Detailed show notes to follow.
Expensify does "expense reports that don't suck!" by importing expenses and receipts from your credit cards and mobile phones, submitting expense reports through email, and reimbursing everything online. It has raised over $6M in venture funding, has hundreds of thousands of users, has won awards aplenty, and is basically taking the small-business expense reporting space by storm. Ed and Ron will discuss the state of the accounting profession, cloud and app technology, what it’s like to found a company and deal with rapid growth, increasing government regulations, innovation, creating a company culture, and probably wine.
Ed and I were honored to have on Baruch Lev, co-author of The End of Accounting and the Path Forward for Investors and Managers (Wiley Finance) by Baruch Lev and Feng Gu, 2016.
The book is divided into four parts, which we asked Professor Lev about.
Part One: Relevance Lost
The End of Accounting is divided into four parts:
- Relevance Lost
- Why is Relevance Lost?
- So, What’s to Be Done?
Like a Consumer Reports evaluation, they provide an unsatisfactory report. Based on a comprehensive, large-sample empirical analysis, spanning the past half century, we document a fast and continuous deterioration in the usefulness and relevance of financial information to investors' decisions. The pace of this usefulness deterioration has accelerated in the past two decades.
Our analysis indicates that today's financial reports provide a trifling 5-6 percent of the information relevant to, and used by investors.
One amusing illustration they use in the book is to compare United States Steel Corporation’s 1902 and 2012 financial statements. The former is 40 pages; the latter is 174 pages. Yet they focus on the same information. Uniformity has lead to less experimentation and innovation as the world moved from an industrial/service economy to a knowledge economy.
Another indictment that what the accounting profession is peddling is the Edsel of our day, proforma (non-GAAP) earnings disclosures have doubled from 2003 to 2013, and now are over 40%.
As The Economist stated, "The real Enron scandal is that so much of what Enron did conformed with GAAP."
How much of stock prices are attributable to earnings and book values? It was roughly 80-90% in the 1950-1960s, the authors say it’s 50% today.
Part Two: Why Is the Relevance Lost?
The authors document three major reasons for why accounting reports have lost relevance:
1. The inexplicable treatment of intangible assets—the dominant creators of corporate value. Intellectual capital—such as brand development, human capital, R&D, etc., are all expensed by current accounting standards.
2. Accounting isn’t about facts anymore but more and more about manager’s subjective judgments, estimates, and projections.
3. Unrecorded business events increasingly affect corporate value (competitor moves, regulatory changes, restructurings, alliances, etc.).
Just one example, the prevalence of Mark-to-Market rules is a clear case of asking GAAP to do something it is constitutionally incapable of doing—project value into the future, because accounting is not a theory, it’s an identity equation. GAAP can only record value once a transaction has taken place.
This is why the “goodwill” of a business is booked after is has been sold. It is why our late colleague, Paul O’Byrne, FCA, used to say that goodwill is the name accountants give to their ignorance.
Warren Buffett remarked, “This is not marked-to-market, rather marked-to-myth.” As the authors point out, Enron was marking-to-market 30-year gas contracts in which they were the main market-maker.
Much of this is due to the Financial Accounting Standard Board’s obsession with the “Balance sheet approach,” adopted in the 1980s, with the prime objective to value assets and liabilities at fair (current) values. These adjustments spill over into the income statement, making it less relevant. If balance sheet is flawed, so is income statement.
Part Three: So, What’s to Be Done?
There has been initiatives to supplement the traditional financial statement report, such as with Key Performance Indicators, the Value Reporting Revolution, Intellectual Capital reports, the Enhanced Business Reporting Model, Integrated Reporting, and so forth.
They haven’t amounted to much, and they are not grounded in solid economic theory. Lev and Gu propose adding “The Strategic Resources & Consequences Report” to the financial statements. As they explain:
The focus of this Resources & Consequences Report is on the strategic, value-enhancing resources (assets) of modern enterprises, like patents, brands, technology, natural resources, operating licenses, customers, business platforms available for add-ons, and unique enterprise relationships, rather than on the commoditized plant, machines, or inventory, which are prominently displayed on corporate balance sheets.
Our proposed disclosure to investors is primarily based on nonaccounting information, focusing on the enterprise's strategy (business model) and its execution, and highlighting fundamental indicators… more relevant and forward-looking inputs to investment decisions than the traditional accounting information, we grade the ubiquitous corporate financial report information as largely unfit for twenty-first-century investment and lending decisions, identify the major causes for this accounting fade, and provide a remedy for investors.
They illustrate this report in four separate industries—media and entertainment, property and casualty insurance, pharmaceutical and biotech, and oil and gas, using real examples from various companies.
It’s an innovative and empirical approach, as the authors studied investor calls, earnings disclosures, etc., to learn what educated investors were asking to help them peer into the future potential of companies.
This is enlightened way to develop Key Predictive Indicators—that is, theories that can be used to peer into the future, rather than merely looking backwards with data that comprise most Key Performance Indicators.
Part Four: Implementation
The authors are not fans of more regulation. In fact, they advocate lessening the disclosure rules. They believe their proposals could be voluntarily adopted, perhaps with a “nudge” by industry trade associations and the SEC.
What about the retort that some of the information they want to see disclosed would lead to a competitive threat? The authors are sympathetic to this fear, but point out examples where companies have voluntarily disclosed “sensitive” information, such as one Drug company’s disclosure of pipeline info, FDA filings, clinical trial status, marketing info, etc.
The authors also advocate eliminating quarterly reporting, since frequency and reporting quality are substitutes, making it semiannual, such as in the UK and Australia, among other countries. They would still require quarterly reporting of sales, cost of goods sold, and gross margin.
Finally, they propose three reforms to GAAP:
1. Treat intangibles as assets (at cost) and improve disclosures (such as separating Research from Development)
2. Reverse the proliferation of accounting estimates—such as marking-to-market, leaving Fair Market Value to investors since accountants have no expertise in valuation. Compare the top five to seven key managerial estimates and projections to actual.
3. Mitigate accounting complexity—regulatory complexity now exceeds business complexity. A 15-year FASB revenue recognition project resulted in a 700-page rulebook! It’s futile to have a rule for every scenario. We need more principles and professional judgment, and less rules.
A Deteriorating Paradigm
Abraham Briloff, late professor of accounting at Baruch College and irritant to the auditing profession, used to say that accounting statements are like bikinis: “What they show is interesting, but what they conceal is significant.”
The accounting model is suffering from what philosophers call a deteriorating paradigm—the theory gets more and more complex to account for its lack of explanatory power.
Not Final Words
We are very curious to see the profession’s response to this book going forward. Our guess is, for the most part, it will be ignored, which would be tragic, and a missed opportunity.
The number one issue facing the accounting profession is loss of relevance. Does anyone doubt that using financial statements to run—or invest in—a modern-day intellectual capital organization is the equivalent of timing your cookies with your smoke alarm?
Thank you, Professor Lev for having the courage to challenge the profession , and offering a better path forward.
We thanked our listeners, sponsors, VoiceAmerica Team, including our sound engineer Matt Weidner, the founder of VoiceAmerica, Jeff Spenard, and our Executive Producer Robert Ciolino, our “dreammaker.”
Ed and Ron talked about the 30 guests they’ve had on since the first show ran on July 4, 2014. Two of those guests have been on twice (Rabbi Daniel Lapin and Doug Sleeter).
A special thank you to all of the following guests for appearing on TSOE:
- Deirdre McCloskey, August 8, 2014
- Rory Sutherland, August 29, 2014
- Howard Hansen and Steven Geske, September 12, 2014
- Father Robert Sirico, October 17, 2014
- Reed Holden, Oct 31, 2014
- Rabbi Daniel Lapin, Nov 14, 2014 (twice: April 1, 2016)
- Tim Williams, Dec 5, 2014
- Jody Thompson, ROWE, CultureRx, Dec 12, 2014
- Thomas Sowell, December 19, 2014
- Adam Davidson, Jan 9, 2015
- Jules Goddard, Jan 16, 2015
- Dan Morris, Feb 6, 2015
- Joe Pine, March 6, 2015
- Robert Cross, March 13, 2015
- Anthony Clark, March 20, 2015
- Dan Ariely, May 8, 2015
- Brad Smith, May 22, 2015
- Kevin Mitchell, PPS, June 12, 2015
- Lee Cockerell, Disney, June 19, 2015
- Greg Tirico, July 17, 2015
- Jennifer Warawa, August 14, 2015
- George Gilder, Sept 11, 2015
- Daniel Susskind, Jan 8, 2016
- Mark Koziel, AICPA, Jan 15, 2016
- David Wells, Matthew Burgess, John Chisholm, Feb 19, 2016
- John Jantsch, Duck Tape Marketing, March 11, 2016
- Paul Kennedy: The OBK Story, March 18, 2016 (done live in UK)
- Rabbi Daniel Lapin, April 1, 2016
- Dr. Mark Miller, April 22, 2016 (Books: The Moral Case for Fossil Fuels, and Fueling Freedom)
- Astronaut Rick Searfoss, May 6, 2016
- Doug Sleeter, Part I, June 10, 2016
- Doug Sleeter, Part II, July 1, 2016
Access to all of these shows can be found on our archive page.
- Scroogenomics, Nov 28, 2014 (“Black Friday”)
- Business Lessons from A Christmas Carol, December 18, 2015
- Our First Free-Rider Friday, January 30, 2015
- Live from Sage Summit July 28-30, 2015
- Famous Last Words, October 9, 2015
- Live at the VeraSage Symposium, Nov 20, 2015
- Live at the Texas Libertarian Party Presidential debate, April 9, 2016
Carry-Over Items from Last Two Shows
Ron eat crow for wrongly predicting Brexit vote would lose. www. predictit.org and a lot of the polls got it wrong, too.
