The Dhandho Investor: The Low-Risk Value Method to High Returns

by Mohnish Pabrai

How did this small, impoverished ethnic group come out of nowhere and end up controlling such vast resources? There is a one word explanation: Dhandho.

Dhandho (pronounced dhun-doe) is a Gujarati word. Dhan comes from the Sanskrit root word Dhana meaning wealth. Dhan-dho, literally translated, means “endeavors that create wealth.” The street translation of Dhandho is simply “business.” What is business if not an endeavor to create wealth?

Dhandho is all about the minimization of risk while maximizing the reward.

Dhandho is thus best described as endeavors that create wealth while taking virtually no risk.

Dhandho is how the Patels have exponentially compounded their net worths over the past 30-odd years.

He worked hard, saved all he could, and then bet it all on a single no-brainer bet.

“Heads, I win; tails, I don’t lose much!”

Let’s delve into the birth of Virgin Atlantic and learn how to start pretty much any business with minimal capital and virtually no risk—this is Dhandho on steroids.

My take on Virgin Atlantic is simply this: if you can start a business that requires a $200 million 747 jumbo jet and a boatload of employees in a tightly regulated industry for virtually no capital, then virtually any business that you want to start can be gotten off the ground with minimal capital. All you need to do is replace capital with creative thinking and solutions.

the Mexican government handed him the keys to the Sibalsa Mill for $220 million in 1992. It had cost the Mexicans over $2 billion to build the plant. Getting dollar bills at 10 cents—or less—is Dhandho on steroids. Mittal’s approach has always been to get a dollar’s worth of assets for far less than a dollar.

Recently, I had dinner with a good Marwari friend of mine, and I asked him how the stereotypical Marwari approaches investing capital in a venture? He said, quite nonchalantly, that Marwari businesspeople, even with only a fifth-grade education, simply expect all their invested capital to be returned in the form of dividends in no more than three years. They expect that, after having gotten their money back, their principal investment continues to be worth at least what they invested in it. They expect these to be ultra low-risk bets. Now, folks, this is really good stuff—they don’t teach this at the Harvard Business School. If you simply used this Marwari formula before making any investments, let me assure you of two things: 1. You’d take a quick pass on most investments offered to you; and 2. Starting with very little capital, after a few decades you’ll be very wealthy.

1. FOCUS ON BUYING AN EXISTING BUSINESS.

an existing business with a well-defined business model and one with a long history of operations that he could analyze. This is waaaaaaaay less risky than doing a startup.

2. BUY SIMPLE BUSINESSES IN INDUSTRIES WITH AN ULTRA-SLOW RATE OF CHANGE.

We see change as the enemy of investments ... so we look for the absence of change. We don’t like to lose money. Capitalism is pretty brutal. We look for mundane products that everyone needs.1 —Warren Buffett

3. BUY DISTRESSED BUSINESSES IN DISTRESSED INDUSTRIES.

Never count on making a good sale. Have the purchase price be so attractive that even a mediocre sale gives good results.2 —Warren Buffett

While lecturing a group of students at Columbia University, at age 21, Buffett stated: I will tell you how to become rich. Close the doors. Be fearful when others are greedy. Be greedy when others are fearful.4 —Warren Buffett

they intrinsically understand that the very best time to buy a business is when its near-term future prospects are murky and the business is hated and unloved.

In such circumstances, the odds are high that an investor can pick up assets at steep discounts to their underlying value.

4. BUY BUSINESSES WITH A DURABLE COMPETITIVE ADVANTAGE—THE MOAT.

The key to investing is not assessing how much an industry is going to affect society, or how much it will grow, but rather determining the competitive advantage of any given company and, above all, the durability of that advantage. The products and services that have wide, sustainable moats around them are the ones that deliver rewards to investors.5 —Warren Buffett

I don’t want an easy business for competitors. I want a business with a moat around it. I want a very valuable castle in the middle and then I want the duke who is in charge of that castle to be very honest and hardworking and able. Then I want a moat around that castle. The moat can be various things: The moat around our auto insurance business, GEICO, is low cost.6 —Warren Buffett

5. BET HEAVILY WHEN THE ODDS ARE OVERWHELMINGLY IN YOUR FAVOR.

Even when he loses both bets, since he did not have much to start with, his losses are pretty minimal. Societal safety nets help him get back on his feet.

But when he wins—and

he gets over 20 times his money back. It’s classic “Heads, I win; tail...

To us, investing is the equivalent of going out and betting against the pari-mutuel system. We look for the horse with one chance in two of winning which pays you three to one. You’re looking for a mispriced gamble. That’s what investing is. And you have to know enough to know whether the gamble is mispriced. That’s value investing.7 —Charlie Munger

To be a consistent winner at the race track, a person has to overcome the staggering 17 percent frictional cost of placing a bet. According to Munger, there are actually a few people who are able to make a living by betting at the race track after paying the full 17 percent.8 These folks watch all the horses and races, yet place no bets. Then, when they encounter widely misplaced odds (in their favor) on a horse about which they know a great deal, they bet heavily on that one horse in that one race. After that, they go back to watching the horses and races indefinitely with no bets placed until another good opportunity shows up.

6. FOCUS ON ARBITRAGE.

Arbitrage is classically defined as an attempt to profit by exploiting price differences in identical or similar financial instruments.

7. BUY BUSINESSES AT BIG DISCOUNTS TO THEIR UNDERLYING INTRINSIC VALUE.

If you buy an asset at a steep discount to its underlying value, even if the future unfolds worse than expected, the odds of a permanent loss of capital are low.

. . . the function of the margin of safety is, in essence, that of rendering unnecessary an accurate estimate of the future.11 —Benjamin Graham

8. LOOK FOR LOW-RISK, HIGH-UNCERTAINTY BUSINESSES.

Low risk and high uncertainty is a wonderful combination. It leads to severely depressed prices for businesses—especially

The high uncertainty can be dealt with by conservatively handicapping the range of possible outcomes.

9. IT’S BETTER TO BE A COPYCAT THAN AN INNOVATOR.

Innovation is a crapshoot, but lifting and scaling carries far lower risk and decent to great rewards.

And that’s the Dhandho framework. To summarize: • Invest in existing businesses. • Invest in simple businesses. • Invest in distressed businesses in distressed industries. • Invest in businesses with durable moats. • Few bets, big bets, and infrequent bets. • Fixate on arbitrage. • Margin of safety—always. • Invest in low-risk, high-uncertainty businesses. • Invest in the copycats rather than the innovators.

it is pretty clear that stocks do better than virtually all other easily accessible asset classes. The evidence overwhelmingly suggests that, over the long haul, the best place to invest assets is in common stocks.

A far better way, suggested by Benjamin Graham, is to think of them as an ownership stake in an existing business.

1. When you buy an entire business, like Papa Patel did, there is some serious heavy lifting required.

2. When you buy a stock,

the business is already staffed and running.

3. When humans buy or sell whole businesses, both sides have a good sense of what the asset is worth and a rational price is usually arrived at.

if the business or industry is distressed, buyers might get a bargain like Papa Patel did, but those are anomalies.

prices are determined by an auction process.

the auction process occasionally leads to a wide divergence between the value of a business and its quoted market price in a few stocks.

4. Buying an entire business—even