An investor should not do away with a good decision-making process just because it gave a bad outcome, and should not take pride in a bad process because it gave a good outcome, according to Sanjay Bakshi.
Good decision-making processes can produce a bad outcome and a bad process can produce a good one, he told Safir Anand. Anand was interviewing him for a soon-to-be-published book titled Confessions of Stock Market Wizards.
According to Bakshi, investors should not be tied to the outcome but must pay more attention to the decision-making process.
Bakshi explained this with two experiences he had with two stocks.
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In the first, he used a good decision-making process to pick VGI Products and exit from it; except the stock price multiplied several times over after his exit. Despite this bad outcome, Bakshi did not believe it was a mistake. According to him, "bad luck is inevitable, and the quality of decision is dependent on the process used to make it with the information available at the time".
He reasoned that he had entered the stock when had a significant cost advantage, earned exceptional returns on invested capital, had excellent operating cash flows and a rapidly growing business that had negligible debt. When he exited, the business was being besieged by a competitor who was being encouraged by its investors to capture market share with aggressive discounts and other freebies. Bakshi could have waited for the irrational behaviour of the competitor to discontinue, instead he asked himself the question: "Given what I now know about the situation, would I want to buy this stock?" The answer was a resounding no and therefore he sold.
In the second, he had made a huge profit from selling Symphony Ltd. It was a great outcome, but Bakshi knew that it was reached through a "flawed" decision making process. At the time of the investment, he had not paid close attention to entry barriers.
When he made his investment, the company looked great, with various pluses such as highest ROE-listed business in the country at the time, asset light business model and low P/E multiple. But Bakshi remains conscious to the fact that he ignored the fact that there are many businesses that earn extraordinary margins and returns on capital for reasons that won't last.
As Anand writes, "Ultimately, competition will enter and destroy the extraordinary profitability. It's faulty to ignore this and to focus on short-term profitability, blindly extrapolating it into the future--the mistake he admits he made".
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