ETMarkets PMS Talk | 20 months of consolidation has created compelling small-cap opportunities: Equitree’s Pawan Bharaddia

After nearly 20 months of consolidation driven by stretched valuations and geopolitical uncertainties, the small-cap universe is once again throwing up attractive investment opportunities, says Pawan Bharaddia, Co-Founder & Chief Investment Officer at Equitree Capital.

In an interaction with Kshitij Anand of ETMarkets, Bharaddia explains why his firm continues to follow a private equity-style investing approach in public markets, highlights themes such as import substitution, manufacturing, infrastructure ancillaries and consumption, and shares why disciplined stock selection—not macro calls—remains the key to long-term wealth creation. Edited Excerpts –

Kshitij Anand: Well, I wanted to understand if you could just take us through the performance of the Emerging Opportunities Fund and its latest performance.

Pawan Bharaddia: In terms of our performance over the last five years, we have compounded at about 21%. If I look at it from the bottom of COVID in 2020, which is a six-year period, we have compounded at close to 40%.

The last two years have obviously been a little difficult for the small-cap genre. So, if I look at our returns over the past two years, they have been largely flattish, which, to us, has been a decent achievement because the universe in which we invest—companies with market capitalisations between ₹1,000 crore and ₹5,000 crore—remains down by close to 30% during this period. So, compared to that, we have done reasonably well.

Kshitij Anand: The unique thing about your PMS is that it follows a private equity mindset in public markets. Can you explain what that means in practice and how it differentiates your strategy from traditional small-cap investing?

Pawan Bharaddia: If you look at traditional small-cap investing, it is largely catered to retail investors or the HNI category. The perception is that there are quick returns to be made, so greed is often what drives investment decisions.


Where we try to differentiate ourselves—and that is where the private equity approach comes in—is by adopting the mindset of a growth private equity investor.

A growth private equity fund identifies a business ahead of time, provides it with growth capital, and then stays invested throughout its growth journey, which could span five to seven years, during which the business itself compounds at 20–25%.

Eventually, it looks to unlock value either through an M&A transaction or an IPO.

That is exactly what we try to do in the listed market space.

The key difference is that most of our companies do not need growth capital, which is actually a great thing from our perspective because these businesses generate significant internal cash flows and do not require external funding for growth.

We typically look to buy 3% to 5% stake in these companies, making us meaningful minority investors, and then stay invested throughout their growth phase.

The longer the growth continues, the better off we are. Our strategy is completely focused on long-term wealth creation rather than chasing momentum or frequently churning the portfolio.

Like a private equity fund, we also remain reasonably active investors. When I say that, I mean these are all listed companies, so their management teams are accessible and regularly conduct investor calls.

Where we try to play a role is by providing them with an outside perspective on what we are observing in the broader marketplace.

Sometimes, we also play a catalyst role in critical areas such as succession planning and team building, while generally engaging in conversations around long-term strategy and execution.

Along the way, two factors remain critical—people and working capital management. That is where we try to engage with the promoters and see where we can add value. So, that is what the whole private equity approach is about.

It is not about looking at a business, making a quick gain, and exiting. Rather, it is about contributing whatever softer value we can and staying invested throughout the entire growth phase.

Kshitij Anand: In fact, the strategy runs on a concentrated portfolio of around 12 to 15 stocks. How do you balance conviction with concentration risk, especially during periods of heightened market volatility?

Pawan Bharaddia: From a sectoral perspective, we generally do not like to allocate more than 25% to a single sector, and that helps us address concentration risk by avoiding excessive exposure to any one area.

Secondly, and more importantly, we only invest in businesses where we have some form of management connect or have tracked the business for at least five to seven years before making an investment.

In fact, most of the businesses we invest in have been in existence for at least two decades, which provides us with a sufficient track record to conduct thorough business due diligence and reference checks on the promoters before investing.

That conviction then allows us to maintain a reasonably concentrated portfolio. More often than not, we also conduct shop floor visits.

Those visits, along with conversations with the middle management team, help us assess the execution capabilities of the promoters, which in turn builds our conviction to hold these businesses for an extremely long period.

Kshitij Anand: In fact, you target companies with a PEG ratio below one and a five-year investment horizon. In today's market, where are you finding such valuation opportunities?

Pawan Bharaddia: There are enough and more such opportunities. Of course, it takes a little extra effort to go deep into the business and understand where the growth is going to come from, but I can tell you that there are plenty of opportunities.

Our portfolio, for instance, currently trades at about a 0.5 PEG ratio, which looks very attractive to us given the kind of growth we are seeing. Valuations stand at close to 14x based on FY27 numbers, which is again at about a 20% discount to the long-term 10-year average. So, these kinds of opportunities do exist.

Of course, it is not that every company trading at a low P/E multiple is a great investment opportunity—that is never the case.

That is where one really needs to spend time understanding the business, the management, and the visibility of growth. Valuation then becomes the last piece of the puzzle.

