Management Evaluation #1 - Shareholding Pattern Analysis

Nobody knows the company better than its owners Detailed analysis of shareholding pattern throws enough light on future business prospects. Purchasing a stock i nothing but to become a partial owner of the business. As a partial owner, you need to consider the other investors in that business.
Broadly shareholding pattern is divided among two groups -

1. Promoters and Promoter Group- Promoters are
   those who incorporated the company. They can be either domestic or foreign entity (or group of individuals). Relatives of promoters owning shares
   also come under promoter group.
2. Public Group- Shareholders other than promoters
   constitute Public shareholding pattern. FIIS, DIIS, banks, money managers, mutual funds, insurance companies, individuals, etc. come under this group.
   Companies or individuals other than the promoter group holding more than 1% of the total share capital needs to disclose their details. Let's have a look at the consequences of company's performance based on the actions of the shareholders. However, remember, shareholding pattern in isolation is not sufficient enough to take any investment decision.
   Promoters are the founders (or initial investors) of the company. Promoter holding is the total number of shares held by the promoters and the promoters group out of the outstanding shares of the company. SEBI recently introduced a regulation that the maximum percentage of promotors holding will be 75% of the total shareholding in indian listed companies. It means that public holding will
   comprise minimum 25%.
   Promoters increasing their stake -
   Consider yourself as the promoter of a listed company. Unless and until, you have high conviction on the future potential of your business, you won't purchase the stocks of your company from the open market. So, promoters increasing their stake via open market purchase carry the positive signal. During 2013, I had invested in a micro-cap stock, Fluidomat based on the similar theme. Throughout the year 2012, 2013 and 2014, promoters of the company were consistently increasing their stake via open market purchase, i.e. purchase from retail investors. The company manufactures fluid coupling that has wide application in the infrastructure sector. Being a small sized company, there was not enough information in the public domain. There were no management interviews; no conferences call; no public appearance of the promoter group. Further, not a single brokerage or research house touched the stock. Institutional shareholding was NIL. Investing in such unknown micro cap always carry a certain amount of risk because you can't have enough details to judge management credibility or whether they are cooking their books of account. However, I had invested just because of the single fact that the promoters were consistently increasing their stake over the last few years.
   Finally, my strategy paid off, within one year from me investment; the stock was showing 300%+ return! My average purchase rate was $55 and by October, 2014 stock or hovers around 220. As long as promoters will increase their stake, I don't have any intention to sell my holdings. Yes, it is risky to invest in unknown microcap stocks; however in this case the purchase pattern of promoters minimizes the risk by a huge percentage. It feels like, you are not the lone buyer of the stock, owners of the company are also purchasing just like you from the open market. So, just go ahead.
   Promoters may increase their stake due to various reasons, but whatever be the reason the result is always positive (98% cases) on its stock price. Let's have a look few of those reasons -
3. To utilize idle cash efficiently
4. To make the most from lower valuation
5. To acquire greater control of that company
   For retail investor, it is not mandatory to dig dipper on “Why Promoters are increasing their stake?” because whatever be the reason the result will be positive (most likely). It is difficult to find out the exact reason but if you can do this, it will boost your confidence.
   Promoters rarely increase their stake during bull market -
   It is very rare to notice that promoters increasing their stake during bull-market. Bear market offers ha investment opportunity. It is because most companies opt for acquisitions/buy-back during the economic slowdown Billionaire Industrialist Mukesh Ambani-led Reliance Industries bought back equity share worth around 3,900 crore through out entire 2012 while the stock price was me at near 5-years low. During the peak of 2007-08 hull-run, Reliance was quoted around $1500 level. Since
   stock price suffered a lot and gradually fall around a during 2012. Exactly half than that was 5 years ago and almost same time Mr. Ambani initiated buy-back. No wonder after such huge buy back the stock price appreciated around 70% over the next 2 years (2013-14). Mr. Ambani didn't hesitate to purchase his company while the stock was quoting near 5 years low. However many retail investors hesitate to purchase stocks during bear market! :. In 98% cases, increasing promoter holdings either results in appreciation or downside protection of stock price. However, there are exceptions. Promoters of Everonn Ltd increased their holding from 42% in September, 2011 to 55% in December, 2011 but the outcome was quite disappointing. Throughout the next year (2012), stock price crashed by more than 50%+
   If a promoter raises his stake, it is comprehended that he has high confidence in the business. In 98% cases, it appreciates the stock price or protects downside risk.
   Song "Increasing promoters holding boost confidence that results into price appreciation or downside
   protection.”
   Promoters decreasing their stake -
   • Promoters decreasing their stake can have either positive or negative effect on stock price. Forced selling by promoters can cause a major crash in stock price. I will discus "forced selling” in the latter part of this chapter. Prior to that let's have a look from different angle
   Lower stake of promoters means low confidence in the company i.e. the promoters are not optimistic about the future prospect. Who can forget the Satyam Computer scandal? Total shareholding of promoters and their group was only 10.70%, while the total public shareholding was 89.30% by the end of June 2008. It reduced to 2.70% and total public shareholding tolled to 97.30% by the end of 2008. Following this share price plunged by 77.7% on January 7, 2009. In this case, promoters knew that they had forged the accounts and with the exposure of the forgery, shares would experience plunging and it happened also. Try to avoid companies where promoters have small shareholdings or they are consistently reducing their stake by a huge percentage.
   But always don't intercept the offloading as the negative thing. The reason behind this is that even they have the right to enjoy the profit of their company. It is nothing bad in it if they sell some part of their stake after the company posted huge numbers on the board. Moreover, they came in the business to earn money, and they have been working for it since 10-15-20 or even 50 years!!! For an example, promoters of Page Industries are reducing their stake during the last 2-3 years; still the stock price was appreciated by more than 200% during the last 2-3 years. One of my investment, Atul auto is another example. During November, 2013 promoters Auto is another example. During November, 2012 reduced their stake. Initially, I was worried; however
   one of the promoters sold his partial
   analysis revealed that one of the promoters s holding to an institutional investor. Initial er institutional investor is the first sign of good investor. Initial entry of big institutional investor is the first sign of good times. I had increased my stake based on the entry. The result pays off. Within next one year, the stock generated 150%+ return!
   so you need to dig deeper whenever promoters are reducing their stake. It may have a negative or positive effect. Don't take the final decision based on the numbers. You need to find out the real picture behind the numbers
   Institutional investors
   money managers, mutual funds
   Institutional investors include the pension funds,
   vers, mutual funds, insurance companies, investment banks and commercial trusts. They buy large quantities of shares leaving a high impact on the stock market's movements. They are considered knowledgeable and experienced. Hence, their footprints are followed by small investors.
   Institutional investors are of two types; FII (Foreign Institutional Investors) and DII (Domestic Institutional Investors)
   Effects of Foreign Institutional Investors (FII)
   Foreign Institutional Investors are considered as the darlings of the company. They are the drivers of the market. They are considered as smart people investing their smart
   money.
   Higher FIIs stake is interpreted as positive, and a lower FII stake means low confidence of FIIs in the company. If FIIs increase their stake, it is considered positive as they invest funds only when they are optimistic and confident about the future of the company.

