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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Anywhere it’s paradise…

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Wistfully looking up the BW happiness ranking.   Usual suspects steal the show starting with Denmark, Switzerland and Austria filling up the top three slots.  I wound down to no.8 and froze.  There it read, Bhutan, wow – the only asian country to figure in there.  U.S ranked 23^rd, China 82 and India way back at 125.  African countries like Zimbabwe and Tanzania bring up the rear.

 

Why am I doing this?  Why does it really matter?  What has always made a hell on earth has been that man has tried to make it his heaven.  Francis Bacon said “Prosperity is not without many fears and distastes, and adversity is not without comforts and hopes”.   Fate often puts all the material for happiness and prosperity into a man’s hands just to see how miserable he can make himself with them.  It helps build a world of contended bodies and discontented minds.  If prosperity guarantees progress, then it also imposes new possibilities together with new restrictions. 

 

Consoled?  Like hell.  That’s all bunkum.  It means a lot to be rich. Obscenely wealthy. There is nothing wrong in being rich. No sense of guilt attached to being wealthy.  Just that when prosperity comes, do not use all of it.  Not all wear their pearls around the neck with stones upon the heart.  That is propagated by those who wear stones around their necks while dreaming of pearls replacing them some day.  Luxury, if it corrupts the rich by possession, it distorts the poor by covetousness.

 

My advise to the world. Covet prosperity by all means.  To get there, you can start by staying positive. A positive attitude may not solve all your problems, but it will annoy enough people to make it worth the effort. Happiness is an attitude.  We either make ourselves miserable, or happy and strong.  The amount of work is the same.  Just because you’re miserable doesn’t mean you can’t enjoy life. We may all be in the gutter, but some of us are looking at the stars.

 

Anywhere is paradise.  It’s up to you

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It’s the creative break that matters

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Workaholism — joining the frenetic rat race in which we chase our own tails in the mistaken concept that we are making progress — is the curse of the thinking classes. This is the open secret known to all great artists, scientists and spiritualists. Meditation — the fount of spiritualism — is the purest form of creative leisure.

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In his essay ‘In Praise of Idleness’, Bertrand Russell tells the story of a rich man who offered a gold coin to the laziest of 12 lounging beggars. Eleven of them jumped up to claim the prize — which went to the 12th who’d been too lazy to get up. Russell’s point? Idleness pays. Russell’s critique of the work ethic propagated by industrial civilization is that it is exploitative of labour and increases, rather than reduces, economic disparities.

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By constantly working harder (i.e. producing more) we have created a vicious spiral of ever-increasing and inequitable consumption, which is rapidly depleting our planet of non-renewable resources, resulting in degradation of the environment and of life itself. Apart from its adverse physical consequences, busy-ness for the sake of busy-ness (running hard to stay in the same place, or even go backwards) has larger, philosophical implications. All the great inventions and breakthroughs in thought have been a result of leisure. With your nose stuck to the grindstone of mindless everyday drudgery, you can’t see the horizon, leave alone aspire to go beyond it.

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The story of civilization — be its narrative set in ancient India or Attic Greece — has been the story of creative leisure. Leisurely contemplation unfettered from routine preoccupations has always been the fulcrum that moved the world. Archimedes figured out his theory of water displacement while soaking in a bathtub. James Watt conceptualized steam locomotion while daydreaming and watching a kettle boil. Kekule was asleep when he literally dreamt up the composition of the carbon molecule.

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I get amused when I get to puncture idioms and conventional wisdom. So here I go. Not every idle mind need be a devil’s workshop. It’s alright if it’s a creative break; because you could be getting up close with your Eureka moment. Would the Buddha have attained enlightenment, sitting in perfect repose under the Bodhi tree, had there been clocks to punch in Nirvana?

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The earth could’ve stopped spinning

Oh, for the year that was… Battered global economy, foreclosed homes, Oil prices that soared and crashed, currency values that swung high and low – ah, the Madoff Scam that ended the year with a flourish.  If I had the magic powers, I would have put the spinning earth on pause mode and have time stand still so that 2008 comes after a long enough pause to forewarn the world of the economic crisis that awaited it.  And till we all had time to get out of our portfolio stocks

So what does that leave us with? Some bitter lessons. Will we miss the automatic deference accorded to titans of investment banking? The senior executives of banks used to command great respect; it is now clear that many of them did not deserve it.

The Anglo-Saxon capitalist model has been sorely tested in the past 12 months. Governments have been forced to prop up the banks and tempted to erect scaffolding around industrial titans. We may come to miss some of the dynamism and inventiveness of unfettered capitalism, but we will not miss glib free-market fundamentalism.

The ground is now clear for a safe touch down of Keynesian prophecies.  The first lesson – Never analyze the economy like you do a business. For a company, it makes sense to cut costs. If the world tries to do so, it will merely shrink demand. An individual may not spend all his income. But the world must do so.