Proposed referendum names for other countries thinking of leaving of the EU:
As a follow-up to our shows with Doug Sleeter on the blockchain, Ron discussed the “Bitcoin Knowledge Podcast” hosted by Trace Mayer. Two shows he listed to and enjoyed: an interview with Jeffrey Tucker and one with Dr. Adam Back, a legend in Bitcoin developer circles.
Dr. Back discussed his innovation of Sidechains, which is one of the pet projects on the developer’s wish list of “cool features.”
A sidechain essentially suspends your Bitcoins on the main blockchain, then sends them to a smart contract guided sidechain, with proof of suspension, and grants you equivalent use of the Bitcoins on the sidechain.
It’s a way for them to add new features in a modular way. For instance, a sidechain could be used to run an airlines’ frequent flyer program, or for anything where you might need a ledger with special features.
If anyone is planning on attending the Sage Summit, use promo code FOE (Friend of Ed) for special pricing.
As always, we’d love to hear your favorite guests, shows, topics, and/or guests/topics you’d like to hear on The Soul of Enterprise.
Thank you everyone for listening and on to our next 100 shows!
We had such a good response from our first interview with Doug Sleeter on the Blockchain, we got him back to take a deeper dive on this fascinating meta, and disruptive, technology.
Doug Sleeter (@dougsleeter) is a passionate leader of innovation and change in the small business accounting technology world. As a CPA firm veteran and former Apple Computer Evangelist, he has melded his two great passions (accounting and technology) to guide developers in the innovation of new products and to educate and lead accounting professionals who serve small businesses.
Doug has been named one of the “Top 25 Thought Leaders” by CPA Practice Advisor for several years, as well as one of Accounting Today’s “Top 100 Most Influential People in Accounting” from 2008 through 2015. He was recently awarded the Small Business Influencer Champion award. Doug is the founder of the Sleeter Group, an active member of the Accountex Leadership Council, author of numerous books, and writes regular columns for the Sleeter Report and CPA Practice Advisor. Doug and his family live in Pleasanton, CA.
- The Trust Protocol, or Trust Machine—trust the math, not the people
- “In Math We Trust”
- Blockchain holds institutions more accountable for their actions. Imagine if you could track each dollar you gave to the Red Cross from its starting point on your smart phone to the person it benefited
- What is a distributed autonomous enterprise (DAE)? Essentially it is a cooperative owned by its members.
- Blockchains automate away the center
- Puts Uber out of a job and lets the taxi drivers work with the customer directly
- https://slock.it has potential to disrupt lots of business models, including airbnb and uber
Is it all too complicated?
How many people know there are seven layers to the Internet?
Micah Winkelspecht, CEO of Gem, nation’s first blockchain solution providers said, “In the future, people won’t talk about blockchains any more than they now talk about the lower level architecture that makes the Internet work. We’ll just use them every day without thinking about it. Their presence will be ubiquitous.”
Philosopher Alfred North Whitehead said, “Civilization advances by extending the number of operations we can perform without thinking about them.”
What is Triple Entry Bookkeeping?
Today, companies record a debit and credit with each transaction—two entries, hence double-entry accounting.
They could easily add a third entry to the World Wide Ledger, instantly accessible to those who need to see it—the company’s shareholders, auditors, or regulators.
Blockchain can also deal with micropayments—those going beyond merely two decimal places. It would also mean no more “float.”
How disruptive to CPAs?
Auditing is a multibillion-dollar industry controlled by four massive audit firms.
According to the book, Blockchain Revolution: “Traditional accounting practices will not survive the velocity and complexity of modern finance. New accounting methods using blockchain’s distributed ledger will make audit and financial reporting transparent and occur in real time.”
“Accountants are like mushrooms—they’re kept in the dark and fed shit,” said Tom Mornini, CEO of Subledger, a start-up targeting the accounting industry.
If every transaction globally distributed ledger, who need public accountancies to translate for us?
Deloitte Touche now has 100 people in its cryptocurrency group, spread out in 12 countries.
Eric Piscini, who heads up the Deloitte cryptocurrency center, tells clients that the blockchain is “a big risk for your own business model because now the business of banking is to manage risk.
Overripe for disruption is the audit business, and audit is a third of Deloitte’s revenue. Piscini said, “That’s a disruption to our own business model, right? Today we spend a lot of time auditing companies, and we charge fees accordingly. Tomorrow, if that process is completely streamlined because there is a time stamp in the blockchain, that changes the way we audit companies.”
Or perhaps eliminates the audit firm altogether?
Deloitte has developed a solution called PermaRec (for Permanent Record) whereby “Deloitte would record those transactions into the blockchain and would then be able to audit one of the two partners, or both of them, very quickly, because that transaction is recorded.”
Will investors demand triple-entry accounting to meet corporate governance standards?
After all, he argues, “Who is going to invest in a company that shows you what’s going on quarterly, compared to one that shows you what’s going on all the time?”
Is the Blockchain the beginning of the end for auditors and bookkeepers?
Bill Gates once said: “We overestimate technology’s short-term impact, and under-estimate its long-term impact.” Are we doing the same with Blockchain?
Could we have several different blockchains, for different purposes? This is Doug’s biggest fear.
He envisions one, trusted, public blockchain. Many blockchains could fail due to incompatibility. There would also be more innovation due to the open source nature of the code, since there would be only one target to improve (like Wikipedia).
Check out https://github.com, for the open-source code for blockchain.
There are skeptics
Don and Alex Tapscott lay out ten showstoppers that could derail blockchain in their book, Blockchain Revolution:
- THE TECHNOLOGY IS NOT READY FOR PRIME TIME.
- THE ENERGY CONSUMED IS UNSUSTAINABLE.
- GOVERNMENTS WILL STIFLE OR TWIST IT.
- POWERFUL INCUMBENTS OF THE OLD PARADIGM WILL USURP IT.
- THE INCENTIVES ARE INADEQUATE FOR DISTRIBUTED MASS COLLABORATION.
- THE BLOCKCHAIN IS A JOB KILLER.
- GOVERNING THE PROTOCOLS IS LIKE HERDING CATS.
- DISTRIBUTED AUTONOMOUS AGENTS WILL FORM SKYNET.
- BIG BROTHER IS (STILL) WATCHING YOU.
- CRIMINALS WILL USE IT.
Doug discusses “Big Bad Data” and how blockchain can overcome this problem.
The Economist had a story that a doctor is attempting to use blockchain for clinical drug trials, making the data from them more accurate and less susceptible to manipulation.
What do we mean by trust? The Tapscott’s list four principles of integrity: honesty, consideration, accountability, and transparency.
There’s a Chinese Proverb that teaches: “When the wind of change blows, some people build walls, others build windmills.”
Should we be investing in Bitcoin and blockchain companies?
Venture capital is pouring into startups in this area, destined to be an enormous growth area in the coming years.
- The Business Blockchain: Promise, practice, and application of the next internet technology, William Mougayar, 2016
- Blockchain Revolution: How the Technology Behind Bitcoin Is Changing Money, Business, and the World, by Don Tapscott, Alex Tapscott, 2016
- Magazine, yBitcoin + Blockchain, www.ybitcoin.com
Sighing for paradise to come - The Economist, June 4, 2016
- Our June 3 show, A Check for Everyone? The Basic Income Idea, discussed Charles Murray’s “The Plan”—to pay everyone from the age of 21 $10,000 per year.
- The Economist is against this idea, saying it’s “an answer to a problem that has not yet materialized.”
- Thomas Sowell and George Gilder are also against it.
- The oft-cited study by Oxford that 47% jobs are going to be automated is too gloomy.
- The Basic Income could encourage the first-world to shut off immigrants, or create second-class citizens if they allow immigration but don’t let them participate in a Basic Income program.
- The costs are too high, and the risk of tax avoidance/evasion is also troubling.
- It could also be alienating, socially corrosive, and create individuals with no purpose in their lives.
“How the FAA Shot down “Uber for Planes”, FEE, June 2, 2016, by Jared Meyer
- Jared Meyer is a Fellow at Manhattan Institute
- Boston to Martha’s Vineyard cost $70 using the Flytenow app (by comparison, $1,000 for a charter)
- FAA ruled Flytenow was a “common carrier, subject to the same regulations as major airlines
- Private pilots simply can’t comply with this many regulations
- Nothing new. It’s still legal to find people to share flights with on bulletin boards or telephone calls
- FAA worries an app will go beyond friends and acquaintances
- FAA said it’s permissible to advertise on Facebook if you had a few friends, but not a thousand
- Not possible to know legal from illegal
- Existing law, pilots can’t profit, only recoup costs
- Founders of Flytenow say it’s not Uber, it’s more like carpooling for aviation
- It’s legal in the EU
- Not rationally related to safety, as Captain Sully couldn’t share, so it has nothing to do with pilot qualifications or safety
- FAA was pressured by private charters and airlines
- Flytenow has filed a Petition for Certiorari to US Supreme Court
- Mark Sanford (R-SC) proposed an amendment to an FAA reauthorization bill, awaiting floor vote
- We shouldn’t have to ask for permission to innovation—permissionless innovation!
The Structure of Production: New Revised Edition, Mark Skousen, 2015
- Cato Podcast with Mark Skousen, George Gilder, Steve Forbes
- April 25, 2014, the Bureau of Economic Analysis (BEA) at the U.S. Department of Commerce announced a new data series as part of the U.S. national income accounts, and the BEA began reporting “Gross Output by Industry”
- Government now recognizes the critical importance of Gross Output (GO).
