Try hiring an entrepreneur

Much as founding teams would like to hire future leaders, they would in fact be looking for true blue entrepreneurs to lead their enterprise into the next phase of growth.  Having been in the founding mode for quite a while, they know how it’s like to be in the trenches and what takes an entrepreneur come of age.  Having been thro all that grind and having survived it, why would any one leave that joy of enjoying one’s own fruits of labor and the freedom that comes with it to move on to manage someone else’s enterprise?

 Actually speaking, there is no reason why one should forsake enterprise liberties to go and work in another firm.  But sometimes it’s a necessity for many a fledgling ventures and other tried-it-but-didn’t-quite-fly types.  Not necessarily that these guys are losers, it may just be that they found the risks too much to bear.  Nothing wrong with it.  In fact, if you have that realization early on and are quick to make amends and retrace your steps, you must be a real warrior in another firm where the risks are shared. 

 I know quite a few mediocre guys making it big in the job scene and quite a few brilliant entrepreneurs that are struggling.  I am seriously in talks with a few such guys for a new venture that I intend to float in the coming weeks.  That’s why the topic.  I don’t need employees, I need founding partners.  Employees come to work to earn a paycheck, whereas entrepreneurs try to prove a point.  They go to any lengths to achieve their goals and it’s such guys that I need to work with me.

 So, how do I headhunt entrepreneurs?  Most recruiting firms I talked to boast of head hunters in their database, but none came forward.  The recruiters cannot keep using the same bait of “better prospects” to an entrepreneur, because he isn’t exactly after a paycheck.  He had figured out something in his head and is on a lookout for a play field where he could exercise his theories and make a living.  Meanwhile I’ll keep searching.

Creative conundrum

I concede.  Having known some, it’s way too difficult to explain why creative individuals are the way they are.  Not that they are weird or something. On occasions when they don’t conform to conventions and follow their hearts, it seems they are kind of warped.  Scratch deeper and we get at some stark rationale – in that quite little quirks and twists go into the making of an individual.  To suppress them all and follow the clock and calendar and creed until the individual is lost in the neutral gray of the host is to be less than true to their inheritance.  Life never compels one to follow another man’s rules.  It’s true that we have the same hunger and same thirsts, but that is for different things in different ways at different seasons. Lay down your own day, follow it to its noon, your own noon or you’ll sit in an outer hall listening to the chimes but never reaching high enough to strike your own.  

Their appetite for novelty is inexhaustible.  For them, life is one long process of trying risk laden new things, getting tired before starting all over again.  The levels of creative energy sets them apart from other mortals.  They’ve long since realized opportunity is often difficult to recognize;  something we usually expect to beckon us with beepers and billboards.  Like the CNBC analyst that cautions investors to wait till markets stabilize for investing in a relatively inexpensive stock, by when the stock is in every one’s radar, the arbitrage vanishes and valuations shoot through the roof.

So if you are a lesser mortal but raring to set your own rules and go,  remember.  Before you dunk in the creative seas,  always use the rule #1 in the old life guard rule book – Seize the opportunity by the beard,  for it is bald behind !!!

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Who will buy my salad shooters now?

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Who will stand in for the American consumer?

 

So we know it’s not so easy to swap the all-gorging American consumer with somebody else. Nobody has that kinda’ appetite!  Tom Friedman in his NYT Op-Ed column puts it beautifully –

 

“Let’s today step out of the normal boundaries of analysis of our economic crisis and ask a radical question: What if the crisis of 2008 represents something much more fundamental than a deep recession? What if it’s telling us that the whole growth model we created over the last 50 years is simply unsustainable economically and ecologically and that 2008 was when we hit the wall — when Mother Nature and the market both said: “No more.”

 

We have created a system for growth that depended on our building more and more stores to sell more and more stuff made in more and more factories in China, powered by more and more coal that would cause more and more climate change but earn China more and more dollars to buy more and more U.S. T-bills so America would have more and more money to build more and more stores and sell more and more stuff that would employ more and more Chinese …

 

We can’t do this anymore.“

 

But then enterprise has to produce and serve to consumers.  How will the new bunch be?  Who could guzzle stuff like an American consumer?  To whom will you sell your salad shooters anyway?

