Friday, March 30, 2012

Enron: The Smartest Guys in the Room

Only a few years ago, Enron was the nation's seventh largest corporation, valued at almost seven billion dollars. Pundits praised the company as a new business model. This trading floor was manned by America's best and brightest, charting the futures of energy and power. But high above, each with a private staircase, Ken Lay and Jeff Skilling had built their own plush state rooms; they were known as the smartest guys in the room, captains of a ship too powerful to ever go down.

"In the titanic, the captain went down with the ship. In Enron, it looks to me like the captain first gave himself and some friends some bonus, then lowered himself and the top folks down in the life boat then hollered up and said 'By the way, everything's gonna be just fine."
- Sen. Byron Dorgan (D-ND), Chairman of the Senate Commerce Committee Hearings on the Enron scandal

When I was still teaching, I always used Enron to illustrate the limitations of accounting procedures and the pitfalls of relying too much on accounting information. But even then, I was not familiar with all the details of the case. This documentary, based on the book of the same name written by Bethany McLean and Peter Elkind, is a good way to learn about, and from, the downfall of one of the most admired and respected American companies at the turn of the new millennium.

The Enron case foreshadowed many of the mistakes that were made a mere six years later during the subprime crisis; unfortunately, either people were too ignorant to heed the warnings or were just greedy enough to use the scandal as an inspiration.

For those who can't afford to spend 110 minutes of their time to watch the film, here are the three things than enabled Enron's leaders to pull-off what is perhaps the biggest case of corporate fraud in history.

1) Mark-to-market accounting, which allowed Enron to book incomes as soon as project contracts were signed. The problem was that these projects often didn't go as planned, and reported project earnings were at times actually losses.

2) Special purpose entities, or shell companies, which Enron used to hide its debt.

3) "Synergistic corruption", where entities that were supposed to provide check and balances to the system--accounting firms, legal firms, investment banks--were actually also in collusion with Enron.

If you do have the time, then I suggest you watch the video--I'm pretty confident that it will be well worth your time. Enjoy.

Wednesday, March 28, 2012

Legacy Scam Primary Suspect Celso de los Angeles Dead

IN THE NEWS via Interaksyon

Celso de los Angeles, the principal suspect in a scam that used a network of rural banks to bilk thousands of depositors of billions of pesos died Tuesday morning of cancer.

De los Angeles’ lawyer, Noel Malaya, and Philip Piccio of the PEP Coalition, which had been helping victims of the so-called Legacy scam, said he died at the St. Luke’s Medical Center in Quezon City, where he had been under hospital arrest for several cases of syndicated estafa (fraud).

In light of this development, PEP is studying the possibility of filing charges against De los Angeles’ wife and son instead.

De los Angeles founded the Legacy Group, which operated rural banks, a pre-need firm and financing companies that offered high interest rates to lure in clients, many of them small merchants, wage earners, tricycle drivers and pensioners.

When the network collapsed, it reportedly owed as much as 30 billion pesos to some 130,000 depositors.

Monday, March 26, 2012

What's Wrong?


Looking at the bigger picture of the Philippines, why are we still so poor? Does it mean we are a country whose investment priorities got it all wrong? Why are we still left behind by our Asian neighbors? I don't even believe we are a country with low IQ, when we export human capital of the highest caliber.

So whats wrong, sir?


Dear Anonymous,

Based on my observations and some academic articles that I've read, two possible answers come to mind:

1) In general, we are selfish and greedy
2) We favor short-term gains over long-term objectives

I know that a lot of readers would think that this is an "unfair" accusation, that not all of us are like this. But come on, take a look around you and you'll see how both of these points are true. We would rather risk our lives and jaywalk rather than use an overpass that's just a few meters away for the same reason that we would throw our cigarette butt or candy wrapper on the floor rather than walk a few steps to the nearest trash bin. We buy tingi even if buying in bulk is cheaper in the long run. We tend to spend and consume rather than save. We see how business decisions are made mostly to drive short-term profits and stock price increases and how the government under-invests in education, infrastructure, and health care. Finally, to a great degree, these are the reasons why corruption is so pervasive in all sectors of our society.

So maybe what we need is a shift from this "me, now" to an "all of us, in the long term" mentality; though it is not likely to happen anytime soon, it would not hurt to start this change of attitude in ourselves and in our own homes.

Saturday, March 24, 2012

Does it Take a High IQ To Become a Successful Investor?

Yale Finance professor Robert J Shiller cites two independent studies that seem to say, "yes".

