Asset Yogi's analysis of Tech Mahindra and the Satyam Scam

Like it or not, stock markets often involve a lot of emotions. So, among the 5,000+ listed public stocks, when one pulls a ₹14,000 crore scam, it is bound to suffer the people’s wrath.

I am talking about the Satyam Computers scam, of course, and Mahindra’s acquisition of the dying IT company.

The wrath, of course, translates to the share price falling and the loss of faith in the business. Most investors would shy away from engaging in the shares in the future. They obviously would not buy a company that buys a stake in a fraudulent company.

Now, reasonably speaking, based on Satyam’s not-so-positive image, an investor would not engage with Mahindra’s stock. However, Mukul had a different idea. He invested in Mahindra when it was in the process of acquiring Satyam computers after its short-circuit in the year 2009.

So why did Mukul invest in a company that was associating with a fraudulent entity? Because he saw potential. And the fraud was not necessarily a red flag but a discount offer for him. Sure as hell, the potential he saw came through, and his investment from the year 2010 gave returns worth 5-6 times in a period of 9 years. That’s a CAGR of 21% from a single stock!

Now I am not here to sell you on Mahindra or any stock for that matter. I am here to propagate Mukul’s investment style. Yes, I know your question, “Who is Mukul, and why should I read about how he invests?”

Well, Mukul is better known as Asset Yogi (I bet that rings some bells)! Mukul pulled a “Maggie” on himself, and his Youtube username has gained such traction that it has overshadowed his real name!

Well, with the introductions out of the way, let us learn how to find turnaround stocks, “The Asset Yogi Way”.

Satyam Scam Analysis

To reach the point of Mukul’s purchase of Mahindra shares, we need to understand the circumstances that led to Satyam’s acquisition by Mahindra.

The scam was exposed in the year 2009 by none other than Satyam Computers’ CEO, Raju Ramalingam. The exposure led to a massive fallout which caused the share prices to drop by 73% and reach near penny stock levels of ₹24.5 on January 16, 2009. This crash led to the aforementioned ₹14,000 crore erosion of investor wealth.

This is where the government had to intervene and involve other companies to take over Satyam’s operations. Among the companies involved in this takeover were Mahindra (obviously) as well as L&T. L&T’s involvement in the takeover process is what exposed Mukul to the inner workings of the takeover.

Another source of information for Mukul turned out to be his newlywed wife, who was employed at Satyam at the time. With all of these bits of information, Mukul interest in the Satyam Debacle (as he calls it) only grew.

Here are the aspects of the company that he looked into to better understand how things would unfold.

Qualitative Aspects

With the scam and the takeover, whether or not Satyam was a lucrative or investable business was out of the question. That ship had sailed, hit its iceberg and was on its way to the bottom of the ocean.

Yet, the effect of Satyam’s scam would have far-reaching effects on the acquiring company’s balance sheet and reputation. Here is how Mukul figured Satyam Computers would affect Mahindra:

1. Size of the Fraud: Although the fraud had been labelled to be worth ₹14,000 crore, this number covered just the erosion of investor wealth. The acquisition of Satyam would be a costly task for Mahindra in terms of repayments of liabilities, managing new employees and other assets and more.

Mahindra would have had a better idea about this aspect, as it would have performed its due diligence before taking on this sinking company. However, as far as an investor in Mahindra was concerned, Mukul needed to understand the fraud’s effect on his portfolio if he invested in Mahindra.

2. Unidentified Liabilities: Raju Ramalinga had cooked his books of accounts to appear more profitable. Through this inflated image, he was able to acquire cheap loans from the USA. The funds from these loans were never shown in the accounts of Satyam Computers and were used by Raju to experiment with real estate in Hyderabad.

The lack of disclosure of these loans made it difficult to gauge the true liability that Mahindra would incur on buying a majority stake in Satyam. The loans also came coupled with pending liabilities that Mahindra could have to deal with.

3. Customer Loss: Although the scam was more centred towards the books of accounts and stock manipulation, Satyam's customer faced side had to deal with the repercussions of the scam’s publicity.

