MOHNISH PABRAI 00:08
I think this is probably the first investment, the fund made. And it was in a company called 'Silicon Valley Bank.'
And you know, Silicon Valley Bank is an interesting bank. I think they're still around, I don't know someone bought them or not. But they're basically, headquarter in Silicon Valley and they are pretty well run bank.
What they would do is, they basically focus on venture-backed startups which mean they already have a bunch of money in the bank and so on. And then they focus on kind of conservative lending, usually asset-based lending and so on to these companies. What they also do was when they make the loans, they also take warrant from these private companies. In addition to what they were getting on the regular loan term.
So in like 1999, middle of 1999 when the fund started. You know, the dot-com boom was, you know, more and more fuel added to that fire and it was raging. And Silicon Valley Bank was sitting on this, very large number of, you know, you can say a basket of warrant, bunch of these dot com venture-backed startups.
But when I looked at the valuation of the bank was very modest. Which is small premium over book and so these – It wasn't a lot of disclosure on these warrant in the filings. But you knew that they would talk about little bit saying that these kind of basket of warrant. And you could look at the companies that they are doing business with.
And so my take was that, I actually believed at that time that the internet would be transformational. I just wasn't willing to pay a hundred times earnings for Pets.com.
(Laughter) And so my take was that, you know, if I bought stocks in the bank then, you know, I have downside protection because it's a sensibly run place. But its got moon shot built in if those warrant kind of come in and this madness kind of continue.
And I think in a very short period of time, we had a double on the stock. And other people starts to realise that these warrant have value and such, and then we exited. And so that wasn't a holding, we held for very long.
But the thesis was – Okay you know, we got this basket there which is giving us a kind of way, unknown upside without downside. And unknown upside without downside is a really good mental model.
In general, markets are very bad at pricing uncertainty properly. So there was no way for the equity market to properly price that unknown basket of warrants. I mean, you know, if they had done a disclosure which said okay, look here is the 200 companies that we had warrants on and here is the number of warrants and here is the strike price and all that. (Phone rang)
Then you could, you know, you could take 10 of them or 20 of them or something, and which were the most – where most of the value was. And [Inaudible] value to that which is probably the way it work, where probably a lot of the value were sitting in that few of the companies that they had.
So that model, mental model that was used to make that investment was completely different than the model I might have used, let's say to make the Nipsco investment. Right so they were different.
And – And so you know, you basically look at – You look at different situation and you can come up with kind of different perspective. You know like if you look at the 3G guys for example.
You know, the one Buffett's partner with. And you look at kind of what they have done at Burger King and at Ambev, and probably what they like to do with Kraft and now with this importance after acquisition. You know, these guys can squeeze blood out of a rock.
You know and so if someone were to make an investment in one of the things that they are into. You can probably assumed that, you know, whatever historic margins there were, they will probably figure out a way to get some more out of it.
And if the top line is stagnant or growing little with it [Inaudible]. So if you understood that about the manager then you could said okay, something that looked fully priced may not actually be fully priced, because you are not taking into account with the new manager of what he can do.
So those are different examples of model you can use.
ARVIND NAVARATNAM 05:34
That's very – And so Silicon Valley Bank, how did you stumble across that idea? How do one sweep for something like that or you can't really right? So what trigger your interest to take a look at that?
MOHNISH PABRAI 05:51
You know, I'm not sure exactly how it cross my radar. It may have– You know, it may have been on a list of – You know, some companies or something – Sometimes, you know they put up these business of – I'm not exactly sure how it came up on the radar.
But the thing is I was at the time – You know, I had made another investment in 1995 which is 5 years before the fund, on another dot com type stock which is called 'CMGI' and eventually it went burst, their office is in Massachusetts.
And CMGI had even a kind of investment in like 100+ internet companies. And when I originally invested in them, it was very modestly priced. It was priced at just a small premium to cash.
So again, it was like Silicon Valley Bank in the sense that they had all these different investments. But we weren't really paying a lot and this was in 1995 so it was many years before the market went crazy. And we made a 100x on CMGI so this is before the fund and such.
And so I – and I was lucky and I got most of it out before things crash and burn. But in hindsight that was a mistake because I should have sold at, you know, even at 5x I should have sold because at that point, it was already bubblest if you will.
But at that time, in 1999 I was looking to find a vehicle like that but I wanted to get more safety, I wanted the downside protected. And I think that's why Silicon Valley [Bank] came out on the radar and I looked at it in more detail.
You know, I kick the tires quite a bit on that because I was always concern about lending activities to these tech companies. because you know, how do you get your money out because they don't have much in tangible assets.
But on that front, what they did is they only stuck to venture-backed startups which is already pretty high quality. And then they make sure that they have enough protections on hard assets and such.
So I think that worked out pretty good. But I would love to find something like that now. Moon shot always good if you can get them with no downside.