- GO measures spending throughout the entire production process, not just final output like Gross Domestic Product (GDP)
- GO measure total sales volume at all stages of production, includes all business-to-business (B2B) transactions that GDP leaves out
- In the third quarter of 2014, GO hit $31.3 trillion, almost twice the size of GDP, which was $17.6 trillion. GDP measures the “use” economy, GO measures the “make economy”
- GDP is comprised of consumer spending, government spending, investment, and net exports, with the first two of these being the biggest contributors
- GDP overemphasizes consumer and government spending as the driving force behind the economy because it ignores supply-side benefits of saving, business investment, and technological advances.
- GDP shows Household spending generates more than two-thirds of total economic output, latest U.S. data on GDP, $17.6 trillion, consumer spending $12 trillion (68%), government spending at $3.2 trillion (18%), Private investment $2.9 trillion (16%), (Net exports at -2 percent.)
- The GO statistic, by contrast, shows consumers less than 40 percent ($31.3 trillion), while spending by business is $16.6 trillion, more than 50 percent of economic activity
- Consumer spending is largely the effect, not the cause, of prosperity
- GO is over $23 trillion in 2014. GO is significantly more sensitive to the business cycle than GDP. In 2008–2009, nominal GDP fell only 2 percent, GO fell by 6 percent and B2B spending collapsed by 10 percent
- BEA’s measure of GO does not include all sales at the wholesale and retail level.
- Wholesale and retail trade figures are included in GO only as “net” or value added
- Skousen believes this is a serious omission, comprising more than $7 trillion dollars in business spending in 2014
- We need to include gross wholesale and retail trade figures. They are legitimate B2B transactions that deserve to be counted
- Skousen created his own aggregate statistic, Gross Domestic Expenditures (GDE), which includes gross sales at the wholesale and retail level and is therefore significantly larger
- GDE in 2014 is over $37.5 trillion, 25 percent higher than GO and 120 percent more than GDP.
- Consumer spending actually represents only about 31 percent of the U.S. economy using the GDE statistic
- The adoption of Gross Output is the most significant advance in national income accounting since World War II.
- GO is a reflection of Say’s law (supply creates demand), a supply-side statistic, while GDP is a symbol of Keynes’s law, a demand-side number
- Gross output [GO] is the natural measure of the production sector, while net output [GDP] is appropriate as a measure of welfare. Both are required in a complete system of accounts
$1B stakes on the menu The Economist, May 21, 2016
- Berkshire purchase $1 billion in Apple shares, disclosed May 16, 2016
- Buffett, 85, likes mature firms, ignorant about technology
- Investment in IBM has cost him
- Buffet made his purchase weeks after Carl Icahn, 80, sold a $5 billion stake in Apple
- “The sight of two octogenarians grappling over the firm’s fate does not enhance its aura as a temple of innovation”
- Apple stock is cheap trading at 11x earnings (29 for Alphabet and 72 for Facebook)
- Apple invested $1B in Didi Chuxing, China’s Uber to curry favor with China’s government
- It needs to do so with India!
- There was recently an Indian ministerial decision deeming Apple’s products are not “cutting-edge” that kyboshed plans to open Apple stores in the country
- There’s a law that states products made outside India have to be 30% sourced domestically, and Apple didn’t qualify for an exemption to this rule for being “state of the art”
New obsession: The Broadway play Hamilton
We need a better capitalism or how a third way = third world
It did pass, but we didn’t know it when we pre-recorded this show on 6/23/16.
Ron favored Brexit but predicted it would lose—time to eat crow! www.predict.org got it wrong, too, as did most of the polls.
Here’s an excellent recap by a historian of an interview Margaret Thatcher gave to Forbes back in 1992, which is prescient.
Ron and Ed discussed the upcoming Sage Summit, where Daniel Susskind will speak on his book, The Future of the Professions.
Our show with Doug Sleeter from last week (#96) was very well received, so we interviewed Doug again, and went deeper on the topic of the Blockchain. This show will appear sometime in the coming months.
Ed has updated the Archive section of the website, along with the Live Events section for the speaking events we’ll both be doing in the coming months.
Our show on Basic Income from June 4th was posted on Ron’s LinkedIn Influencer blog, generating over 32,000 reads and 190 comments.
Finally, on June 7th, Ron attended a talk given at the Independent Institute by George Gilder on his recent book, The Scandal of Money. This is the follow-up book to Gilder’s Knowledge and Power, which posits an information theory of capitalism that is profound. Ron believes it is worthy of a Nobel Prize in economics. You can watch the entire talk, including audience Q&A here:
Quick Review VeraSage Laws, Part I
Our show from July 24, 2015 dealt with five VeraSage Laws:
- Baker’s Law - Bad customers drive out good customers.
- Kless’ First Law - He who liveth by the discount, shall ye also perish by the discount.
- Kless’ Second Law - All measurements are judgments in disguise.
- VeraSage Axiom - Ideas are always and everywhere more important than their mere execution.
- VeraSage adoption of the Second Law of medicine - Prescription before diagnosis is malpractice (First Law of Medicine: Do No Harm).
These laws spring from deeply held beliefs we have, based on empirical evidence, and have become part of our vocabulary. Peter Thiel, in his book Zero to One, offers one question he always asks before hiring someone: Tell me something you believe that defies conventional wisdom?
Some of these lies defy conventional wisdom, which tends to be far more conventional than actual wisdom.
Three More VeraSage Laws
1. Growth without profit is perilous.
We start with profitability, rather than revenue, because we are not interested in growth merely for the sake of growth—the ideology of the cancer cell. As many companies around the world have learned—some the hard way, such as the airlines, retailers, and automobile manufacturers—market share is not the open sesame to more profitability. We are interested in finding the right customer, at the right price, consistent with our purpose and values, even if that means frequently turning away customers.
Adopting this belief means you need to become much more selective about whom you do business with; even though that marginal business may be “profitable” by conventional accounting standards. Very often the most important costs—and benefits, for that matter—do not ever show up on a profit-and-loss statement. There is such a thing as good and bad profits. Accepting customers who are not a good fit for your firm—either because of their personality or their unwillingness to appreciate your value—has many deleterious effects, such as negatively affecting team member morale, and committing fixed capacity to customers for whom you simply cannot create value. Growth without profit is perilous.
2. Non-rival assets provide more leverage than rival assets.
Knowledge and Abundant ideas are what economists describe as non-rival assets—meaning more than one person can use it at a time. Contrast this with traditional rival assets, such as a building or an airplane, which can only be used for one purpose at a time.
If I give you the tie off my shirt, now you have it and I don’t; but when I give you an idea, now we both have it, can expand upon it, test it, and make it more valuable. Ideas are subject to increasing, rather than diminishing, returns.
Economists have always struggled with how to explain economic growth. Many of their models embody the physical fallacy, a world where traditional factors of production—land, labor, and capital—are rival resources, innovation and entrepreneurship are treated as unexplained luck, and ideas are ignored since they cannot be quantified.
Even Adam Smith, who did so much to falsify the physical fallacy, thought that only industrial work could be “productive.” The work of a service provider, in contrast, “adds to the value of nothing.” This is the hamburger-flipper argument of the eighteenth century.
As usual, Thomas Sowell explains in Knowledge and Decisions the impact on a country’s standard of living between generating ideas and the physical act of carrying them out:
Many of the products that create a modern standard of living are only the physical incorporation of ideas—not only the ideas of an Edison or Ford but the ideas of innumerable anonymous people who figure out the design of supermarkets, the location of gasoline stations, and the million mundane things on which our material well-being depends. It is those ideas that are crucial, not the physical act of carrying them out. Societies which have more people carrying out physical acts and fewer people supplying ideas do not have higher standards of living. Quite the contrary. Yet the physical fallacy continues on, undaunted by this or any other evidence.
George Gilder has a wonderful way to sum up these concepts: Wealth = Knowledge, and Growth = Learning.
3. In the real world, debits don’t equal credits.
In any transaction, both the buyer and seller must believe they profit. However, when the transaction is booked on both sides, it’s booked at the same dollar value. However, transactions are not equal, they take place precisely because of the inequality of the perception of value.
Traditional accounting ignores the customer’s profit, which economists call the consumer surplus. This is why, in the real economic world, debits can’t equal credits.
The following is from Ron’s book, Mind Over Matter: Why Intellectual Capital is the Chief Source of Wealth:
But Ric, in the real world debits don’t equal credits. -Dan Morris, in an inspired moment at dinner with Ric Payne, founder of Principa, and Ron Baker
Goodwill is the word we use to label our ignorance. –Paul O’Byrne, chartered accountant, partner, O’Byrne and Kennedy; senior fellow, VeraSage Institute (RIP)
A lot of rules have been added since the Venetian monk Luca Pacioli published the first accounting textbook, Summa de arithmetica, geometrica, proportioni et proportionalita, in 1494, introducing double-entry bookkeeping. It was a creation for future accountants that was as big as the invention of zero for mathematicians.
Unfortunately, one could also make the argument that it was the last revolutionary idea to come from the accounting profession. As quoted in Intellectual Capital, David Wilson, CPA and partner at Ernst & Young:
“It has been 500 years since Pacioli published his seminal work on accounting and we have seen virtually no innovation in the practice of accounting—just more rules—none of which has changed the framework of measurement.”
The balance sheet dates from 1868; the income statement from before World War II. Generally accepted accounting principles (GAAP) fits an industrial enterprise, not an intellectual one. Currently, GAAP measures the cost of everything, and knows the value of nothing. As Robert K. Elliott pointed out in an essay entitled “The Third Wave Breaks on the Shores of Accounting”:
[GAAP] focuses on tangible assets, that is, the assets of the industrial revolution. These include inventory and fixed assets: for example, coal, iron, and steam engines. And these assets are stated at cost. Accordingly, we focus on costs, which is the production side, rather than the value created, which is the customer side.
