Patel Motel Dhandho

1

Chapter 1

Patel Motel Dhandho

Asian Indians make up about 1 percent of the population

of the United States-about three million people. Of

these three million, a relatively small subsection is from the

Indian state of Gujarat-the birthplace of Mahatma Gandhi.

And a very small subsection of Gujaratis, the Patels, are

from a tiny area in Southern Gujarat. Less than one in five

hundred Americans is a Patel. It is thus amazing that over

half of all the motels in the entire country are owned and operated

by Patels. What is even more stunning is that there

were virtually no Patels in the United States just 35 years

ago. They started arriving as refugees in the early 1970s

without much in the way of education or capital. Their heavily

accented, broken-English speaking skills didn't improve

their prospects either. From that severely handicapped beginning,

with all the odds stacked against them, the Patels

triumphed. Patels, as a group, today own over $40 billion in

motel assets in the United States, pay over $725 million a

year in taxes, and employ nearly a million people. 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.

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2 The Dhandho Investor

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?

However, if we examine the low-risk, high-return approach

to business taken by the Patels, Dhandho takes on a

much narrower meaning. We have all been taught that earning

high rates of return requires taking on greater risks.

Dhandho flips this concept around. Dhandho is all about

the minimization of risk while maximizing the reward. The

stereotypical Patel naturally approaches all business endeavors

with this deeply ingrained riskless Dhandho framework-

for him it's like breathing. Dhandho is thus best

described as endeavors that create wealth while taking virtually

no risk.

Not only should every entrepreneur seek to learn from

the Patel Dhandho framework, but also the primary audience

for this tome-investors and allocators of capital.

Dhandho is capital allocation at its very finest. If an investor

can make virtually risk-free bets with outsized rewards,

and keep making the bets over and over, the results are

stunning. Dhandho is how the Patels have exponentially

compounded their net worths over the past 30-odd years.

I'm getting ahead of myself. Sit back, relax, grab a cool

one, andmellowout. You're about to begin a remarkable journey-

one that I hope is as rewarding and profitable for you as

it has been forme and generations of Patel businessmen.

Gujarat lies along the Arabian Sea with a large, desirable

coastline and several natural harbors. The Tropic of Cancer

cuts right through the state. Over the centuries, it has always

been an ideal location for trade with neighboring

Asian and African countries-it has served as a melting pot

of many different cultures over its rich history. The Parsis,

Patel Motel Dhandho 3

fleeing religious persecution in Iran, landed in Gujarat as

refugees in the twelfth century and were warmly received.

Similarly, the Ismailis arrived in the first half of the nineteenth

century from Iran. For several centuries, Gujaratis

were very used to traveling to, and trading with, their Asian

and African neighbors.

Patels originally were known as patidars-loosely translated

as landlords. Most villages in Gujarat had a patidar appointed

by the ruler who was responsible for collecting land

taxes, providing security, and running a streamlined farming

operation. In medieval times, these patidars were chosen

on the basis of their savvy management and farming

skills. Patels usually had large families, and as the land was

subdivided into smaller and smaller fragments for each son,

farming became a tough way to make a buck. In the late

nineteenth and early twentieth centuries, Ismailis and Patels

from Gujarat migrated in significant numbers to countries

like Uganda in East Africa. They went as traders or as

indentured laborers to help build the railroads.

The Patels and the Ismailis have been a very entrepreneurial

community for centuries, and, over the ensuing

decades (with their soon-to-be-revealed Dhandho techniques),

they came to control a large proportion of the businesses

in Uganda. General Idi Amin came to power in

Uganda as a dictator in 1972. He declared that "Africa was

for Africans" and that non-Africans had to leave. Amin

wasn't a big fan of the Patels who controlled most of his

economy. The fact that most of these "non-Africans" like the

Patels and the Ismailis were born in Uganda, had been there

for generations, had no other home, and had all their businesses

and property in Uganda meant nothing to Amin. For

him, it was simple: Africa was for Africans.

Amin revoked the residency permits of all Asians regardless

of whether they had any natural homeland to return

to. The Ugandan state seized all their businesses and

4 The Dhandho Investor

nationalized them-with no compensation to the owners. A

total of 70,000 Gujaratis were thus stripped of virtually all

their assets and thrown out of the country toward the end

of 1972.

The world had several hot spots in 1972 and 1973 that

had a significant impact on the future destiny of these orphaned

Patels. With the recent formation of Bangladesh in

1971 and the war with Pakistan over its independence,

India was already reeling from a very severe refugee crisis.

Millions of impoverished Bangladeshi refugees had poured

into India. As a result, the Indian government refused to

recognize the Indian-origin population being expelled from

Uganda as having any right to enter India.

