMIs, so they will be eligible only after 12-15 months – This is a fair assumption.
- 50 weeks – Company is almost assuming that it will have 100% occupancy throughout the year [Even during 2013 its occupancy was only 90%]. No provision is made for rooms, which Company lets out for corporate events.
- Only 75% members will use – Does it mean 25% of the members will NEVER use the facility. Going by the above calculation, company ignores the fact that members who have not utilised in earlier years will use next year. So company is betting that 25% of members WILL NOT use their benefits EVERY YEAR, YEAR AFTER YEAR.
But going by current inventory of rooms and assuming the best case scenario that members will EVENLY OCCUPY the rooms throughout the year [i.e 100% occupancy], still only 75-80% of members can use their benefit. To correct this situation, company needs to drastically add rooms.
Have a look at international benchmarks
Historically company is consistently issuing far higher membership, compared to its inventory base.
So what the company has done to correct the shortage of rooms ?
1) Trying to restrict members from going to the same resort within 12 months [This restriction was there till a couple of months back, I think they recently removed this]
2) Mahindra holidays has purple season membership. Their highest paid membership, during which no other members can travel other than Purple season members. According to eNidhi India, Club Mahindra had increased the number of purple days during 2006 to 2013. Other members can book only 15 days in advance, by which time no rooms will be vacant. Read here
Wyndham [and many of the developed countries resorts] have point based system, with no restriction on use of unit size, season and no. of days. Mahindra club has restriction on season usage, unit size and minimum no. of days….
3) Marketing the product with corporates as ‘Club Mahindra Fundays’
[Extract from company annual report 2013]
While Mahindra Holidays do not have enough rooms for its existing members, its marketing the resort with corporates. As per one of my friend, company rented out majority of its units in Coorg resort for full weekend [Friday to Sunday] in the month of January 2014 to one of the big four auditing and consulting firm of India. Now no where management is factoring this, while calculating the number of required rooms.
Run baby run, says the red queen, or you will go nowhere
In the post on Red Queen effect, Prof Sanjay Bakshi talks about Red Queen
Red Queen is a fictional character in Lewis Carroll’s “Through the Looking Glass”. In a famous scene the Red Queen seizes Alice by the hand and drags her, faster and faster, on a frenzied run through the countryside, but no matter how fast they run, they always stay in the same place. Alice, who is understandably puzzled, says
“Well in our country you’d generally get to somewhere else – if you ran very fast for a long time as we’ve been doing.” “A slow sort of country!” says the Queen. “Now, here, you see, it takes all the running you can do, to keep in the same place. If you want to get somewhere else, you must run at least twice as fast as that!”
[Above two para’s are extract from Prof. Sanjay Bakshi blog]
I think Mahindra holidays is also in the same situation where, just to keep up its existing Operating Cash Flows [OCF], it needs to keep on adding new members. As discussed above, to improve members satisfaction and to match with international benchmarks Mahindra Holidays needs to increase drastically number of rooms. But if it does not increase its member base continuously its OCF will crash.
In the same post on a question about how to analyse Sanghvi Movers which had never generated any positive FCF, Prof said
“How much cash flow will they generate if they stop buying cranes? If they stop growing, how much will be the earnings that can be taken out without feeling the need to put them back in the business?” [Emphasis mine]
Lets analyse Mahindra Holidays operating cash flow and how much cash will they generate if they stop adding new members. Before that, take time to read company’s revenue recognition policy. This helps to understand why I am focussing on Operating Cash Flow [OCF] and ignoring accounting numbers altogether.
[INR Amount in crores, unless otherwise stated]
Its clear from above table that majority of OCF is through addition of new members and if they stop adding new members COMPANY CANNOT MAINTAIN ITS EXISTING OCF. Without addition of new members, INCREMENTAL OCF might be DRASTICALLY LOWER THAN CURRENT OCF.
Lets see the impact of slow down in the growth new members on Cash Return on Gross Investment [CROGI] and what will be the impact if new members addition stop altogether [I am not suggesting new member addition will stop, but as suggested by Prof Sanjay Bakshi in Sanghvi Movers case, trying to assess the impact if company stop growing]
Note: CROGI is a good tool to remove the impact of accounting policy of deferring part of the revenue over 25 years by the company. To know more about CROGI read here. I have not capitalized the operating leases in the above calculation. Company’s policy is to maintain 30% room inventory on lease basis. To remove the differences from decision arising from buy vs lease, one needs to capitalized the operating leases. If I do that, CROGI will decline further.
