On an otherwise gloomy morning on December 16, 2015, we had the privilege of having a quick chat with Albert and Chan over breakfast at the Conrad, Hong Kong. Albert and Chan are the managing partners of Petra Capital Management (“Petra”) – a long-term deep value-oriented firm based in Korea. Since its inception in September 2009, the Petra portfolio has yielded an annualised return of 16.0% net of all fees. The KOSPI Index, on the other hand, had an annualized return of 3.4% over the same period. Needless to say, it is an impressive record.
We have been following Petra for awhile now – you can find their shareholder letters here – and took the opportunity to pick their brains on all things related to investing.
60% Graham, 40% Munger
Their investment style was described as 60% Graham and 40% Munger. The Graham style of value investing focuses more on the quantitative aspects of a company, in particular the strength of its balance sheet. On the other hand, the Munger/Buffett style emphasizes on having a competitive advantage, strong business moat and compounding earnings over a long period of time.
Albert stresses the importance of understanding the underlying characteristics of both styles. In the early days, Buffett invested primarily based on the Graham style. But as his size grew, he was no longer able to continue. That is why he invests in growing, quality businesses today, but it doesn’t mean that he doesn’t agree with Graham’s way of investing. As Petra is not as large as Berkshire, they have the flexibility of employing both investment styles as they see fit.
Historically, Korean companies have traded at relatively low valuations (dubbed the “Korean discount”) due to their low dividend yields and tendency to hoard cash. For example, their 1.3% average dividend yield is lower than other developed economies like United States, Japan and France.
However, Albert and Chan expect the discount to narrow as Korean companies become more shareholder-friendly. Samsung Electronics recently announced another round of share buybacks over USD10.0bn while total cash dividends in 2014 by Korean public companies increased by more than 20% from 2013. From next year onwards, corporate taxes will become deductible on dividend payments and penalties will be imposed on companies which hold excessive cash.
Soft shareholder activism in Korea and Asia
One way of unlocking the value in Korean companies is through shareholder activism. However, Chan highlighted that the U.S style of confrontational shareholder activism is not effective in an Asian setting. Instead, a softer approach of working constructively with the target company through private discussions is much more effective. In fact, seeking companies with management teams which are receptive to shareholder overtures is an approach that Petra actively employs. In this regard, management at the cusp of handing over control to the next generation, or the advent of new Western-educated managers into a company, often serve as positive signals. As far as possible, Petra engages with company management to undertake shareholder-friendly actions in the form of increased dividends or buybacks.
While Chan is away getting his second round of food, Albert reveals that they actually spend most of their time identifying and avoiding value traps. “Many companies appear cheap, but you have to really understand their business and industry. In many cases, their cheapness becomes justified if, for example, they are expected to lose their competitiveness and earnings are expected to decline.” Albert quips. Chan returns and subsequently adds, “Price to earnings can be misleading sometimes, especially when you have cyclical companies where they often trade at low price to earnings at the peak of a cycle.”
Advice to young investors
What should young, aspiring investors do? Read widely – read many publications, read about businesses and study financial history in order to understand whether an event will repeat itself or not. An isolated idea or concept might seem irrelevant at first, but new insights can sometimes be gained when paired with a previously covered idea or concept.