The first, a Journal of Finance article which uses data from Finland, shows that high-IQ investors typically invest more heavily in the stock market, own better-diversified portfolios, and favor small-capitalization stocks, resulting in portfolios with better risk-return profiles than those owned by lower-IQ investors. While the authors didn’t claim that people with high scores had some kind of monopoly on stock-picking genius, they did contend that these people tended to follow basic rules of successful investing.

The second is another Journal of Finance paper that shows how a higher level of trust leads to greater investments in the stock market. The authors argued that knowing whom to trust, and relying on those who are trustworthy, is itself an aspect of intelligence.

What do think of these results? It would be interesting to know how closely these findings may be replicated in the Philippines, if at all. My guess is that IQ would not play as strong a role as other factors in determining investment success in the Philippines. For example, as in a lot of things, "who you know" (i.e., how much access you have to "inside information") would trump out "what you know" (i.e., your IQ) any day of the week.

via The New York Times

Monday, March 19, 2012

Performing Industry Analysis with Porter's Five Forces

According to business strategy expert Michael Porter, "the essence of formulating competitive strategy is relating a company to its environment." The state of competition in an industry depends on five basic competitive "forces": the threat of new entrants, bargaining power of suppliers, bargaining power of buyers, threat of substitute products or services, and rivalry among existing firms. The goal of competitive strategy for a business unit is to find a position in the industry where the company can best defend itself against these competitive forces or can influence these forces in its favor. Porter's "Five Forces" framework is also widely used in evaluating the attractiveness or suitability of an industry for investment or entry, or the competitive standing of a particular player within an industry.

Threat of new entrants

New entrants inject substantial resources and bring new capacity to an industry, thus increasing competition and placing additional pressure on profitability among all players. The threat posed by new entrants primarily depends on the barriers to entry that are present: the higher the barriers to entry, the lower the threat from new entrants. Major barriers to entry include economies of scale, product differentiation (brand identification and customer loyalties), capital requirements, switching costs, access to distribution channels, and cost disadvantages independent of scale (proprietary product technology, favorable access to raw materials, favorable locations, government subsidies, learning or experience curve, etc.), and government policy. Also, if existing competitors respond forcefully to make the entrant’s stay an unpleasant one, the entry may well be deterred: specifically, the threat of entry into an industry can be eliminated if incumbent firms price products and services low enough

Bargaining power of suppliers

Suppliers can exert bargaining power over participants in an industry by threatening to raise prices or reduce the quality of purchased goods and services.

A supplier group is powerful if: it is dominated by a few companies; it is not obliged to contend with other substitute products for sale to the industry; the industry is not an important customer of the supplier group; the suppliers’ product is an important input to the buyer’s business; the supplier group’s products are differentiated or it has built up switching costs; and finally, the supplier group poses a credible threat of forward integration.

A firm can improve its situation through strategies such as enhancing its threat of backward integration or eliminating switching costs.

Bargaining power of buyers

Buyers compete with the industry by forcing down prices, bargaining for higher quality or more services, and playing competitors against each other--all at the expense of industry profitability.

A buyer group is powerful if: it is concentrated or purchases large volumes relative to seller sales; the product it purchases from the industry represents a significant fraction of the buyer’s costs or purchases; the products it purchases from the industry are standard or undifferentiated; it faces few switching costs; it earns low profits, and hence is highly price sensitive and less loyal to a firm; the buyers pose a credible threat of backward integration and can therefore demand bargaining concessions; the industry’s product is unimportant to the quality of the buyer’s products or services; the buyer is well informed; and lastly, the buyer can influence other buyer’s purchasing decisions.

A company can improve its strategic posture by finding buyers who posses the least power to influence their profitability adversely.

Threat of substitute products or services

Substitutes limit the potential returns of an industry by placing a ceiling on the prices firms in the industry can profitable charge. Substitutes not only limit profits in normal times but these can also reduce the rewards an industry can reap in boom times.

Identifying substitute products is a matter of searching for other products that can perform the same function as the product of the industry. Substitute products that deserve the most attention are those that are subject to trends improving their price-performance tradeoff with the industry’s product, or are produced by industries earning higher profits.

Rivalry among existing competitors

Rivalry among existing competitors takes the familiar form of "jockeying for position" or performing actions that aim to improve a player's competitive position in the industry--using tactics like price competition, advertising battles, product introductions, and increased customer service and warranties. This occurs because one or more competitors feel the pressure or see the opportunity to improve its position in the industry. Intense rivalry may result from numerous or equally balanced competitors, slow industry growth, high fixed or storage costs, lack of differentiation or switching costs, over capacity in the industry, and the diversity of competition. As such, the intensity of rivalry in industries are often described using industry classifications that range from "monopoly" (one player = no rivalry) to "perfect competition" (many players = intense rivalry).