Amin's Patel expulsion also coincided with the tail end

of the Vietnam War and the United States was dealing

with a large influx of Vietnamese refugees at the time.

President Nixon and Secretary of State Kissinger were

well briefed on the Ugandan situation and were sympathetic

to the plight of the Patels, but were limited in the

number of Indian-origin refugees they could accept. Being

"members of the Commonwealth," the vast majority of the

Patels and Ismailis were allowed to settle in England and

Canada. A few thousand families were also accepted by

the United States as refugees.

The first few Patels who arrived in the United States

went into the motel business. The thousands that arrived

later followed the lead of the pioneers and also became

motel operators. Why motels? And why did virtually all of

them go into the same industry?

If we examine the history of ethnic groups migrating to

alien lands, we notice a pattern: In Chicago, many of the

early Irish immigrants became police officers while most

housemaids were Polish. In New York City, Koreans dominate

the deli and grocery business, Chinese run many of the

Patel Motel Dhandho 5

city's laundries, and Sikhs and Pakistanis drive most of the

cabs. It's a bizarre sight, but most of the rental car staff at

California's San Jose International Airport consists of older

Sikhs-turbans and all. There is a large population of Eastern

European cab drivers in Vegas, and most of the prostitutes

in Dubai are of Eastern European or Russian origin.

The reason we end up with concentrations of ethnic

groups in certain professions is because role models play a

huge role in how humans pick their vocations. If someone

looks like me, has had a similar upbringing, belongs to the

same religious order, has attended a similar school, and is

making a good living, it naturally has a huge impact when

I'm trying to decide my calling in life. Tall inner-city

African-American kids routinely see tall African-American

males playing for the NBA and leading very enviable lives.

They are also aware that the childhood of these NBA stars,

in many cases, is pretty similar to their own present circumstance.

It serves as a huge motivator to sharpen their basketball

playing skills.

That still begs the question: Why did the first wave of

Patels who entered the United States go into the motel business?

Why not delis, Laundromats, or drug stores? Why

motels? And why not just find a job? Part of the answer lies

in another demographic shift that was underway in the

early 1970s in the United States. After World War II, there

was a huge buildout of suburbia and the interstate highway

system. The automobile had become a middle-class staple,

and American family-owned motels popped up all along

the newly built interstates. The 1973 Arab oil embargo and

misguided American economic policies (price and wage

controls) led to a deep recession across the country.

Motels are heavily dependent on discretionary spending.

The recession, coupled with rationed and sky-high

gas prices, led to huge drops in occupancy. Many small,

6 The Dhandho Investor

nondescript motels were foreclosed by banks or went on

sale at distressed prices. At the same time, the kids of these

old motel-owner families were coming of age and saw

plenty of opportunity outside of the motel business and

left in droves to seek their fortune elsewhere.

PAPA PATEL

It is 1973. Papa Patel has been kicked out of Kampala,

Uganda, and has landed as a refugee in Anywheretown,

USA, with his wife and three teenage kids. He has had

about two months to plan his exit and has converted as

much of his assets as he could into gold and other currencies

and has smuggled it out of the country. It isn't much-a

few thousand dollars. With a family to feed, he is quickly

trying to become oriented to his alien surroundings. He figures

out that the best he can do with his strange accent and

broken-English speaking skills will be a job bagging groceries

at minimum wage.

Papa Patel sees this small 20-room motel on sale at what

appears to be a very cheap price and starts thinking. If he

buys it, the motivated seller or a bank will likely finance 80

percent to 90 percent of the purchase price. His family can

live there as well, and their rent will go to zero. His cash requirement

to buy the place is a few thousand dollars. Between

himself and his close relatives, he raises about $5,000

in cash and buys the motel. A neighborhood bank and the

seller agree to carry notes with the collateral being a lien on

the motel. As one of the first Patels in the United States,

Dahyabhai Patel succinctly put it, "It required only a small

investment and it solved my accommodation problem because

[my family and] I could live and work there."1

Papa Patel figures the family can live in a couple of

rooms, so they have no rent or mortgage to pay and minimal

Patel Motel Dhandho 7

need for a car. Even the smallest motel needs a 24-hour front

desk and someone to clean the rooms and do the laundry-

at least four people working eight hours each. Papa Patel

lets all the hired help go. Mama and Papa Patel work long

hours on the various motel chores, and the kids help out

during the evenings, weekends, and holidays. Dahyabhai

Patel, reflecting on the modus operandi during the early

days, said, "I was my own front-desk clerk, my own carpenter,

my own plumber, maid, electrician, washerman, and

what not."2 With no hired help and a very tight rein on expenses,

Papa Patel's motel has the lowest operating cost of

any motel in the vicinity. He can offer the lowest nightly

rate and still maintain the same (or higher) profitability per

room than his predecessor and competitors. As a result, he

has higher occupancy and is making super-normal profits.