Mahindra acquiring Satyam would bring the same loss of face to Mahindra’s doorsteps too. Mahindra would have to go ballistic on its publicity and operations together to mitigate this threat to its image.

4. Management: Investors in Mahindra would also have to worry about the management already in place as well as the staff being onboarded to handle the new business arm. The management would need to have enough experience as well as a positive track record to be able to handle the risks mentioned above that Satyam would bring to the table.

Now, I want readers to notice how the first aspect that Mukul focused on was the qualitative factors. Most investors (including myself) often dive head-first into the valuation and the numerical aspects of a company.

While it is a necessary aspect to look into, it is better to look into the operations of the business to understand whether spending any amount of time understanding the numbers would lead to a worthwhile investment decision. Too often, the retail crowd develops a bias due to the time sunken into research to stay objective to the business.

Speaking of valuation, here is how Mukul went about understanding the worth of the amalgam being formed.

Valuation of Mahindra Satyam

Mahindra acquired a 51% stake in Satyam Computers at ₹2,800 crore. This meant that even when Satyam was deep in the midst of chaos, Mahindra valued the business at ₹5,600 crore.

Now, whether or not this valuation was accurate depended on the company’s profits. However, Raju had inflated those numbers in order to raise Satyam Computers’ share prices. This allowed the shareholders to sell at a price that was higher than what the company was actually worth.

The inflated earnings also allowed Raju to acquire cheap loans that he squandered on real estate, as mentioned above.

So, since the company’s earnings were skewered, another metric that could come in handy would be the sales.

So Mukul took September 2008’s quarterly sales results into consideration which stood at ₹2,100 crore. This figure was then annualised to reach ₹8,400 crore.

Now, the industry standard of profit to sales (or P/S) ratio was 4x. Which meant that a company’s market capitalisation would be 4 times its annual sales.

Applying this standard P/S to Satyam’s figures, its market capitalisation would stand at ₹33,600 crore (₹8,400 crore x 4). However, this was a rather optimistic approach to value the shares of a company that had attracted a negative light recently.

Remember the “Customer Loss” mentioned above? Since Mukul was using sales as a metric for valuation, he considered Satyam’s infamy losing Mahindra 80% of its customers. So, he reduced the sales figure by 80%, reaching an annual sales figure of ₹1,680 crore. Applying the industry P/E to this figure led to a market capitalisation of ₹6,720 crore.

So, Mahindra was acquiring a business worth ₹6,720 crore (worst case scenario) for ₹5,600 crore. So as far as valuation was concerned, Mahindra got a bargain.

Yet, Mukul did not invest. While the valuation was attractive, there were still a lot of moving parts to think about. So he waited a year to get the Mahindra Satyam’s (the name post-acquisition) annual reports.

Mahindra Satyam’s Financials

Waiting a year led to Mahindra Satyam producing the following figures:

Particulars	FY 2008-09 (figures in ₹ cr)	FY 2009-10 (figures in ₹ cr)
Revenue	8,473.5	5,481.0
EBITDA	1,834.9	554.8
EBITDA Margin	21.7%	10.1%
Profit After Tax (PAT)	1,687.9	-124.6
PAT Margin	19.9%	-2.3%
Net Worth	7,239.2	1,880.9

As you can see, the annualised sales were actually underballing the actual sales for the year 2008-09, and the approximation was actually safe. However, the year 2009-10 saw the financials dip into the negatives as sales fell and the net profit turned into a loss.

Both of these dips were understandable, though. The drop in sales was obvious due to client loss, as mentioned above, but the drop was not as drastic. The loss was due to an extraordinary item of ₹400 crore which could have been settlements and other obligatory payments. According to Mukul, this loss was not worth too much worry as it was not too large and was caused due to a one-time obligatory payment.

As far as the net worth was concerned, it was another one of the figures inflated due to cooked books. This meant that a lot of assets in Satyam Computers’ books were actually non-existent. The figure did not hit rock bottom, however, as Mahindra had infused some capital into the new merged business.

Based on these figures, Mukul was able to build conviction around the company.