Wednesday, March 14, 2012

10 Commandments of the Gokongweis

Ten "secrets" that enabled the Gokongwei business conglomerate to successfully transition from a closely-held family enterprise to a large and diversified publicly-listed corporation, as related by JG Summit President Lance Gokongwei in a recently-held forum at the Ateneo de Manila University.

1. No in-laws

During his father’s generation, Lance's aunts (married to his dad’s brothers) and his mother were involved in the business, but the elder Gokongwei soon discovered that this was not always ideal.

“There were situations where some of the marriages did not work. Loyalties change. Sometimes relationships between the different in-laws from the second generation become strained. Feelings get hurt. It is tricky deciding which in-law is more deserving, which is smarter, which would do a better job.”

2. No moonlighting

If one is working for JG Summit, one can only own passive assets that do not require their attention such as property, shares, bonds and the like.

“If you work for the company, you must be either fully in the business or completely out. In running the business, you must be actively involved, with full-time commitment and focus.”

3. No conflict of interest

As a family member, one cannot set up a business involved in supplying or transacting with the JG Group of Companies.

“Around 20 years ago, my family learned this lesson. In one of the family manufacturing companies we acquired, one sibling was involved in an outside business supplying the company. Another was involved in a business that sold the final product for commission, and another was involved in a business that sold the scrap. As each party was concerned with his own interests, nobody was thinking of the interest of the family business.”

4. No work, no pay from the company

“The family member must work to receive a salary. There should be no fake pay. You must have a real, full-time position in the company. In my family, we do not receive allowances after graduating from college. If as a parent you want to give your child money from your own salary or dividends, that’s your prerogative. But the family is not going to pay for this.”

5. Personal assets should be kept separate from company assets

Personal expenses should be paid from one’s own pocket--including personal travels via the family-controlled Cebu Pacific and personal hotel stay at the family-owned RLC hotels, and even shopping at the Robinsons retail stores.

6. Pay must be based on contribution to the business

In order for the family member to live and think independently, the family business must pay the right salary for the right job, but the pay must be adequate enough so that the family member will not be dependent on the parents for support.

“The amount you will receive is based on merit and not who you are in the family totem pole.”

7. Being family is no guarantee of employment

“There comes a time when there is not enough jobs for everyone in the family. Oftentimes, professionals may even be better in running the day to day operations.”

8. Avoiding working directly under one’s parents, specifically at the start of a career

“When I first started, I did not report to my father. I worked for my uncle and another manager. If you are too close to the person, you usually won’t get good feedback. The parent might spoil the child or he may be too harsh. There is also danger of bringing issues and arguments home.”

9. Give the next generation wings 

Also part of this rule is “have a fixed retirement age” for the business.

“I have seen many families where the patriarch passed on the responsibilities to the next generation successfully and some passed it on too late.”

10. There can only be one boss

This rule is related to succession. The role of the family and owners is to prepare a board to appoint a successor.

“You must establish a process to appoint the leaders. My dad and his brothers established a clear process on who can decide who the next leaders will be. They created an outside board whose role is to appoint and fire the CEO. This is critical so that a business can smoothly pass on from generation to generation, and achieve longevity.”

via PhilStar

Thursday, March 8, 2012

A Rant About Writing Mistakes (Or Maybe Just a "Lazy Post"?)

Nope, it's a rant all right.

I've been reading some of my previous posts and I've noticed more than a few embarrassing grammatical mistakes. I always try to be careful about these things, knowing how a lot of us are totally unforgiving when it comes to proper grammar, punctuation, and spelling--not to mention style. So I always go over my draft at least three times to detect and fix errors (because a lot of times my typing fingers don't exactly do what my brain tells them to do), but it seems now that this method is far from sufficient.

Before I started Investor Juan, I knew that I was going to need some sort of proofreading or copy editing service, but I did not have the budget for it. Now that the problem is clear and pressing, it's time to loosen my purse strings and get real, professional help. So if any of you are willing and able to do the work for a fee that's within the reach of a full time graduate student, just send me an email and we'll negotiate.