His competitors start seeing occupancy drop off and experience

severe pressure on rates. Their cost structures prohibit

them from matching the rates offered by the Patel Motel-

leading to a spiraling reduction in occupancy and profits.

The stereotypical Patel is a vegetarian and leads a very

simple life. Most restaurants in the United States in the

1970s don't serve vegetarian meals, so eating at home is all

the more attractive-and much cheaper for Patel families.

They are busy with the motel day and night, so they have

little time for recreational activities. As a result, the total

living expenses for this family are abysmally low. With a

single beater car, no home mortgage, rent, or utilities, and

zero commute, eating out, or spending on vacations or entertainment

of any type, Papa Patel's family lives quite comfortably

on well under $5,000 per year.

Prices are far lower in the 1970s-the minimum wage is

just $1.60. The best Papa and Mama Patel could hope for is

total annual earnings of about $6,000 per year if they both

take up jobs and work full-time. If they buy a 20-room motel

8 The Dhandho Investor

at a distressed price of $50,000 with about $5,000 in cash and

the rest financed, even at rates of $12 to $13 per day and 50

percent to 60 percent average occupancy, the motel will generate

about $50,000 in annual revenue.

In the early 1970s, with treasuries yielding about 5 percent,

an owner or most banks will be delighted to finance

the motel purchase at a 10 percent to 12 percent interest rate

with a lien on the property. Mr. Patel has annual interest expenses

of about $5,000, principal payments of $5,000, and

another $5,000 to $10,000 in out-of-pocket expenses for

motel supplies, maintenance, and utilities. Total expenses

are thus under $20,000. Even if the family spends another

$5,000 a year for living expenses (a grand sum in 1970), Papa

Patel nets over $15,000 a year after all taxes and all living expenses.

If he had borrowed the $5,000 from a fellow Patel, he

has it fully repaid in four months. He could even elect to

pay off the mortgage on the motel in just three years.

The annual return on that $5,000 of invested capital is a

stunning 400 percent ($20,000 in annual returns from the

investment-$15,000 in cash flow and $5,000 in principal repayment).

If he borrows the $5,000 from a fellow Patel, the

return on invested capital is infinite: zero dollars in and

$20,000 a year out. That's all fine and dandy you might say,

but what if the business does not work out? What if it fails?

For this first motel purchase, Papa Patel not only has to

give a lien on the property, but most likely also a personal

guarantee to the lender as well. However, Papa Patel has

only $5,000 (or less) to his name, so the personal guarantee

is meaningless. If he is unable to make the payments, the

bank can take over the property, but he has virtually no assets

outside of the motel. The bank has no interest in taking

over the motel and running it-it has no such competency.

It will be very hard for the bank to sell a money-losing motel

and cover their note.

Patel Motel Dhandho 9

It is very simple: If a Patel cannot make the motel run

profitably, no one can. The bank's best option is to work

with Papa Patel to make the motel profitable, so the bank is

likely to renegotiate terms and try to help Papa Patel get

back on track. They might defer principal and interest payments

for a few months until conditions improve. And they

might raise the interest rate to offset the pain they are enduring.

It is net, net: Papa Patel still runs the motel; the family

still lives there; and he works as hard and as smart as he

can to make it-he has no choice. It's make it work or go

bust and homeless.

Remember, this is an existing business with a very stable

business model and a long history of cash flow and profitability.

It is not rocket science. It is a simple business

where the low-cost provider has an unassailable competitive

advantage, and no one can run it any cheaper than Papa

Patel. The motel business ebbs and flows with the economy.

Eventually, conditions are likely to become better, the bank

is made current on payments, and everyone is happy-most

of all Papa Patel.

Let's look at this investment as a bet. There are three

possible outcomes.

First, the $5,000 investment yields an annualized rate of

return of 400 percent. Let's assume this continues for just 10

years and the business is sold for the same price as it was

bought ($50,000). This is like a bond that pays 300 percent

interest a year with a final interest payment in year 10 of

900 percent. This equates to a 21 bagger-an annualized return

of well over 50 percent for 10 years. Assuming a 10 percent

discount rate, the discounted cash flow (DCF) stream

is shown in Table 1.1.

Second, the economy goes into a severe recession and

business plummets for several years. The bank works with

Mr. Patel and renegotiates loan terms as described earlier.

10 The Dhandho Investor

Mr. Patel has a zero return on his investment for five years

and then starts making $10,000 a year in excess free cash

flow when the economy recovers and booms (200 percent return

every year after five years). The motel is sold in year 10

for the purchase price. Now we have a bond that pays zero

interest for five years, then 200 percent for five years, and a

final interest payment of 900 percent (see Table 1.2). This

equates to a seven bagger-an annualized return of over 40

percent for 10 years.