 

Funeral’s better than life support

I’ve often wondered why don’t they funnel stimulus funds to Greenfield projects than resuscitating the dying gorillas.  My argument – it’s lot more productive because it saves time (no wounds to heal) and money (no clean-up cost, no claims from the past). It saves jobs as well because trained workers can be re-hired at lower wages because of their huge supply.

But I needed an ally before I could air my views. Today I found one in Tom Friedman.  Excerpts -

“Bailing out the losers is not how we got rich as a country, and it is not how we’ll get out of this crisis…When it comes to helping companies, precious public money should focus on start-ups, not bailouts…If we are going to be spending billions of taxpayer dollars, it can’t only be on office-decorating bankers, over-leveraged home speculators and auto executives who year after year spent more energy resisting changes and lobbying Washington than leading change and beating Toyota…Our motto should be, “Start-ups, not bailouts: nurture the next Google, don’t nurse the old G.M.’s.”

Our country is still bursting with innovators looking for capital. So, let’s make sure all the losers clamoring for help don’t drown out the potential winners who could lift us out of this. Some of our best companies, such as Intel, were started in recessions, when necessity makes innovators even more inventive and risk-takers even more daring.…they will drive innovation in all these areas — and move wind and solar technology down the cost-volume learning curve so they can compete against fossil fuels and become export industries at the “ChinIndia price,” that is the price at which they can scale in China and India.

That is how taxpayer money should be used to stimulate: limited financing, for a limited time, targeted on an industry bristling with new technology start-ups that, with a little push from Uncle Sam, won’t just survive this crisis but help us thrive when it is over. We need, and the world needs, an America that is thriving not just surviving.

Thank you Mr.Friedman. You nailed it – well, almost !

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The middle class watch

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In recessionary times like this, one can never figure the ways of the middle class consumer right, except that (s)he is extremely value conscious and so on.  Yet for most businesses that harp on “high volume, low margin” model, it is the principle catchment category given the sheer size.

Neither rich nor poor, it stands out by its sheer variety in terms of background, profession and income levels.  With that change their aspirations and lifestyles.  This is precisely what lures foreign investors (both portfolio and strategic) and businesses such as high street retail to capitalize from emerging markets like India and China.  Here’s the Economist version.

In essence, the middle class mind works like a radar, picking up on signals from near and far, tending more towards free market and democracy.  They are not entirely risk averse and they are not afraid of breaching barriers to entry.  Closer home we have Narayana Murthy of Infosys and Kishor Biyani of Future Group to lean on. These value-for-money attitudes transform countries and economies. With its aspirations and capacity for delayed gratification, the middle class is more likely to invest in education and other sources of human capital, which are vital to prosperity. For years, policymakers have tied economic success to the rich (“trickle-down economics”) and to the poor (“inclusive growth”). But it is the middle class that is the real motor of economic growth.

Now the middle class is at risk as globalization goes into reverse they may well be hit harder than the rich or poor. They’ve learned to borrow and enjoy life and so are hurt by the credit crunch. They have houses and shares, so their wealth is diminished by falling asset prices. That’s roughly 2.5 billion sharing that plight and one never knows how their minds will work when their hopes are dashed.

May be, they could survive a downturn in the short term. But a prolonged crash might well undo much of the progress the developing world has lately made towards democracy and political stability. It is hard to imagine the stakes being higher.

It pays to track the direction of the middle class thought process.  If you are an entrepreneur, that’s a critical segment you can’t afford to ignore.  That’s where you should focus your business intelligence resources now that you’ve pretty much nothing else to do as people walk more on the road than into your store

The famous Japanese enterprise

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In Japan, the Railway rules. Every working day a vast ganglia of 45 bullet, main and suburban-overground lines, with another 13 underground, channels 4.1m swipe card-carrying commuters into Tokyo’s central wards alone, with clean and exceptional precision. Shinjuku station alone disgorges 900,000 passengers each morning, sucking them in again in the evening, some of the men (and they are mostly men) by now inebriated, before dumping them in their distant bedroom towns.