The traditional accounting model is over 500 years old, and it is in bad shape. Financial statements presented in accordance with GAAP are based on a liquidation value of a business, essentially historical cost assets less liabilities—a heroic attempt to assign static value to a dynamic and going concern.
Even though intellectual capital is the main driver of wealth, you will look in vain to find it in the traditional GAAP statements—the balance sheet, income statement, and statement of cash flows. Increasingly, these statements are being referred to as the “three blind mice.”
Abraham Briloff, a professor of accounting at Baruch College and irritant to the auditing profession, contends that accounting statements are like bikinis: “What they show is interesting, but what they conceal is significant.”
According to Dr. Margaret Blair, in a study for the Brookings Institution, in 1978, 80 percent of a company’s value could be attributed to its tangible assets; by 1988, only 45 percent; in 1998, only 30 percent.
In effect, 70 to 80 percent of the average company’s value cannot be explained by traditional GAAP financial statements. Adding more arcane and picayune rules to GAAP, or converging existing GAAP with international accounting standards, will not solve this problem.
The accounting model is suffering from what philosophers call a deteriorating paradigm—the theory gets more and more complex to account for its lack of explanatory power.
In all fairness to accounting, it never was meant to predict value prospectively, only to record transactions retroactively. In effect, accounting can only measure exchanges after they have taken place.
This is why accounting can only record the “goodwill” of a business until after is has been sold. Accounting has no way to place a value on that goodwill until a transaction takes place. That is why our colleague Paul O’Byrne says goodwill is the name we give to our ignorance, since to value goodwill before a business is sold would require a theory, since theories are the only way to peer into the future.
The accounting profession proffers little help in achieving this objective, for a very fundamental reason: Accounting is not a theory. The best an accountant can do is to extrapolate the past into the future, and unless one believes that the future is going to be the same as the past, this technique is fraught with hazards.
This week Ron and Ed interview Doug Sleeter, founder of the Sleeter Group and self-professed blockchain-obsessed entrepreneur.
Doug Sleeter (@dougsleeter) is a passionate leader of innovation and change in the small business accounting technology world. As a CPA firm veteran and former Apple Computer Evangelist, he has melded his two great passions (accounting and technology) to guide developers in the innovation of new products and to educate and lead accounting professionals who serve small businesses.
Doug has been named one of the “Top 25 Thought Leaders” by CPA Practice Advisor for several years, as well as one of Accounting Today’s “Top 100 Most Influential People in Accounting” from 2008 through 2015. He was recently awarded the Small Business Influencer Champion award. Doug is the founder of the Sleeter Group, an active member of the Accountex Leadership Council, author of numerous books, and writes regular columns for the Sleeter Report and CPA Practice Advisor. Doug and his family live in Pleasanton, CA.
Bill Gates observed that we overestimated technology’s short-term impact, and under-estimate its long-term impact.
The Blockchain has been labeled “The Trust Protocol,” by Don and Alex Tapscott. Other labels include, the World Wide Ledger of value, and a public (distributed) ledger, or distributed (decentralized) database.
The Economist labeled Blockchain “The Trust Machine”—trust the math, not the people (“in math we trust”).
Either way, Blockchain is a Meta Technology—that is, it affects other technologies. It is not a process improvement technology—it is a disruptive technology.
It could track anything to do with following (ATOMIC): Assets, Trust, Ownership, Money, Identity, Contracts.
For example, it could record birth and death certificates, marriage licenses, deeds and titles of ownership, educational degrees, financial accounts, medical & criminal records, insurance claims, voting rolls, provenance of food, and anything else that can be expressed in code.
The World’s first blockchain-recorded wedding took place at Walt Disney World, Florida, in August 2014.
More Accountable institutions
“We’re quite confident,” said Marc Andreessen in an interview with The Washington Post, “that when we’re sitting here in 20 years, we’ll be talking about [blockchain technology] the way we talk about the Internet today.”
Blockchain holds institutions more accountable for their actions. Imagine if you could track each dollar you gave to the Red Cross from its starting point on your smart phone to the person it benefited.
Triple Entry Accounting?
George Gilder thinks the blockchain is the eighth layer of the Internet—a trust and transactions layer.
Today, companies record a debit and credit with each transaction—two entries, hence double-entry accounting. They could easily add a third entry to the World Wide Ledger, instantly accessible to those who need to see it—the company’s shareholders, auditors, or regulators.
The largest flow of funds into the developing world is not foreign aid or direct foreign investment. Rather, remittance money repatriated to poor countries from their diasporas living abroad.
Abra and other companies are building payment networks using the blockchain.
In effect, this turns every user into a teller.
Wiring money via Bitcoin (or other cryptocurrency) takes approximately one hour vs. a week—at a cost of 2% versus 7%--compared to, say Western Union. It takes less time to ship an anvil to China than to wire money there!
In The Mystery of Capital, economist Hernando de Soto posits that $10 trillion of dead capital is inaccessible to the poor (now estimated to be $20 trilliion).
The poor don’t lack capital but rather the ability to monetize it.
Blockchain holds the potential to bring five billion people into the global economy, change the relationship between the state and citizens—a powerful new platform for global prosperity and a guarantor of individual rights.
Future, diffusion, growth of blockchain?
Some say healthcare will be the area where blockchain technology expands most rapidly.
In 2014, there were approximately 18.5 million software developers. As of 2016, 5,000 of those work in cryptocurrency and blockchain.
Matthew Roszak, co-founder, Bloq (the Red Hat of Blockchain):
Think of blockchain technology adoption as a freight train. The train may look like it’s moving slowly right now, however there’s an incredible amount of momentum building given the financial and intellectual capital jumping on board—the momentum and innovation will continue to unfold at a significant pace.
Micah Winkelspecht, CEO of Gem, the nation’s first blockchain solution providers:
In the future, people won’t talk about blockchains any more than they now talk about the lower level architecture that makes the Internet work. We’ll just use them every day without thinking about it. Their presence will be ubiquitous.
The philosopher Alfred North Whitehead said “Civilization advances by extending the number of operations we can perform without thinking about them.”
Books and Other Resources
The Business Blockchain: Promise, practice, and application of the next internet technology, William Mougayar, 2016
Blockchain Revolution: How the Technology Behind Bitcoin Is Changing Money, Business, and the World, by Don Tapscott, Alex Tapscott, 2016
Magazine, yBitcoin + Blockchain, www.ybitcoin.com
According to Wikipedia, an unconditional basic income (also called basic income, basic income guarantee, universal basic income, universal demogrant, or citizen’s income) is a form of social security system in which all citizens or residents of a country regularly receive an unconditional sum of money, either from a government or some other public institution, in addition to any income received from elsewhere.
Milton Friedman called it a Negative Income Tax, and Charles Murray dubbed it “the Plan” in his 2006 book, In Our Hands: A Plan to Replace the Welfare State. Murray posits, “Imagine that the United States were to scrap all its income transfer programs—including Social Security, Medicare, and all forms of welfare — and give every America age twenty-one and older $10,000 a year for life.”
A Basic Income Guarantee would be means-tested, meaning you’d lose some of it after reaching certain income levels.
A Universal Basic Income would not be means-tested, and needs to “sufficient” in order to live on.
The Earned Income Tax Credit is subject to certain qualifications (having children, married or single) and is refundable on the personal income tax return, subject to being phased out as income rises.
The FiveThirtyEight Article
We’d like to give a shout out to Landon Loveall (@landonloveall) for sending along this article, and suggesting this show topic.
“Basic Income. A Check for Everyone: What Would Happen If We Just Gave People Money?,” by Andrew Flowers, April 25, 2016, FiveThirtyEight.
On June 5, Switzerland will hold a referendum on a basic income that would provide 2500 Swiss Francs per month to each individual over 21 ($1700/mo, $20,400 USD).
The article says that this is the “most audacious social policy experiment” in modern history.” Really? I would suggest so was the USSR, China, Cuba, North Korea, etc.
The article points out that we simply don’t have data on how this proposal would work, or what would happen. We shouldn’t let anecdotes run ahead of facts, as happened with the microfinance movement.
Thomas Paine in a 1797 essay, proposed to provide 15 pounds sterling to everyone from the age of 21.
Martin Luther King in his 1967 book, Where Do We Go From Here: Chaos or Community? endorsed a guaranteed income.
Milton Friedman supported the Negative Income Tax from the 1950s, while president Richard Nixon proposed a guaranteed income type plan that passed in the House and stalled in the Senate.
Friedman’s plan in 1978 would have provided a family of four with $3,600 per year ($13,200 in today’s dollars).
Matt Zwolinski, Philosophy professor at University San Diego, is a prominent libertarian advocate, “There’s something objectionable about paternalism: treating adults as children who need to have their decisions made for them.”
But isn’t government providing an allowance to all “its children” the essence of paternalism?
The Empirical Evidence
The United States has ran four experiments on providing a basic income between 1968-1980. These studies took place in NJ, PA, IA, NC, IN, Seattle, and Denver. There was also a famous one in Manitoba, Canada (1974-79).
These studies did report a modest 5-7% decrease in work, and even more for secondary earners. So it appears that one of the strongest arguments against providing a basic income—that people won’t work—doesn’t hold.
But it bears repeating that these studies were a very limited sample size, were not randomized, and didn’t provide a “basic income” (i.e., sufficient to live on).
Yet the social scientists claimed, “We learned an enormous amount.”
Our question: about what? Studying poverty? What will we do with that learning—spread more poverty?
The only antidote to poverty is wealth creation, and that seems to missing from this entire discussion.