Next lesson – Never treat the economy as a morality tale. It’s a technical challenge. In the 1930s, two opposing ideological visions were on offer: the Austrian; and the socialist. The Austrians – Ludwig von Mises and Friedrich von Hayek – argued that a purging of the excesses of the 1920s was required. Socialists argued that socialism needed to replace failed capitalism outright. These views were grounded in alternative secular religions: the former in the view that individual self-seeking behavior guaranteed a stable economic order; the latter in the idea that the identical motivation could lead only to exploitation, instability and crisis.  We can’t predict which is right.  But we can certainly believe neither is.

We bid a hearty farewell to the lack of discrimination that characterizes the height of a boom. When even conscientious investors are happy to hand their money over to a man with inexplicable returns, a peculiar business model and whose name is pronounced “Made-off”, something is awry.

Finally, we are pleased that it looks like the end of a casually unsympathetic attitude towards society’s walking wounded. When even the highest in the financial land have been forced to seek assistance from the great mass of ordinary taxpayers, a humbler approach from all of us must be in order.  So usher in 2009; only if you remember the lessons…

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Dr.Y.V.Reddy, the man who insulated Indian financial system

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It was George Bernard Shaw who said “We are made wise not by the recollection of our past, but by the responsibility for our future”.

 

A child can ask a question that many wise men cannot answer. Similarly few could explain why great leaders err on the side of caution even as there seemed little to worry.  They are even blamed for missing out on great opportunities. These worries epitomised the rudimentary yet sagely wisdom (that most realized only in hindsight, after he was gone) that underscored the era of Dr.Y.V.Reddy as the Governor of Reserve Bank of India (RBI), India’s central bank.  Dr.Reddy during his tenure as the Guv was criticized for being too stringent with his policies that sucked out liquidity from the system even as the economy was growing at a scorching 9 percent plus.  Yet when credit crisis struck global finance, India remained relatively secure thanks to his early braking mechanism.

 

NYT correspondent Joe Nocera captures many a banker’s opinion in his column “Talking Business – How India Avoided a Crisis”. 

Dr.Reddy post his term is now being lauded by one and all for India’s relative resilience in the face of global liquidity crisis.  The man deserves kudos for not letting Indian banks sin excessively.  By seeing the real estate bubble early, he made regulations more stringent by increasing the CRR and risk weightage for realty loans.  He banned bank loans for buying land and allowed them to lend only for financing construction costs.  He never allowed securitizations and credit derivatives to gain prominence and setting up off-balance sheet vehicles that hide debt.  Thus the Indian banks never could slice and dice debt and palm them off to unsuspecting buyers that fueled the mortgage crisis in the US.  The banks were forced to hold on to the loans they made to customers until maturity.  It meant banks made sure the loans got paid back since that was their only way to ensure liquidity.

When he saw huge foreign fund inflows into India, Reddy feared inflation and he duly pushed interest rates up to more than 20 percent, which of course dampened the housing frenzy. He increased risk weightings on commercial buildings and shopping mall construction, doubling the amount of capital banks were required to hold in reserve in case things went awry. He made banks put aside extra capital for every loan they made. In effect, Mr. Reddy was creating liquidity even before there was a global liquidity crisis.

India’s bankers were naturally furious, just as American bankers would have been if Mr. Greenspan had been more active. Their regulator was holding them back, constraining their growth! They felt Reddy was being too harsh, excessively paranoid and cutting things to the bone. For a while they felt if Indian bankers were missing out on something, but now they know they missed out only on the toxicity.

As Luis Miranda, who runs a private equity firm devoted to developing India’s infrastructure, put it: “We kept wondering if they had figured out something that we were too dense to figure out. It looked like they were smart and we were stupid.”   Joe Nocera rounds it off  as he says “Instead, India was the smart one, and we were the stupid ones.”

Dr.Reddy has indeed acted responsibly for our future.  No words to thank him.  Perhaps he realized wisdom is never on the menu.  But he ended up owning the restaurant !!!

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Now I am relieved

 

I was pleasantly surprised when my teeny daughter came and told me “pa, the moon looks beautiful tonight”.  First, I thought she has hit one of her starry moods. Occasionally she busies herself watching the sky, humming a song while leisurely sitting on the swing in our balcony.  At other times, she tries out new songs in her keyboard.  But she has never shed her shyness to come and tell us what got her riveted so much. I ran to the window to watch it but didn’t get a clear view.

 

She described how the two shining specks have dotted around the moon like a fine celestial designer jewelry.  She speculated it must be Jupiter and Venus in a rare alignment but wasn’t sure.  Here’s the detail.  It was a rare spectacle called “planetary conjunction” in which two planets —the brightest in the night sky — will appear extremely close, separated by only the width of a finger held at arm’s length. They won’t be this close together and well-placed for evening viewing again until May 2013.

 

I am glad that she got to watch it. Gladder that she shared it with me. But I am delighted to know she takes an interest in celestial spectacles, gets amused by nature because each time I drag her to watch programs about universe featuring in Discovery or National Geographic, she fobs me off and returns to her other youthful priorities.  Now I am relieved, she has it in her and someday likely she will get her priorities right.  Ain’t gonna miss her lot in life

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