Benefits for Mahindra Satyam in buying Satyam Computers

Apart from the numbers, Mukul was confident in Mahindra’s ability to turn Satyam Computers’ around because of the following reasons:

1. Brand Trust: Although Mahindra Satyam was a new player in the IT sector, Mahindra Group had already made its bones as a conglomerate. It was seen as a titan equal to Tata and Godrej. This renown would definitely help it counter the fall from grace brought by Satyam Computers.

2. Synergies: Tech Mahindra was formed as a JV between British Telecom and the Mahindra Group. While this meant that the group ventured into the IT sector, its specialisation was limited to the telecom industry. Diversification would need employing resources from scratch with additional costs in client acquisition.

Acquiring Satyam Computers afforded Mahindra Satyam a head start in the learning curve. The fact that the acquisition worked out at a discount only added the cherry on the cake.

3. Existing Investments: While the owner of Satyam Computers was engaged in fraud, it was more about the manipulation of funds, not necessarily a non-existent business. The funds manipulated had to come from somewhere, right?

Satyam’s base business had made some investments to scale the business, even if to further draw more funds to misdirect. These investments included development centres, increased hiring of employees, customer relations, etc. This meant that Mahindra was buying a business that could be scaled and was ready for the same.

4. Profitability: Although the latest financial statements had presented a net loss in the books, it was a negligible amount compared to the size of the business and had occurred due to an out-of-the-ordinary expense. Thus, the business’s earnings could potentially increase if Mahindra bucked up.

5. Valuation: A lot can change in a year, especially in the stock market. So, Mahindra Satyam’s valuation had gone up from ₹5,600 crore to ₹11,000 crore. While this meant that the prices had almost doubled, based on sales figures of 2010, the P/S still stood at 2x, which was still half of the industrial standard.

Mahindra Satyam: The Turnaround Stock Story

Armed with the aforementioned information, Mukul ended up investing in Mahindra Satyam, and the rest was history. Still, for a little reminder, these are the turnaround results he experienced with Mahindra Satyam:

1. The company turned profitable by the year 2011-12 and decreased its operational costs.
2. Mahindra Satyam’s net worth increased by 70% from the previous year.
3. The company managed to retain 50% of its client base as opposed to the 20% that Mukul had anticipated. On top of this, the new entity managed to acquire 44 new clients.
4. There were also talks of Tech Mahindra and Mahindra Satyam being merged. Here are the details of the newly merged entity, Tech Mahindra:

Particulars	FY 2012-13 (figures in ₹ cr)	FY 2013-14 (figures in ₹ cr)
Revenue	6,873.1	18,831.4
EBITDA	1,424.2	4183.8
EBITDA Margin	20.7%	22.2%
Profit After Tax (PAT)	791.4	3,028.8
PAT Margin	11.5%	16.1%

Based on these new and definitely improved numbers, Mukul knew that Tech Mahindra would take off and sure enough, it did. Pre-merger, the stock prices were around ₹200 which skyrocketed up to ₹800 plus when Mukul exited.

Now for those wondering, “If the stock was doing so well, why did Mukul exit?” Well, Mukul exited pre-covid lockdowns in India. The reason behind his exit was the possible fluctuation that the upcoming would pandemic would bring on the stock markets.

The Bottom Line

This article may have Mukul’s research at heart, but it is not so much an ode to his ability with the stock market but his near-replicable approach to it. Most other media platforms would lose the plot here and try to sell the greatness of the investor, driving away from the learnings that they would wish to impart.

While there is no question about Mukul’s skill, it is his level-headed and focused approach that helped him take benefit of a scam. Where retail investors often get lost in the herd mentality approach of finding a heavily discounted stock that would boom, they forget to apply the very simple rule of engaging businesses they understand.

Mukul was already engaged in the IT domain, and the Satyam Scam only drew his attention to it. He did not go out of his way to invest in a business that he had little to no understanding of.

Another point to note is that people often tend to focus purely on the numbers and forget the qualitative aspects of a business. Investors arrive at valuation results without necessarily knowing the business internally and conducting a superficial comparison with peers that operate in the same industry.

I know this presents no concrete style or rule of thumb for picking a particular stock or an industry, but I suppose that is the entire point. There is no “one size fits all” rule except the one that says,

“Research is king!”