Third, the economy goes into a severe recession and

business plummets. Mr. Patel cannot make the payments

and the bank forecloses and Mr. Patel loses his investment.

The annualized return is 100 percent.

These three outcomes cover virtually the entire range of

possibilities. Assume the likelihood of the first option is 80

percent, the second is 10 percent, and the third is 10 percent.

These are very conservative probabilities as we are assum-

Table 1.1 Discounted Cash Flow (DCF) Analysis of the Best Case for

Papa Patel

Present Value ($MM) of

Year Free Cash Flow ($) Future Cash Flow

Excess cash 0

1 15,000 13,636

2 15,000 12,397

3 15,000 11,270

4 15,000 10,245

5 15,000 9,314

6 15,000 8,467

7 15,000 7,697

8 15,000 6,998

9 15,000 6,361

10 15,000 5,783

10 Sale price 50,000 19,277

Total 111,445

Patel Motel Dhandho 11

ing a one in five chance of the motel performing far worse

than projected-even though it was bought on the cheap at

a distressed sale price and run by a best-of-breed, savvy,

low-cost operator. We have unrealistically assumed there is

no rise in the motel's value or in nightly rates over 10 years.

Even then, the probability-weighted annualized return is

still well over 40 percent. The expected present value of this

investment is about $93,400 (0.8 × $111,445 + 0.1 × $42,812).

From Papa Patel's perspective, there is a 10 percent chance

of losing his $5,000 and a 90 percent chance of ending up

with over $100,000 (with an 80 percent chance of ending up

with $200,000 over 10 years). This sounds like a no-brainer

bet to me.

If you went to a horse race track and you were offered 90

percent odds of a 20 times return and a 10 percent chance of

losing your money, would you take that bet? Heck Yes! You'd

make that bet all day long, and it would make sense to bet a

Table 1.2 Discounted Cash Flow (DCF) Analysis of the Below-Average

Case for Papa Patel

Present Value ($MM) of

Year Free Cash Flow ($) Future Cash Flow

Excess cash 0

1 0 0

2 0 0

3 0 0

4 0 0

5 0 0

6 15,000 5,645

7 15,000 5,131

8 15,000 4,665

9 15,000 4,240

10 15,000 3,854

10 Sale price 50,000 19,277

Total 42,812

12 The Dhandho Investor

very large portion of your net worth with those spectacular

odds. This is not a risk-free bet, but it is a very low-risk,

high-return bet. Heads, I win; tails, I don't lose much!

The skeptic in you remains unconvinced that the risk

here is low. You might say that there is still the very real

possibility of going broke if you bet all you have (like Papa

Patel has done).

Papa Patel does bet it all on one bet, but he has an ace in

the hole. If the lender forecloses and he loses the motel, he

and his wife can take up jobs bagging groceries, work 60

hours a week instead of 40, and maximize their savings. At

the 1973 minimum wage of $1.60, they earn $9,600 a year.

After taxes, they can easily sock away $2,000 to $4,000 a

year. After two years, Papa Patel could step up to the plate

and buy another motel and make another bet.

The odds of losing this bet twice in a row are 1 in 100.

And the odds that it pays off at least once are roughly 99

percent. When it does pay off, it's over a 20-fold return.

That's an ultra low-risk bet with ultra-high returns-

one very much worth making: Heads, I win; tails, I don't

lose much!

With such high cash flow coming in, Papa Patel is soon

flush with cash. He still has a very modest lifestyle. His eldest

son comes of age in a few years and he hands over the

motel to him. The family buys a modest house and goes

hunting for the next motel to buy.

This time, they buy a larger motel with 50 rooms. The

family no longer lives at the motel, but still does most of the

work with little in the way of hired help. The formula is

simple: fixate on keeping costs as low as possible, charge

lower rates than all competitors, drive up the occupancy,

and maximize the free cash flow. Finally, keep handing

over motels to up-and-coming Patel relatives to run while

adding more and more properties.

There is a snowball effect here and, over time, we end

up with these amazing statistics-half of all motels in the

United States are under Patel ownership. Having fully

cornered the motel market, the Patels have begun buying

higher-end hotels and have delved into a number of

businesses where they can apply their lowest-cost operator

model for unassailable competitive advantage-gas

stations, Dunkin' Donuts franchises, convenience stores

(7-Elevens), and the like. Some have even branched out into

developing high-end time-share condominiums. The snowball

continues to roll down this very long hill-becoming

bigger over time.

Patel Motel Dhandho 13