Pre-tax ROE numbers are very attractive. Let’s understand the reason for attractive ROE. It’s not driven by business fundamentals, but accounting choice. Company has shown deferred income under other liabilities. According to accounting principles the above treatment is right. But lets ignore the accounting treatment. As far as shareholders are concerned, the above cash is already received by the company and the company had utilized the above cash to acquire or build new resorts. Income from new resorts is reflected in the P&L statement, but corresponding amount is not being reflected in the balance sheet, which boosts the ROE. So, better to concentrate on cash returns measures like CROGI rather than accounting measure like ROE.
Read the below extract from book “Accounting for Value” to understand why book rate of return like ROE should NOT be blindly relied upon.
See the below slide on why even the REMOTE LOSS SCENARIOS [like NO GROWTH IN MEMBERSHIP] should be analysed before accepting any RISK.
Food within resort is exorbitantly priced:
Taking advantage of its remote location, company is charging quite steep charges for food. In Munnar, for a family of 3, lunch costs INR 2,400 per family per meal. But the consequences of consequences will be, sooner people will find alternatives. Eg. In Munnar, nearby 2-3 small restaurants have opened to cater to these resorts members.
According to some old members they used to have full kitchen till a few years back but now the same is replaced with Microwave. Wyndham [biggest vacation ownership company in the world] provides the full kitchen in the rooms along with washer and dryer.]
Management during its interview to eNIDHI in 2008 said: “Our fun dining program which is a member privilege provides for Rs. 450 per person, breakfast+lunch+dinner on an elaborate buffet. This buffet is comparable to any 5 star offering. I am sure you will appreciate that the price being charged is less than what many 5 Stars charge for ONE buffet meal let alone three. ” – But it seems to be discontinued.
High food prices might be the reason that there average revenue per member had remained around INR 4,000 to 5,000 [assuming 75% members availed holidays] during the last three years.
Negative feedback loop
74% of people have given ‘One star’ rating to Club Mahindra on Mouthshut.com
Have a look at the results of survey by Moneylife [based on 450 responses. As Mahindra Holidays’ market share is close to 50%, it might be reasonable to consider this survey as proxy for Mahindra Holiday membership]. You can read the full article here
Other negatives [though not material]
ICRA in its discussion paper on covering accounting perspective of securitization recommended adding back securitized assets with recourse.
Debtors outstanding for more than six months is increasing continuously
The above could be because of increased addition of members through EMI scheme or delay by customers in making payment on time.
Reasons to buy
Huge opportunity ahead
According to industry estimates, the market has grown at 18 per cent in the last five years. Even so, India has only 350,000 vacation ownership households. If one were to look at the 11.5 million households who own a car as a proxy for the addressable market, only one in thirty-three car owners has a timeshare membership. This means that the current market penetration of vacation ownership products is very low and that there is considerable headroom for future growth of the business in India [Source: Company AR 2013]
Source: Outlook Business magazine
Better business model compared to hotels
Pan India presence and dominant market share [~ 50%]
Based on the above discussion, I think that the Mahindra Holidays business model is not a win- win situation for everyone. Large part of customers will continue to be dis-satisfied due to non-availability of sufficient rooms. Negative feedback loop will reach a critical point sometime and then business might become unsustainable due to bad reputation.
New member addition is the driving factor for majority of the profits, OCF and CROIG. So, the company needs to run faster and faster to stay in the same place. To move ahead, it needs to run at double the speed [add double the number of existing members] and if it does that without increasing current number of rooms drastically, customer dis-satisfaction will increase more. So Mahindra Holidays is in a Catch-22 situation.
- All the posts on this blog, including this one, are for educational and discussion purposes only.
- None of the material posted should be regarded as advice to buy/sell any stock. I do not have any proven stock performance record to talk about.
- As a professional investor, I may have positions in stocks discussed.
- Main aim is to seek contra views and not to recommend any particular stock as buy or sell.