Every year 2,000-plus train Chikan, or perverts, are arrested for groping women and schoolgirls—the vast majority during the morning rush hour, causing minor delays. For years, females just put up with the indignity of groping, either out of embarrassment or out of fear that their claim would not be taken seriously. But habits are now changing, and women will hold up the offender’s hand and shout “Chikan!”. Several lines also have women-only carriages for peak hours. A few men’s lives have been broken because of false accusations.

The only thing that can be said with confidence is that Japan has found original ways to make money out of people’s sexual predilections. Little more than a stone’s throw from the huge Shibuya station is the “Shibuya Pink Girl’s Club”, which on its varied menu offers a Chikan densha, or pervert train.

The “groper’s course” starts at ¥12,000 ($130), where the connoisseur picks out from the menu the girl of his choice, dressed either as a schoolgirl or office receptionist. This girl then beckons him through the window of a mock-up train carriage, which not only broadcasts station announcements, but even shakes and rattles. For the next 45 minutes the connoisseur is under no risk of arrest as he gropes to gay abandon—before joining the slumberers on one of the last real trains home.

This is it. The Japanese creativity never misses an opportunity

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Why not Implicit Minimum Return for investors?

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Implicit minimum bonus? (to use an expression that Basab Pradhan acknowledges if not defends) Huh, that sounds like a boy thing. Mine’s bigger than yours sort of `entitlement’…Why do CEOs need extravagant perks even when they are firing staff and pleading for taxpayer bailouts? Can it be shrugged off as weird DNA makeup?

It takes arrogance and narcissism to become leader of a Fortune 500 company. Those same traits, however, have become their undoing during the deepest recession in decades.

How about the `ticket items’ mortgages, kids’ schools etc. of the staff that get fired by the dour suits that mess up business strategies?  I think their sense of `entitlements’  should be perched a few notches higher because they likely don’t have much `retained earnings’ (excesses of yesteryears) to fall back on while they sit at home after having lost their jobs.

 

And then, why not Implicit Minimum Return for investors?  How many C-level executives will brave that diligence?

 

That’s a tangent the Wall Street “High Performers” never recognize.  It suits them not to.  It kind of gets wired into their DNA.  But you can never blame the suits’ instincts alone for being so haughty. When they arrive at that position, they have all kinds of toadies toasting them what geniuses they are, and then of course they begin to feel their lifelong feelings of self-importance have been confirmed. There begins the grand ride of delusion, taking credit for pure serendipity (or ancestral good karma) driven good years propelled by overall good sentiment, supported by acquiescent or similarly deluding credit rating agencies stamping away `AAA’ even on toilet paper coming out of a certain Bear Stearns masking their near absent appraisal criteria and redundant evaluation metrics.

 

For such muck up, the Wall Street suits express no sense of remorse to the investors/other stakeholders they wronged but have the gumption to stand up and claim Implicit Minimum Bonus.  Well the show can go on until some day soon a bunch of harried bondholders will suddenly get physically generous and allow their thighs to be used as ear muffs for the Wall Street bonus claimant.

Fears are but fears

Mistakes are how we learn to do something new — because if you succeed at something, it’s probably something you already knew how to do. You haven’t really grown much from that success — at most it’s the last step on your journey, not the whole journey. Most of the journey was made up of mistakes, if it’s a good journey.

 

So if you value learning, if you value growing and improving, then you should value mistakes. They are amazing things that make a world of brilliance possible.

 

Celebrate your mistakes. Cherish them. Smile.