The US Government spends almost $1 trillion per year on a patchwork of welfare programs: SNAP, TANF, CHIP, EITC, WIC, SSDI, etc.
The article does point out that for any experiment to be valid is must meet four requirements: Universal, Randomized, long term, and basic (sufficient to live on). No experiment to date has yet to meet all four requirements, limiting the conclusions we can draw.
Interestingly, the political lexicon is starting to change from “basic income” to “Trust experiments” or “Citizen’s wage.” Isn’t a wage earned?
Advocates also claim that innovation would flourish since this would free the tinkerer-in-the-garage and poet to pursue their dreams.
The appeal of this is idea is very Utopian—and a utopia is an imagined place or state of things in which everything is perfect, and exists nowhere.
Charles Murray’s Plan
There’s probably no better thought out plan than Charles Murray’s, as detailed in his short book, In Our Hands: A Plan to Replace the Welfare State, published in 2006.
Murray posits, “Imagine that the United States were to scrap all its income transfer programs—including Social Security, Medicare, and all forms of welfare—and give every America age twenty-one and older $10,000 a year for life.” [$11,868 in 2016 dollars, from the age of 21 to death.
- Constitutional Amendment—this is required to dismantle the programs that we now have, and make sure they aren’t reintroduced.
- Universal Passport at birth.
- A bank account (ABA routing number; no bank, no grant).
- Reimbursement schedule: at $25,000-$50K earned income, 20% tax on amount above $25,000, to a maximum of $5,000 reimbursment. For example, if you earned $40,000, you’d be required to reimburse $3,750 (40,000 – 25,000 x 25%).
- Eligibility. Regardless marital status or living arrangements.
- Changes. Link increases to median income growth, productivity, or an inflation indes.
- Tax revenues. Murray assumes revenue neutrality—that is, the government raises the same level of tax revenues.
- Programs to be eliminated: Social Security, Medicare, Medicaid, welfare programs, social service, agricultural subsidies, corporate welfare, student loans, and scholarships. Students could use future grants as collateral for loans.
- Leaves state funded education, transportation infrastructure, and even the Postal Service.
- Immigrants, incarcerated criminals are not eligible.
- You must buy health insurance at 21. (approximately $3,000 per year).
- Privatize health insurance, repeal employer tax deduction, and repeal medical licensing laws, and enact tort reform.
In 2002, the population of 21 year-old and older was 202.3 million. In 2011, Murray calculates we would be breakeven with what spend now (by 2005 we were at $7,000/yr for everyone 21+).
Murray points out that if stock market doesn’t grow 4%/yr, the government can’t pay for all its promises now.
Murray argues The Plan would end “involuntary poverty”—that is, for people who do right and are still poor.
What About Work Incentives?
Murray points out most people who stay out of the labor force with the grant will be the same as who don’t work today. More likely, people will work fewer hours, not fewer people working. Murray believes the net decrease will be acceptable to our economy.
How to live meaningful lives in the age of plenty and security.
Murray also wants to revitalize institutions that lead to satisfying lives, especially marriage, mobility, changing jobs to vocations.
Don’t go around saying the world owes you a living; the world owes you nothing, it was here first.
Well, Mark Twain never said it. But in 1880, an essay by Robert J. Burdette (a popular humorist) titled “Advice to a Young Man,” ran in an Iowa newspaper:
No, my son, the world does not owe you a living. The world does not need you, just yet; you need the world… But don’t fall into the common error of supposing that the world owes you a living. It doesn’t owe you anything of the kind. The world isn’t responsible for your being. It didn’t send for you; it never asked you to come here, and in no sense is it obliged to support you now that you are here…
When you hear a man say that the world owes him a living, and he is going to have it, make up your mind that he is just making himself a good excuse for stealing a living. The world doesn’t owe any men anything son. It will give you anything you earn…
Ed and I believe, on pragmatic grounds, Murray’s Plan is better than what we have now, and we could support it, if it was accompanied by a constitutional amendments repealing the existing infrastructure.
With cryptocurrencies and the blockchain it could be much easier to manage.
What’s interesting is to think about the Bootleggers and Baptists coalitions that will form both for and against this idea, with the public sector unions being the major opponent (like public school teachers against vouchers for education).
The August 2014 edition CATO Unbound (online debate forum) was dedicated to the Universal Basic Income. Click the image below to access it.
We would love to hear your thoughts on the Basic Income idea!
More evidence for the premise of the book by Richard and Daniel Susskind, The Future of the Professions. Ross is built on IBM’s cognitive computer Watson.
Norway, Sweden, Finland puts everyone’s tax return online. Creates a conflict between transparency and privacy. Argument for: reduces bad behavior. Sunshine is the best disinfectant. For example, business owners in Norway declared 3% more income in 2001 because of the policy. Argument against: nosiness (“tax porn”), bullying kids because of their parent’s income, rich become the target of thieves and kidnappers.
When Norway stripped anonymity of searches, the number of them fell by 90%. We hold politicians to a higher standard, making the top ones disclose their returns. The Economist doesn’t think the benefits of this transparency outweigh the costs. Neither do Ron and Ed.
Envy at 30,000 feet: Resentment of first-class passengers can be a cause of air rage, The Economist, May 11, 2016
Passengers are more prone to misbehavior if they see other passengers having a better experience (3.8 times more likely to be unruly, to be precise). Katherine DeCelles, University of Tornonto and Michael Norton, Harvard, published this junk science study in the Proceedings of the National Academy of Sciences. They suggest Boeing, Airbus install middle entrances so coach passengers don’t have to see first-class being pampered. Grow the hell up.
Too much of a good thing: Profits are too high. America needs a giant dose of competition, The Economist, March 26, 2016
- Profits are at near-record highs relative to GDP
- In 2014, the top 500 listed firms made 45% of global profits
- They’ve become more focused; and have achieved some pricing power
- Market the size of USA, prices should be lower than they are (how does The Economist know this? USA is also richer)
- Companies earn 40% higher returns in USA than abroad
- Profits are suspiciously persistent
- Today, 80% chance of still being profitable 10 years later; it was a 50% chance in the 1990s
- Tax system encourages companies to park profits abroad
- The article does mention how regulations keep competitors out
- Abusing monopoly positions; lobbying (rent-seeking), Alphabet among largest, $17m spent last year on governmental lobbying)
- Microsoft making double profits now than during its antitrust suit
- 900-odd industries more concentrated since 1997
- Rate of small-company creation is at the lowest levels since 1970s
- Modernizing antitrust
- Copyright and patent laws loosened
- Occupational licensing reforms
Crony capitalism and the spigot of government subsidies, April 28, 2016, Veronique de Rugy, senior research fellow at George Mason University
Elon Musk is worth $14.3 billion. He’s also a Welfare Queen. He used his profits from the sale of Zip2 (first online yellow pages) to found X.com, which merged with Confinity to become PayPal. He has received $4.9 billion in government support and subsidies. None of his three companies are yet profitable:
Tesla Motors. $1.3 billion subsidy from Nevada, while the US Department of Energy provides a $7500 federal tax credit, $2500 from CA, for each Tesla sold. The Model S sells for $80,000 to $115,000. Do buyers at this level really need a tax credit?
SolarCity has received $300 million in federal grants and tax incentives.
SpaceX received $20 million from Texas to open a facility there, in addition to $5.5 billion in government contracts from NASA and the Air Force. The ultimate goal of SpaceX is “enabling people to live on other planets.” Should the government be paying for this?
Bitcoin has reached a 52 week high, at approximately $480. (Now over $500. Click for current price.)
Sean hits his first home run over the fence, and the story is written by an app.
The Royals seize victory thanks to late double, drop the NTX Eagles 10-5
The Royals outlasted the NTX Eagles on Tuesday after four lead changes, squeaking out a 10-5 win.
Sean K racked up two RBIs on two hits for the Royals. He singled in the third inning and homered in the fourth inning.
The Royals jumped out to an early 1-0 lead in the top of the first. A triple by Jackson J, scoring Hudson Z started the inning off.
The Royals never surrendered the lead after the third inning, scoring four runs on a two-run double by Hudson and a groundout by Cody C.
The Royals increased their lead with four runs in the fourth. Nathan's single got things going, bringing home Pearson E. That was followed up by Colton W's single, plating Nathan F.
A one-run fifth inning helped bring the NTX Eagles within four. A steal of home by Jake sparked the NTX Eagles' rally. The Royals closed the game out when Nathan F got Cameron to strike out.
"Powered by Narrative Science and GameChanger Media. Copyright 2016. All rights reserved." Any reuse or republication of this story must include the preceding attribution.
Apple is making a pivot in its R&D spending, project to reach $10 billion in 2016, a 30% increase over prior year (it spent $3 billion in 2012).
Parent A: “We are leaving 2 minutes
Parent B: “Would you rather leave now, or in 2 minutes?”
Humans are predisposed to idea of choices.
Why do car wash establishments have more sophisticated pricing than professional knowledge firms?
How you price more important than how much you price.
Sell insurance for things people don’t want, e.g., concierge medicine, dentists, termites, etc.
Sell Access-Level Agreements (Assurance) for things people want, e.g., hairstylists, lawyers (accessibility retainers), CPAs, IT firms—keep systems running.
Ed’s Sage white paper: Creating Access-Level Agreements. Download here.
Items to use to build pricing fences:
- Response time
- IRS Representation
“No Plan Level” puts a price on individual items, e.g., $500 per meeting, etc.
Black Card Level is by invitation only, and if your firm’s highest level of exclusivity.
The Seven Ts Model
- Travel (out-of-pocket expenses)
Ad Agencies can use these additional fences
- Key elements of program
- Degree of customization
- Number of elements
- Number of revisions
- Degree of client help/involvement
- Data archiving
CS3 Technology SERV Access Plan.