Just like promoters, If FIls sell their shares then it not mean that the company is fundamentally weak, Th. selling may be due to the economic or political changes problems in their home country or it's just that they won enjoy their profit. Whatever be the reason, if they offload huge quantities then a huge fall in stock price is witnessed

Key of multibagger return
The key of successful investing is to identify a stock that can become favorite among FIIs in near future. In such case stock price multiplied by 3-4 times or more within 1-2 years For example, I had invested in Ajanta Pharma around $100 (split adjusted price) during December, 2012. Back then. the stock was not covered under big brokerage house. The company didn't get enough attention from institutional investors. Slowly, with improved fundamentals, strong financial numbers and better future outlook, the company attracted institutional investors. Since December, 2012 to March, 2014 FII increased their stake to 3.81%, resulting an increase of around 184% on FII holdings. No, wonder, since then, stock price generated around 500%+ return (more than 6 times return) within 2 years. So, you can create wonder if you can invest in a stock before it attracts heavy investment from FIIs (or institutional investors).
Effects of Domestic Institutional Investors (DII)
Domestic institutional investors are those institutional investors that take on investment in the same country they are settled in.
Institutions or organizations such as banks, insurance companies, mutual fund houses, etc. of a country
comprise DII.
like said earlier money managers are knowledgeable and experienced who keep an eye on every activity of the stocks. in they choose the company based on minute analysis and
foul observations. Hence, if Dlls invest in any company. it is considered as a good sign.
Buying and selling huge blocks of share cause fluctuations in the share price. Many times offloading is done due to various reasons like pressure by their clients, political uncertainty, economic constraints, etc.
Combining FIIs with DIIS -
To get a better picture, you need to combine the purchase pattern of FIls and DIIs. In short you need to follow the combined portion of institutional activities. Increased holding in this space results in an appreciation of stock price and vice-versa. However, don't sell your stake just because any institutional holders are selling. Apart from company fundamentals they can sell due to their personal needs.
"Increasing institutional holdings is followed by sharp run-up in stock price.
Effects of Individual Investors Individuals like us are many in numbers even lakhs and crores forming a part of the shareholding pattern. But stock prices don't get affected by our transactions as shares owned by us is very small when compared on the whole. You need to be careful if you find a stock where individual shareholding is increasing while decreasing promoters/institutional shareholding. It may be an early sign of trouble. Individuals have the least amount of knowledge and mostly carried with emotions. On the other side, institutional investors are the most knowledgeable (after the Promoters). So, you should be cautious if increasing individual shareholdings is because of a significant decrease in institutional holdings.

Source : Prasenjit Paul Book - How to Avoid Loss and earn Consistently in the Stock Market