 

When I endorse that, I don’t exactly mean go sing “Oh…la…la…la…  I’ve made a mistake”.  It’s enough if we don’t sulk over it excessively or feel suicidal.  It’s ok to lose some sleep over it so long as it is therapeutic, a form of longish meditation that helps you go over what went wrong and vow to get back at it in reparatory mode.  I can personally vouch for this since I had left my day job long back and set out on my own, making a few mistakes before deciding which road to take for my own enterprise (that center around securing private and public investing for other enterprises besides making some on my own) and feeling entirely happy and relaxed in the end because I never had to spend another second amidst crushing mediocrity that consistently drained my spirit to excel, leaving me to rot years on end. No more ruinous bosses, no more bitching peers, no more clumsy subordinates – it’s a complete sense of liberation giving me total control over myself and what I do with my time.  Envy me. How many of you have that luxury?

 

To that moral I might as well add – Conquer your fears.  It’s worth it because – fears after all, are just that

Valuation during recession

 What characterizes a recession? When exacerbated by liquidity crunch and credit crisis, the R word becomes an obsessive national metric, that is two consecutive quarters of negative GDP growth.  We are now staring at one clearly.

 

In these times, the normal methods of valuation of businesses don’t fit.  Net Asset Value, Sum of Parts, Discounted cashflows, multiples of future revenues – nothing seems acceptable.  That is because business growth depends on resurgence of demand that depends on restoration of economic normalcy that still eludes the horizon.  It is a chain reaction that covers economic well being of your stakeholders one and all.  If your suppliers are well off, they extend good credit terms.  If your customers are doing well, they’ll place large orders and if you are doing well, you’ll get to hire the best in business by paying the top dollar.  But that wholesomeness is what is lacking today and nobody knows when it will get back to normal.  So, you don’t believe projections of target companies in your radar because things are so fluid.

 

Then why buy in murkier times ?

 

But then, that’s exactly when assets come cheap and you can bargain hard. With a bit of fine combing, the obscurity can be turned into an enormous opportunity.  Push for a calibrated mechanism where you don’t close valuation in one go, rather you let the target run its business and prove its projections at appropriate timelines.  (In good times, no seller will agree for stretching out deals; it’s often take it or leave it). This is known as `earn-out’ method – a deal financing mechanism where the buyer agrees to make future payments to the seller if certain agreed-upon financial or operating targets are reached after closing. The future payments are usually in addition to amounts paid at closing and can be in the form of cash, stock or bonds or some combination thereof. The performance targets are typically based on the future earnings or sales of the target in the one to five years after the deal.

 
Earnouts have been widely employed in a variety of industries and can be critical to getting a deal done when the parties’ views on the value of the target business are too divergent to agree on a price up front.

 

For example, that target company you’ve been eyeballing may be a privately-held start up with a patent portfolio that has promising, yet unproven, commercialization potential. The company’s founder may be more optimistic about its prospects than you but wants to sell today, perhaps because the company needs access to more capital to fund growth. He thinks the company is worth about $100 million. Nonetheless, while you’re intrigued by the company’s technology, you’re not convinced it will achieve broad enough market acceptance to yield a satisfactory return at the seller’s valuation. You would say a more realistic valuation is in the $75 million range.

So you compromise. You agree to an up-front cash payment of $50 million with as much as $50 million more if the target’s performance is consistent with the seller’s projections for the next three years. You call your lawyers and tell them to start working out the details.

 

The risks and metrics

But that, as the saying goes, is just where the devil is lurking. Failure to get the details right can transform your deal from accretive to ruinous. Post-closing disputes over earnouts are common, with disputes generally center around whether the performance target calculation was done properly and whether each party complied with any covenants that could have impacted the achievement of targets.

Consider what metric you’ll use for performance targets. You have a broad set of options, including revenues, sales (gross or net), gross profit, operating income (EBIT), operating cash flow (EBITDA), net income or the occurrence of specific contingencies, such as receipt of favorable regulatory approvals. The farther down the in-come statement the line items included in the earnout formula appear, the more susceptible the results are to accounting judgments and possible manipulation. On the other hand, the farther down the income statement you go, the better the line items reflect the actual financial benefit to the buyer of the acquired business.