Kshitij Anand: Let me also understand this from you. With over 14% cash in the portfolio, are you positioning defensively, or are you waiting for better deployment opportunities? Which sectors are currently on your radar?

Pawan Bharaddia: Well, with these kinds of valuations, one obviously gets tempted to deploy the entire cash upfront. But what history has taught us, and what we have learned over the last 13 years at Equitree, is that it does not help to be overexuberant.

This genre, which is small-cap investing, invariably remains very erratic, and we are still in the midst of a heightened geopolitical situation. Hopefully, we will see a resolution sooner rather than later.

But during such phases, it does not really help to be overexuberant, even when valuations are compelling, because you never know. What you are buying today could very well be available at 5% lower tomorrow, and that is where we remain a little cautious.

The 14% cash figure that you see is also changing, as we have been deploying capital consistently. It has two components. One is the continuous inflow of money that we have been receiving.

On a monthly basis, our inflows are close to ₹60–70 crore, even in these markets, and that to some extent explains the higher cash balance that we are holding.

If I go back to investors who came in a year ago, their cash allocation would probably be around 6–7%. So, for those investors, we are almost fully deployed.

This anomaly is more a result of the continuous cash inflows we are receiving, which should get corrected over the next couple of months.

Kshitij Anand: What structural themes make these sectors attractive over the next three to five years? Are there any specific sectors that you are betting on?

Pawan Bharaddia: At a macro level, there are three to four themes that we are trying to play. One is import substitution, which is a very large opportunity that we are focused on, and this spans multiple segments. It could be fertilisers, oil and gas, chemicals, or automobiles.

The second big theme is Indian manufacturing, which is gearing up and finding its place in the global supply chain. That paradigm is changing very dramatically.

A lot of these smaller companies are now going out and acquiring European and American front-end businesses, which is placing them firmly on the global landscape.

Again, that presents a blue-sky opportunity because they are gaining market share from Asian competitors and others, despite not having had a presence there earlier.

The third theme is infrastructure ancillaries. India is still a developing nation, and we will continue to see significant spending on infrastructure, whether it is railways, ports, or other infrastructure segments. It is the ancillary businesses within this ecosystem where we are completely focused.

The fourth basket remains consumption. With a population of 140 crore and an increasingly aspirational consumer base, consumption will continue to be a mega theme.

So, these are the four broad themes that we are looking at. Within them, our focus remains on old-economy businesses. We like buying manufacturing and engineering companies, infrastructure ancillaries, as I mentioned, and consumption plays.

Kshitij Anand: Now that we have you with us, we would also love to get your broader view on the markets. What is your take on current valuations?

Pawan Bharaddia: From a broader market perspective, we have had almost 20 months of consolidation, which started in October 2024. It initially began due to valuation concerns and then extended because of geopolitical and other issues. But 20 months is a long period of consolidation.

We have witnessed both time correction and price correction, leading to a situation where businesses today are looking fairly robust. Of course, there are pockets of the market where valuations still appear to be on the higher side, but there are plenty of opportunities available, particularly in the small-cap space, where valuations are now looking attractive.

That is where we are completely focused. We are quite happy not only to increase our exposure to our existing businesses but have also been actively evaluating new opportunities. We hope to add a couple of businesses to the portfolio going forward.

Kshitij Anand: How do you decide when to exit a winning investment? You did point out that a lot of the companies in your portfolio are over two decades old. So, is the decision purely valuation-driven, or do changes in business fundamentals take precedence?

Pawan Bharaddia: We are still learning the best time to do this. But having said that, we try to stick to our discipline of exiting when we see the PEG ratio crossing 2.

Particularly in the small-cap space, it is very easy to see valuations go through the roof or move well ahead of the underlying fundamentals, only to eventually revert to the mean. To protect profits and preserve wealth from an investment perspective, it is important to maintain that discipline.

There have been instances where selling at a PEG ratio below 2 cost us in hindsight because we probably could have waited for it to reach a PEG of 3 or even 4. But those are perhaps two out of ten cases.

In nearly 80% of the situations, our experience has been that sticking to the discipline has actually helped us protect profits. So, we continue to follow that approach.

Kshitij Anand: Looking ahead to the next five years, do you expect stock selection to matter more than sector allocation, or do you believe macro themes will drive returns?

Pawan Bharaddia: We have always been ground-up stock pickers, and to us, that remains the best way to create wealth. When you invest from the bottom up, you have far greater control not just over the growth prospects but, more importantly, over understanding how these businesses behave and conduct themselves during challenging times.

When you play macro themes, you become vulnerable to volatility in the broader environment, like what we witnessed last year. That often leads investors to churn their portfolios.

More often than not, once those phases pass, you realise that what you originally held was probably a better investment than what you switched into.

So, from that perspective, ground-up investing has always remained much closer to our philosophy than investing based primarily on macro themes.

(Disclaimer: Recommendations, suggestions, views, and opinions given by experts are their own. These do not represent the views of the Economic Times)