Tuesday, March 6, 2012

MVP's Philippine "Silicon Valley"


Manuel V. Pangilinan yesterday launched a multimillion-dollar program that seeks to emulate the Silicon Valley technological entrepreneurship incubator model. IdeaSpace Foundation Inc. is a non-profit foundation established exclusively to implement the program. The foundation is supported by the following companies: First Pacific, Metro Pacific Investments Corp., (MPIC), MPIC hospital group, Philippine Long Distance Telephone Co. (PLDT), Meralco, Smart Communications, Digitel, Sun Cellular, SPI Global, ePLDT, Indofood, Philex Mining, Maynilad, MediaQuest, and TV5.

IdeaSpace will act as an incubator and accelerator program to support technology entrepreneurs in the Philippines and for the global market through partnerships between the MVP Group of Companies and global IT companies. The seed fund being invested will be augmented with parallel activities for mentorship, resources and support. The program goes beyond “angel investing” and provides incubation and acceleration with access to a wide group of companies to share and learn experiences, fast access to be defined market runway and opportunities to be connected to potential investors.

This is another laudable initiative of MVP that is aligned with national development efforts. What strikes me as odd, though, is that there is no mention of any partnership with the academe in the press release. The role of the universities in the technology-based business incubator model is crucial as they supply the researchers, engineers, and scientists that are necessary in making the model work. We see this role exemplified by the relationship between Stanford and Silicon Valley, between Harvard and MIT and business accelerators in the Massachusetts area, and locally between the University of the Philippines and the Ayala Technopark. I would have expected the program to involve Ateneo de Manila University, at least, given MVP's close ties with the institution, but as far as I know no such involvement exists.

Friday, March 2, 2012

5 Reasons Why You Should Not Quit Your Day Job to Start Your Own Business

Many of us believe that entrepreneurship--founding and running our own businesses--is the one true path to riches and the good life. Perhaps inspired by stories of legendary, self-made businessmen, old and new--from how John Gokongwei restored his family's fortune to how Injap Sia built a giant-killing fast food restaurant brand from scratch--we dream and daydream of retiring early and enjoying the rest of our lives living off the fruits of our own business ventures. Anecdotal statistics like how one out of every ten new businesses fail within a year of founding do not deter us, maybe because the promised rewards of success greatly outweigh the possibility of failure.

Contrary to popular notion, however, there are valid reasons to not get out of the rat race. A lot of us downplay the benefits of a thriving, stable, and adequately-paying career, especially given the amount of effort and hard work that is often necessary to maintain it; in wanting to become entrepreneurs we do not realize that we would have to give up this valuable asset for a risky undertaking, a trade off that unfortunately does not make sense for everyone. In this post, I present a few points that will hopefully paint a more realistic picture of entrepreneurship in our minds and help us better decide if a shift from being "someone's employee" to being "our own boss" is really the best way to go.

1. Sometimes the "politics" that you run into as a business person is even worse than the typical "office politics." If as an employee you're tired all the difficulties with interacting with your superiors and coworkers, as a business owner it's highly likely that you'll experience much of the same problems--if not more--with your partners, suppliers, customers, and your own employees.

2. Your business would be much more vulnerable to economic shocks than a stable career. If the economy turns sour, as in a recession or financial crisis, an employee might lose his or her job, but a business person often stands to lose everything. Arguably, it would be easier for an employee to find a new job or source of income than for an entrepreneur to recover a lost business (which does not in any way mean the that the unemployment woes in the US and parts of Europe are trivial).

3. Not everyone will find it easy to sell something. Running your own business involves selling substantially more stuff than what a regular person normally could (or would). Unfortunately, generating revenues on such a scale takes a lot more that most of us can give. Before you even think of founding your own enterprise, try selling something--anything--to someone first and see how well it suits you.

4. Anyone who tells you that money is not an issue in founding a business is delusional. Unless you can come up with a Silicon Valley-level business concept to attract venture capital or angel investor funding, your idea won't go anywhere if you can't fund your idea yourself. And no potential partner would be willing to be a part of your venture if you can't even shoulder a portion of the risk by investing your own money. Unfortunately, it would take many of us quite a number of years of working and saving before we raise enough funds for a decent business.

5. As an employee, you're expected to be very good at one specific task and work from 9 to 5; as an entrepreneur you need to do EVERYTHING on your own 24/7. If you think you'll have more free time and a balanced life if you run your own business, you're fooling yourself. Whatever dreams of early retirement and "living the life" you may have would require a lot of effort and hard work first. In other words, if you're predisposed to laziness and half-assed work, entrepreneurship is not for you.

via The New York Times

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