Confessions of the Pricing Man: How Price Affects Everything, by Hermann Simon, 2015
Hermann Simon is the founder of pricing consulting firm Simon-Kucher & Partners in 1985, together with two of his doctoral students. With 30 offices in all major countries and revenue in excess of $250 million, his firm today is a global leader in price consulting.
“I confess that there may not always be a level playing field between the seller and the consumer. generally I think that the game is fair. The reason lies in one word: value. Customer satisfaction is the only way to maximize long-term profits.”
“Some people see 'profit' as the ugly side of capitalism. 'Maximize profit' is an inflammatory phrase which can send shivers down these people’s spines. The simple truth is that profit is the cost of survival. Making a sustainable profit is a matter of ‘to be or not to be.’ And price, whether you like it or not, is the most effective way to generate higher profits.”
“But I am not a fan of short-term profit maximization. My mission is to support companies in optimizing their prices to achieve sustainable long-term profitability.”
“Never run a business in which you have no influence on the prices you charge.”
“We received further support and inspiration Peter Drucker. ‘I am impressed by your emphasis on pricing,’ he told me during a visit to his home in Claremont, California, adding that it is the ‘most neglected area of marketing.'"
“Pricing intrigued Drucker from an economics and also from an ethical perspective. He understood profit to be the ‘cost of survival’ and sufficiently high prices to be a ‘means for survival.’
“Before his death in 2005, he provided a testimonial for Manage for Profit, Not for Market Share, a book which I co-wrote with two colleagues: ‘Market share and profitability have to be balanced and profitability has often been neglected. This book is therefore a greatly needed correction.’”
“Pricing is always a reflection of how people divide up value. We are constantly making decisions about whether something is worth our money, or trying to convince others to part with their money. That is the essence of pricing.”
“Managers tend to have fear of prices, especially when they need to increase them. Managers will keep their hands off the pricing lever if they have doubt, turning their attention to something more tangible and more certain: cost management.”
“Most important aspect of pricing. I answer with one word: ‘value.’ Only the subjective (perceived) value of the customer matters. The objective value of the product or other measures of value, such as the Marxian theory that value is defined by the human labor time invested, do not matter intrinsically. They matter only to the degree that the customer thinks they matter and is willing to a pay a price in return.”
“In Latin the word pretium means both price and value. Literally speaking, price and value are one and the same.”
“Behavioral economics does not yet offer a complete, unified theory. Test results which support behavioral economics have begun to face increasingly critical challenges. Most of the findings come from laboratory settings, should serve as a warning against throwing the idea of the ‘rational human’ completely overboard. Human beings are not as rational as classical economics claims, nor are they as irrational as some behavioral economists claim. This means that you should take both of these research traditions into account, but proceed with caution.”
Richard Wagoner, the former CEO of General Motors , said: “Fixed costs are extremely high in our industry. We realized that in a crisis we fare better with low prices than by reducing volume . After all, in contrast to some competitors, we still make money with this strategy.”
“Former Porsche CEO Wendelin Wiedeking represented the exact opposite end of the spectrum with this statement: “We have a policy of keeping prices stable to protect our brand and to prevent a drop in prices for used cars. When demand goes down, we reduce production volume but don’t lower our prices.” We always want to produce one car less than the market demands.”
“In a war, the atomic bomb and price are subject to the same limitation: both can only be used once. Overcapacity is the most frequent trigger for a price war.”
“Pricing belongs on the CEO ’s desk.”
“A 2012 study, which included 2,713 managers from over 50 countries and a large cross section of industries found for companies with strong CEO involvement: The pricing power was 35% higher.
"The success rate for implementing price increases was 18% higher. 26% more achieved higher margins after the price increases, which means that they were not just passing on higher costs to their customers. 30% had a special pricing department, which in turn had an additional positive effect on profits.”
When Hermann writes: “Tighter antitrust regulation contributes to better price competition. It is one of the rare examples of government intervention which actually allows pricing mechanisms in markets to function more freely.”
I think this is highly contestable, based on the evidence of the damage that anti-trust laws have on enterprise, including the uncertainty the laws create.
Two other Simon-Kucher partners just published Monetizing Innovation: How Smart Companies Design the Product Around the Price, by Madhavan Ramanujam, Georg Tacke, 2016.
“Choose the right pricing and revenue models, because how you charge is often more important than how much you charge.”
“A bad monetization model can be worse than a bad price.”
“72% of new products/services miss revenue/profit goals.”
Drucker’s Lost Art of Management: Peter Drucker’s Timeless Vision for Building Effective Organizations, by Joseph A. Maciariello and Karen E. Linkletter, 2011.
Maciariello is a professor of management, Karen is a historian.
Drukcer called management a “liberal art,” linking it to the humanities.
He called himself a social ecologist—creates and maintains a society of functioning organizations, anticipates discontinuities, provides for both continuity and change.
“Management is a practice rather than a science or a profession, though containing elements of both.”
Management’s only hope to be a moral force for right and good is to ally itself with the liberal arts. The early business schools recognized that…they required education in the liberal arts.
This book sets out to explain what he meant—he didn’t define it clearly.
Management cannot be concerned solely with results and performance
Management: “The art of getting things accomplished throug people”
Four topics putting management as a liberal art into practice:
1. Federalism (Federalist Papers, USA’s lasting contribution to Western thought)
2. The human dimension (natural rights theory; dignity)
3. Leadership (responsibility, not rank or privilege) “assuming responsibility for getting the right things done.” Integrity of character is its essence. Also, succession.
4. Social ecology
Organizations must provide: status, function, sense of community and purpose.
Liberal education instilled standards of conduct and character, knowledge, and mastery of a body of texts, a respect for societal values and standards, and an appreciation for knowledge and truth. It can be defined by what it’s not: vocational training.
In 1959, Ford and Carnegie foundation report: Higher Education for Business, concluded:
Business education lacked any cohesive curriculum, failed instill sense of professionalism and accountability, suffered a serious absence of academic quality and content.
Effectiveness is not a “batting average,” the number of successes over the number of attempts. Rather, effectiveness is a “slugging average,” actual contribution to the mission of the organization over potential contribution.
The Future of Management, by Gary Hamel, 2007. I know Ron profiled this a while back, but I wanted to have my say on it as well.
Hamel's Innovation Stack
Some great questions
What's the "tomorrow problem" that you need to start working on today?
What is the frustrating "either/or" you'd like to turn into an "and"?
What is the espoused ideal you'd like to turn into an embedded capability?
What's the "can't do" that needs to become a "can do"?
"If you wring all the slack out of a company, you'll wring out all the innovation as well."
"If you can't find enough people to work on your project, maybe it's not a good idea."
"At Gore, tasks can't be assigned, they can only be accepted."
From David Weinberger, "Our biggest undertaking as a species [the Internet] is working out splendidly, but only because we forgot to apply the theory that has guided us ever since the pyramids were built."
Follow-up book by Gary Hamel: What Matters Now: How to Win in a World of Relentless Change, Ferocious Competition, and Unstoppable Innovation, 2012.
Sterling’s Gold: Wit and Wisdom of an Ad Man, by Roger Sterling, 2010.
Quotes (as only Roger Sterling, aka John Slattery, can deliver them)
"I'll tell you what brilliance in advertising is: ninety-nine cents. Somebody thought of that."
"I don't know if anyone ever told you that half the time this business comes down to: 'I don't like that guy.'"
"It probably didn't help things that our billings crept up for no apparent reason. Eventually an accountant is going to read the mail."
"I'm being punished for making my job look easy."
"Big talent attracts big clients."
"4:30? Close enough."
"I told him to be himself. That was pretty mean, I guess."
"Mona had a dream once where I hit the dog with the car. She was mad at me all day, and I never hit the dog. We don't even have a dog."
"Believe me, somewhere in this business, this has happened before."
Book Recommendations from TSOE Listeners
Special thanks to Caleb and Lauri for the following book suggestions.
Caleb L. Jenkins (@CalebLJenkins): It’s Not Your Business: Kingdom-Centered Business in a Self-Centered World, by Gary Miller, 2015.
Lauri Jutila (@ljuti): Effective Apology: Mending Fences, Building Bridges, and Restoring Trust, by John Kador, 2009.
The Prime Solution: Close the Value Gap, Increase Margins, and Win the Complex Sale, by Jeff Thull, 2016.
Infinite Possibility: Creating Customer Value on the Digital Frontier, by B. Joseph Pine and Kim C. Korn, 2011.
Ed's session on strategy at Accountex in the UK.
About Colonel Richard A. Searfoss
Expert speaker, consultant, and author of LIFTOFF: An Astronaut Commander’s Countdown for Purpose-Powered Leadership, Rick Searfoss speaks with authority and expertise born of exercising leadership in the most dynamic, challenging, and dangerous of settings. Coupling that real-world experience with a powerful and exciting stage presence, he has for over a decade been inspiring and enlightening audiences worldwide. His speaking mission: “to share the leadership, execution excellence, teamwork, and innovation lessons of human space flight to empower organizations to achieve out-of-this-world results!” Colonel Searfoss is one of only a handful of people out of many thousands of hopefuls ever selected to be an astronaut. He piloted two space flights and commanded a third, the most complex space life sciences mission ever flown, STS-90 on space shuttle Columbia. Prior to becoming an astronaut Rick was a fighter pilot and test pilot in the U.S. Air Force, with over 6100 hours flying time in 84 different types of aircraft. A distinguished graduate of the U.S. Air Force Fighter Weapons (Top Gun) School and the U.S. Naval Test Pilot School, he’s also held executive level positions in the aerospace industry.
In addition to piloting two space flights, and commanding a third, he consults and is a test pilot on leading-edge aerospace projects, including serving as the Chief Judge for the $10 million Ansari X Prize for the first private reusable human spacecraft and test flying the world’s only liquid-fueled experimental rocket plane. Rick completed a bachelor of science degree in aeronautical engineering from the USAF Academy, a master of science degree in aeronautics from the California Institute of Technology on a National Science Foundation Fellowship, and USAF Squadron Officer School, Air Command and Staff College, and Air War College. His numerous awards include the Tactical Air Command F-111 Instructor Pilot of the Year, Air Force Meritorious Service Medal, Defense Superior Service Medal, NASA Exceptional Service Medal, NASA Outstanding Leadership Medal, Distinguished Flying Cross, and the Legion of Merit.
He was in a Volkwagen commercial, consulted on the Tom Cruise Sci-Fi movie, Oblivion. He also consulted and had a cameo appearance on the movie Green Lantern.
Colonel Rick Searfoss was the 301st person to go into space (out of 500), and the third from New Hampshire. His initial training began in 1990, 2yrs after the Challenger tragedy. He piloted STS-58 (Space Transportation System), Columbia and STS-76, Columbia, and was Commander of STS-90, Columbia. He’s flown 39 days in space, and as a test pilot has flown 84 different types of aircraft.
Questions from Segment 1
You were in a Volkswagen commercial. What was that like?
What’s the difference between a Pilot and a Commander on the Space Shuttle?
You’re a test pilot who’s flown 84 different types of aircraft. Did you fly any when you thought, “This is really not a good idea”?
Your book is Liftoff: An Astronaut Commander’s Countdown for Purpose-Powered Leadership, published in 2016, which is the first business book authored by an astronaut.
What was your primary motivation for writing the book?
You were inspired by Dr. Stephen Covey to write the book?
How do you distinguish between management and leadership?
I love your definition. “At its core: leadership simply influencing others for good,” and how it’s rooted in trust.
There’s a military saying: “The soldier is entitled to competent command.”
You have a model, the 4P Leadership Performance Balance based on 12 Key principles within four categories: Purpose, People, Perspective, and Program. We love how you start with Purpose. Why?
You write, “All airspeed and no direction just gets you lost!”
You’re 12th Principal is: Choose the Hard! When JFK issued his challenge to land a man on the moon, and return safely, by end of decade, our experience in space consisted of four flights, six orbits, and barely 10 people-hours.
The lesson for business is all profits are derived from risk.
Ed and I think After Action Reviews are the best learning tool ever devised. You write:
Mistakes are forgivable. Hiding them is not. The only way to enable learning from mistakes is to present them for dissection and correction.
The debriefing for a Space Shuttle flight was two weeks long, 8-10 hour days? The flight’s not over until after the debriefing.
Very few business use AARs. Why do you think?
You were Commander on STS-90 (Neurolab), which was the fourth longest STS mission. What was that like?
How well do you sleep in space?
What have you been doing since you left NASA?
Are you in favor of civilians in space?
Who do you think will make it to Mars first?
When you landed the Space Shuttle, you turned off AutoLand. What’s your view of autonomous cars and aviation? Will we ever completely replace the human involvement?
You paint a poignant picture in the book that during the pre-Launch preparations, you took five minutes to just pause and take in the enormity of the upcoming Mission. I know you did this as a Pilot on two prior Missions, but what was it like to do it as the Commander?
You flew F-111s in the Air Force during the early 1980s, during the Cold War, stationed in England. Then you ended up working with Russian Cosmonauts at the Mir Space after docking Atlantis. What was it like to work with former enemies?
- “Who Was Ty Cobb? The History We Know That’s Wrong, Charles Leerhsen, Author, Ty Cobb: A Terrible Beauty (Imprimis, March 2016)
- “Former Maria Carrillo student founds tech startup Appsitude,” Diane Reber Hart, Towns Correspondent, April 22, 2016, Press Democrat
- “The Truth about Trade,” Scott Lincicome, National Review, April 11, 2016 [paywall]
Scott Lincicome in an international-trade attorney, adjunct scholar at Cato Institute, and visiting lecturer at Duke.
A recent study labor economists: “The China Shock: Learning from Labor Market Adjustment to Large Changes in Trade,” by David H. Autor, David Dorn, Gordon H. Hanson, NBER Working Paper No. 21906 was issued in January 2016.
- Recent surge in Chinese imports inflicted pronounced harms on the and labor-force participation of US workers in local markets.
- On the podcast EconTalk, Russ Roberts interviewed David Autor.
- US manufacturing jobs declined from 17.2 million in Dec 2000 to 12.3 million last year.
- Is this proof of needed protectionism?
- No evidence imports are primary driver of US manufacturing job losses
- Manufacturing slowly and steadily shedding jobs since late 1940s, long before NAFTA or China
- USA is second largest manufacturer, 17.2% global output, 3rd largest exporter
- USA is world’s top destination for Foreign Direct Investment $384 billion in 2015, more than double 2nd place Hong Kong, and nearly triple China
- Job losses mostly result of productivity gains and deep recessions, not trade,
- The paper says import competition only explains 25% of job loss between 1990-2007
- Free trade benefits by $2800-$5,000 additional income average American, $7100-12,900 average household. Benefits mostly middle, poor, some 90%
- More than ½ of all imports are inputs and capital goods consumed by other manufacturers
- Tariffs are a hidden tax that benefits mostly labor unions. Obama’s 35% tarrif on China tires equated to $900,000 per job saved
- Global value chains are incredibly complex. Almost 40% of all US exports involved in GVC; 34% of US exports contain inputs from China, Canada and Mexico
- Gordon Hason: “The problem is not trade liberalization…the problem is that labor-market adjustment too slow”
- Civilian labor-force-participation rate lowest at 62.5% since late 1970s
- Traded goods arbitrarily exclude services—legal , accounting, advertising, travel, telecom, insurance, 32% of US exports ($28 billion surplus with China 2014), $233 billion with world
- $30.5 billion (2015) trade surplus with Hong Kong, not counted as trade with China
Why less fluidity in the labor markets?
- Americans less likely to move where jobs are
- 60% Americans have less than $1,000 in savings (US tax policy has no tax-free savings, like Canada
- Health care, education cost are rising above inflation
- Tax code: education expenses deductible only for existing job, not new skills
- Employment protection laws erode employment-at-will doctrine
- Occupational laws limit opportunities for poor middle class to start businesses
- Minimum wage laws
- Employer provided health insurance creates job “lock-in”
- Extended unemployment benefits subsidizes non-work
- Social Security Disability Insurance—becomes permanent, very few reenter labor force. SSDI doubled from 1990-2014, from 2.3% to 5.1%
- Trade Adjustment Assistance notorious failure. Breeds misconception that trade is somehow different from other forms of disruption, such as business models, automation, etc.
Dee Gordon of the Miami Marlins was suspended for 80 games for testing positive for PEDs (performance enhancing drugs). Ed posited the idea of eliminating the regulation against PED use in favor of a reputation based model. His idea would allow for PED use, but require, as a condition for employment, twice yearly testing in addition to random tests as well. The results would be reported and displayed on jumbotron screens along with other statistics. Follow the debate on this topic on Ed's Facebook page.
Story on IBM’s Watson from Kidscreen: Watson teams up with Sesame Street to educate in pre-schools.
Historian Rick Brookhiser: “The Presidency is not an entry-level political job, unless you’ve won a world war.” (Ike, Ulysses Grant)
Milton Friedman: “The point is not to elect the right people to do the right things. The point is to design the system so that the wrong people do the right things.”
Jean-Claude Juncker, primer minister of Luxembourg: “We all know what to do; we just don’t know how to get re-elected after we’ve done it.”
Here is the 1984 SNL video starring Billy Crystal that Ed mentioned.
Dr. Mark A. Miller, PE is a native-born resident of Texas. After graduating with a BS in Engineering from Harvey Mudd College, Mark began a career in the oil and gas industry as a petroleum engineer. Later receiving a PhD from Stanford University, he went on to teach petroleum engineering at The University of Texas at Austin for 18 years. After leaving UT, Mark established a worldwide petroleum engineering consulting practice and was a founder and CEO/CTO of a small company that provided software to the oil and gas industry. He is currently semi-retired and does occasional consulting.
Mark is married and has two sons and two grandsons living in Austin.
Dr. Miller's background includes extensive knowledge and expertise in oil and gas. As an experienced PhD petroleum engineer and former UT petroleum engineering faculty member.
Mark is the author of Oil & Gas and the Texas Railroad Commission: Lessons for Regulating a Free Society, 2015.
In each segment below both the questions and answers are abbreviated and paraphrased for the purpose of the show notes. They are NOT direct quotes.
Ed: What does a petroleum engineer do?
Mark: The PE is involved in the “upstream” part of the business, which starts at the reservoir and ends at the pipeline. It’s the production phase, not refining, transportation, or distribution. PE’s don’t get involved to much in exploration, which is what geologist and geophysicists do.
Ed: What did you teach at t.u. (Sorry, University of Texas)?
Mark: Reservoir engineering, how fluid flows inside of a reservoir, and forecasting. My subspecialty. It’s both an art and a science (e.g., reservoir modeling).
The field of geophysics is one of the most computer intensive studies. Most Cray computers were owned by oil companies for geophysical modeling.
Ed: Why did you leave teaching?
Mark: Getting itchy to get back out where the action was, at age 50. Got into consulting and started an oil and gas software company to help companies develop computer models to optimize their capital investment.
Ron: Is Peak Oil a myth or a reality?
Mark: A little of both. The idea behind it was developed by M. King Hubbert, a Shell geoscientist. He did not foresee new resource discoveries or new technology that allowed us to produce more. Texas peaked around 1972 near 10 million barrels a day, down to 3 million, but it went back up to 10 million.
Ron: Is fracking a technological revolution subject to Moore’s Law, where costs will continue to decrease?
Mark: Absolutely. Fracking boom started in 2012, wells would pay out in 6 months. Now that oil prices are going down, so are the costs. Efficiency is up, measured by capital spend vs. oil out of the ground.
Ron: Is fracking safe?
Mark: Fracking is absolutely safe. There are issues to be dealt with, but we have long experience how to deal with those issues.
Ron: The process of fracking, injection of wastewater, has found to be correlative, though not causative, to earthquakes and seismic activity.
Mark: It’s not the process of fracking, per se, it’s the injection of large volumes of wastewater near faults can cause earthquakes. They have been small with little damage, and no loss of life. Any damage can be covered by having companies post bonds or purchase private insurance.
Ron: You write in your book that as of 2012, 87% of the world’s energy is based on fossil fuels. The other 13% is mostly nuclear, hydroelectric, and 2% non-hydro renewable. Is green energy economically viable for a modern economy?
Mark: Not totally. Green energy is so subsidize we don’t know if it’s economically viable. We can move gradually, but it cannot take over completely.
Ron: I know you’re a proponent of Natural Gas. What are your views on nuclear energy?
Mark: I’ve always been pro-nuclear. We can figure out a way to deal with the waste. It’s the obvious solution if you are concerned with climate change, since it emits no C02.
Ed: Why would an oil and gas guy want to be the commissioner of railroads.
Mark: What Texans don’t know (fewer than 5% of Texas voters) that the Railroad Commission has nothing to do with railroads. It’s the regulatory agency for oil and gas.
Ed: What’s the reason for not changing the name of the commission?
Mark: Many, but they are all bad, such as the federal government has delegated certain authority and if we change the name we could lose that authority. Or it simply costs too much to change the stationary. Or it’s not a good time for the RRC to go through a big change when the industry is in dire straits. All excuses for bad government to continue.
Ed: Can you explain the difference between mineral rights and surface rights?
Mark: I wish we never allowed surface rights to be separated from mineral rights. You could own surface land while someone else owns the mineral rights, which theoretically goes to the center of the earth.
In Texas, by statute and precedent, mineral rights trump surface rights. You cannot stop a company from coming on to your property and develop. Some companies provide compensation, but they don’t have to, and you can’t stop them.
It’s the only industrial activity in Texas that has an absolute right to be conducted anywhere it wants to be. You can’t put a stockyard in the middle of Dallas, but they can’t stop you from drilling for oil and gas.
Ed: What about groundwater contamination and fracking?
Mark: It has to be dealt with. You can contaminate water, which is immoral and illegal. But we’ve been dealing with this issue for a long time. There is not widespread problems in this area, according to the EPA.
Ed: You are against subsidies for green energy. Are you also in favor of removing subsidies for the oil and gas industry?
Mark: Absolutely. Some are not really subsidies, but more like standard deductions (like depreciation in manufacturing). They are relatively small, but they still should be gotten rid of.
Ed: Is the notion of energy independence for the United States a good idea?
Mark: It’s a silly idea. We’ve talked about it since I started in 1972 and the world hasn’t collapsed. Why should we not be engaged in the worldwide market, like we are for everything else? Why not steel and sugar independence? Why is energy unique?
Ed: Yeah, should we be wine, cheese or coffee independent?
Ron: Has the Texas Railroad Commission (est. 1891) been “captured” by the oil and gas industry, even though it is directly accountable to voters who elect the commissioners?
Mark: They will tell you they are captured. They openly avow their dual roll of both champions of the oil and gas industry and regulators of the oil and gas industry. Railroad commissioners will talk about “our industry.” People complain about it, but won’t vote them out.
Ron: In your book, you distinguish between Command-and-Control (CAC) and Retribution-and-Restitution (RAR) regulatory paradigms. Can you explain the difference?
Mark: There is a role for regulation, almost a quasi-judicial role. CAC regulations are like stipulating that studs must be 18” apart. RAR regulations would say you have to build a good house, and if you don’t you’ll pay any damages. This would allow for experimentation and innovation.
Ron: Yes, you point that CAC regulations allows companies to say, “I followed the rules,” even if they built a crappy house. You also point to the BP Oil spill in Gulf Mexico 2010 as a good example of RAR regulations. We think reputation is far more effective than regulation.
Mark: It’s a good example. The industry was really pissed off at BP. Companies are now operating much more safely now.
Ron: Texas has a Sunset Advisory Committee every 10 years. Do you think the RRC should be allowed to close?
Mark: I don’t think it should be done away with it. Changes need to be made, there is an important role to play to protect competing rights, such as surface and mineral rights. We need to transform and streamline the commission, not do away with it.
Over and over again courts have said that there is nothing sinister in so arranging one’s affairs as to keep taxes as low as possible. Everybody does so, rich and poor; and all do right, for nobody owes any public duty to pay more than the law demands: taxes are enforced exactions, not voluntary contributions. To demand more in the name of morals is mere cant.
–Justice Learned Hand
The Incidence of Taxation
It is well known that corporations, buildings, automobiles, goods and services don’t pay taxes; only people pay taxes (who else is there?).
There are two fundamental principles of tax-incidence in any economy:
- Inelastic agents bear the burden of taxation. Elastic agents tend to escape the burden of taxation.
- Burden of taxation eventually falls upon Individuals.
Economists don’t look at who’s legally responsible to pay the tax, they look at who bears the burden. Most Americans are familiar enough with withholdings to know instinctively that you can bear the burden of taxes without ever writing a check to the government.
Corporate taxes fall on three major groups of stakeholders: Shareholders, Workers, and/or customers.
If businesses can pass along taxes in their prices, they will. However, only those businesses with more relative inelastic demand curves can achieve this. The consensus seems to be that workers bear the largest burden, then shareholders.
Kevin A. Hassett, Director of Economic Policy Studies and StateFarm James Q. Wilson Chair at the American Enterprise Institute (AEI), testified before the House Ways and Means Committee on February 2, 1016, discussing tax reforms. Hassett believes that over 90% of corporate tax burden falls on workers.
Also, check out Aparna Marthur’s article, from AEI, The bad and the bad of US corporate income taxes.
For a contrarian view that corporate taxes fall on shareholders, not workers, see the blog post from the Tax Justice Network: Corporate tax: the great incidence hoax.
Ron and Ed,
I've listened to several episodes of your show now where you guys attack the idea of professional licenses (for doctors, lawyers, etc.) because they impede innovation and decrease competition.
And you've slowly gotten me to agree with you.
Then the other day was talking about the immigration debate with a friend and realized something. Is requiring citizenship or a visa to the US to work here not the same basic problem as requiring certain professional licenses?
Are the same arguments for tighter immigration policies not the same as those for the "need" for licenses in the professions? Couldn't you then argue that citizenship requirements have the same ill affects on our economy (slowing innovation and decreasing competition)?
Perhaps this is something that's already been discussed. Your thoughts?
Two Questions from BJ:
"How is it that no one gets paid on the Starship Enterprise?"
Answer from our friend, Robert Wood:
There isn't money per se in the Federation. You do your job because it's for the greater good. Captain Picard says "The economics of the future is somewhat different. You see, money doesn't exist in the 24th century... The acquisition of wealth is no longer the driving force in our lives. We work to better ourselves and the rest of Humanity." in Star Trek: First Contact (Yes I had to google to find the exact quote) However, there is still money it just seems the Federation doesn't use it. In Star Trek: Voyager, they discuss that the economy of Earth changed in the late 22nd century but didn't explain how. Basically it's a socialist utopia. There is talk at one point of energy credits for using transporters and replicators. But I don't recall Federation credits being explained very well. Theoretically this is a post scarcity economy since these technologies exist. There is currency though. The Ferengi use gold-pressed latinum, whatever that is, which also appears to be the currency for cross cultural trading.
"Is there a term for the double-thank you effect?"
There is now. Ed has coined: Dankenzweite which means "Second thanks" in German.
Hi Ron and Ed,
I'm listening to your podcast about "risk". It's a very interesting topic and you and Ed are discussing this in a brilliant way. Lots of examples and references. Your show notes are very useful also. My list of books to read gets longer and longer after every podcast. Puh! When will I have or take the time to read them? I really don't know!
Could you make a podcast on "witch great thinkers you should follow in years to come". Today, changes happen fast. New business models evolve over night. Where and how can we keep up on knowledge concerning innovation, tech, new business thinking, etc. The Soul of Enterprise is one source. Are there any others to recommend?
Answers: George Gilder, Deirdre McCloskey, Clayton Christensen, Gary Hamel, Don Tapscott, Daniel and Richard Susskind. Also, follow IBM’s Watson, and the entire Artificial Intelligence/Deep Learning movement.
One of Ron’s favorite business books, Against the Gods: The Remarkable Story of Risk, Peter L. Bernstein, 1996. Some notes from the book:
- A revolutionary idea that defines the boundary between modern times and past is the mastery of risk. Until man crossed that boundary the future equaled the past.
- Without risk management, no bridges would be built, homes would still be heated by fireplaces, there would be no power grids, we’d still have polio but no airplanes, and space travel would still be a distant dream.
- Soviets tried to administer risk and uncertainty out of existence through government planning, choking off dynamism and economic progress.
- Gambling is paying to take a risk, but there’s no learning or knowledge gained, unlike entrepreneurial risk-taking.
- Without risk life has no mystery.
- Ben Franklin established the first fire-insurance company, First American, in 1752.
- Essence of risk management: maximizing areas where we have some control over outcomes while minimizing areas where we have no control.
- Chance is only the measure of our ignorance.
- