Are you over optimistic about some venture you recently started because you think life only throws good things at you and nothing can go wrong? (I am totally in control types)
Are you just scared to think about negative outcomes because you believe that even thinking about adverse events can trigger them? (Fingers crossed types)
As humans, we come in all variety. Some of us have a mind that has too rosy projections for the future, some have too negative projections while others remaining in between these two categories with varying degrees of optimism and pessimism.
I think I keep oscillating between the two. What about You?
Whatever be the case. While making important decisions in your life it is always advisable to ask yourself this important question, “What Could Go Wrong“? By answering this question you essentially engage your mind in worst case scenario analysis (factoring in adverse outcomes).
By doing so you make your mind open to accepting adverse events. In case they do occur you will not react in anger, frustration, impulsiveness or blame others for the outcome. Rather you will handle the situation with equanimity, logic and intelligence.
Folks! Today’s article is about being pragmatic and factoring the worst case scenario for all important decisions that you make. Be it life, investing or enterpreneurship, one must learn to see things as they are or as they can turn out to be without being driven by emotional bias.
I will drive the point home with the help of an example from my investing experience. So stay tuned Folks and read how I invested in a company with a single client assuming nothing could go wrong. How the stock went from 167 to 800 Rs a share and how the grand finale unfolded?
There is also a thing that connects all two wheeler riders with worst case scenario analysis? Can you guess? Read till the end to find out.
First Things First. Why Should I Think About Worst Case Scenario
Smart people always take calculated risks and think of what could go wrong? They don’t bet the house on a gamble or any venture that has 50% chance of success. This thought process prepares them for any negative outcome.
By thinking of worst case scenarios, you lower your own expectations of fancy outcomes and you are adequately prepared for outcomes that you know can happen but assume will not happen.
I watched a movie called “Rounders” where actor, Matt Damon plays the role of Mike, a law student and a poker player. In the opening scene, Mike plays poker against a Russian mobster, called Teddy KGB. Mike thinking that he is too smart underestimates KGB. He bets his entire 30,000$ against KGB only to lose it in one shot.
I always make mental notes when I see a movie like this and here the note was pretty simple. Never bet all the money on one thing because things can go wrong. In the heat of the moment your brain may give you that adrenaline rush and make you feel like superman. It is in this defining moment, life decides the winner and the loser.
In order to be a winner, when you lose, you got to lose small. This ensures that you survive to live another day.
Let us now look at an example from my investing experience where I assumed nothing could go wrong and paid the price by losing a substantial part of profit. It was a gut wrenching thriller ride. Do read to find out what happened to my investment in the end.
Investing In A Company With 90% Sales From Single Client
In the year 2013, I invested in shares of a Kolkata based IT company in the business of digital payments. Company had developed the electronic payment infrastructure for VISA which is one of the biggest payment networks in the world. This Company generated 90% of their sales from “VISA”.
As an investor, I knew all along that this was a risky bet because if company lost VISA as their client it would start reporting losses.
At that time company was showing excellent growth in sales and profit. Have a look at the numbers yourself. Sales grew from 100 crores in 2008 to 318 crores in 2013 and profit increased from 1 crore in 2008 to 38 crores in 2013. The icing on top was that management did this without borrowing any money. So the Debt was 0. I love such companies that grow so fast without borrowing money.
Looking at such phenomenal growth, I ignored the single client risk and thought that such a thing can never happen. Doesn’t it happen with you too? We often know that worst case scenarios can play out but just chose to ignore them.
Our assumption that things cannot go wrong in life can be very costly because we have not prepared ourselves for a negative outcome.
There is a famous book called “One Up On Wall Street” written by a renowned mutual fund manager, Peter Lynch who worked for the Magellan Fund at Fidelity Investments. In this book, he advises against investing in companies earning big portion of their revenue from a single client.
I blatantly ignored this fact and continued to buy shares of the company from Jan 2013 to 30th Jan,2014 averaging around 167 Rs a share.
Stock On Steriods
As company continued to report excellent profits stock price caught the attention of big institutional investors like Reliance Wealth Management. The stock advisory firms who evaluate a stock and advise their clients to buy, hold or sell a stock started giving price targets of 430 to 500 for this company. Essentially this stock had become a superstar was now on steroids. Surpassing all expectations it hit a high of 800 Rs a share by 12 Sep, 2014 (quite a journey from 167 to 800 Rs).
I being a buy and hold investor kept holding the shares of the company dreaming of even bigger returns.
The Curious Case Of Single Client
Then one day on a public forum, someone mentioned that company was about to lose their international client but none believed him thinking it to be a case of rumor mongering.
I decided to check this but could not find any such news anywhere. Officially company had not come out with any such information. I decided to hold on to my shares but stock had started to decline.
In Nov 2014, there was an announcement by Visa, the company’s biggest client. It had decided to open a New Technology Centre in Bengaluru. The news article stated that Visa selected Bengaluru as it provides them access to world class talent from premier universities. That’s It. This was the clue for me. It did kind of confirm that after all Visa may part ways with this company as they were looking to hire in Bengaluru.
Emotional Bias & Exiting The Stock With A Heavy Heart
Meanwhile stock kept falling, trading at 500 by Dec, 2014. I was unable to sell the shares as I was still daydreaming that stock will rise again and also lamenting how I had lost 4-5 times the profit.
Then the stock fell again touching 350 by Mar 2015. At this time I had to take a call because if I exited now, I would still walk away with twice the money. I was finding it difficult to press the sell button as I was emotionally attached to my investment. Eventually, I summoned up the courage and exited at 352 Rs in order to protect the principal amount plus remaining profits.
Later it was confirmed that company lost their only client “Visa” and they have been reporting losses since 2017. You want to know where the stock trades today? At 18 Rs a share (adjusting for the stock split from face value of 10 to 5).
I thank God for having decided to sell that day. Since then I do not invest in companies with single client contributing substantial portion of revenue.
I also learnt the importance of worst case scenario analysis. From then on I always check if my expectations from any venture are too optimistic and if there can be a complete loss of capital if things go wrong.
A Thought For My Biker Friends
It is a common observation in small towns of India that two wheeler riders do not like to wear a helmet. They assume that nothing can go wrong with them. This assumption remains true until one day either you yourself experience an accident or become a witness to an accident. Therefore through this post I request all my readers to wear a helmet or take other precautionary measures for your own safety.
Now you see. Worst case scenario analysis has many practical applications. Use it to your advantage and be better prepared. It is a recipe for success. Embrace it.
I hope you enjoyed this article. If you have any such instance where you ignored the worst case scenario then you can share your experience with me through comments section below or you can get in touch with me through email. I will be more than happy to hear from you. Don’t forget to subscribe.
Disclaimer: Stocks mentioned in the post are only for tutorial purpose. Author does not recommend any stock. Please do your due diligence before investing.
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