 
The middle of the road

Limiting the parties’ ability to manipulate future financial results while enabling them to rely on performance measures that reflect real value to the buyer requires agreeing to detailed, well-defined formulas. So, to reduce the risk of earnout disputes, accounting methodologies should be consistent with those historically used by the seller, and, if practicable, audited financial statements should be used. The treatment of certain items should also be specified in the earnout formula, which may include one or more of the following:

a)  amortization of the goodwill resulting from the transaction;

b) the amount of overhead (i.e., accounting, legal, public relations, advertising and other shared expenses) charged to the acquired company;

c) R&D expenses;

 
d) Interest on the buyer’s capital contributions to the target;

e) capital gains;

f) capitalization of expenses;

g) affiliate transactions;

h) staff costs;

i) fixed asset depreciation;

j) income or charges from extraordinary or non-recurring items;

 

k) income derived from newly acquired operations financed by the buyer.

 

In addition, the earnout formula should address the treatment of contingencies, which could include a force majeure event, the buyer’s decision to sell the business before expiration of the earnout period, the target company’s failure to receive anticipated regulatory approvals, the departure of key personnel and so on.

 

Grey areas and complexities

 
Agreeing on the formula for calculating performance targets, however, mitigates only some of the risks inherent in using earnouts. Because the ultimate price payable through an earnout depends on future performance, the parties must enter into the transaction knowing how the business will be operated going forward.

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Ordinarily, buyers manage the business post-closing, but sellers will expect the business to be operated in the ordinary course consistent with past practice or otherwise be compensated for losses attributed to deviations. Sellers may also request approval rights or other involvement in major business decisions, such as expansion plans, hiring or firing key personnel, capitalization, dividend policy or combining the business with other businesses. Although buyers will of course resist perceived encroachments on their ability to manage acquired companies, it is pru-dent to agree upon reasonable, objective parameters for operations during the earnout period to avoid grounds for later disputes.

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These and other complexities associated with earnouts must be managed carefully and with due regard for their susceptibility to dispute. Learning to do so can make the earnout a useful tool in your implementation of successful M&A transactions in uncertain times.  

 

PS – This article does not constitute legal advice. If further explanation of the subject matter is required, please contact the author.

 

 

 

What makes us buy stuff – rationality or emotions?

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Dan Hill, author and President of Sensory Logic on the relevance of emotions in consumer buy calls.

 

“Over-complex campaigns that rely on digital technology forget the simple truth; that even the most jaded heart still seeks to believe that it has found a reliable ally. You’ll know you’ve reached the point where there’s an emotional bond when the stories consumers tell about your brand spontaneously involve the use of first-person pronouns, and are told with a burst of spontaneous feeling.

 
Above all else, remember that it is easiest to sell loyalty when the brand resonates with the consumer’s sense of self. When you address who people are, what they associate with, and what they do and value, you create an emotional connection so deep that consumers no longer think about what to buy.

 
Great brand worth becomes internalised and accepted as a reflection – and extension – of the consumer’s own beliefs. Fail to make an emotional connection, and you lose out, because value is determined emotionally. Brand attributes are like the claims related to a product. They are merely assertions unless the consumer’s emotional brain finds them valid and worth embracing.

 

….Value is determined emotionally because our brain’s decision-making process returns to the emotional segment to ‘sign the cheque’ . Only the sensory and the emotional parts of the brain connect to muscle activity. To translate branding efforts into sales, you should bear in mind that the rational brain is more like a lobbyist than a legislator: its role is simply to influence how the emotional brain will ‘vote’ on a potential purchase….”

 

Terrific insight.  I have experienced it myself at several supermarkets.  The product that I end up buying may not exactly be the product that often is larger in size or better in economics. It’s sometimes the one which appeals to me at that moment because my daughter used to like it while she was younger – an emotional connect as Dan says.

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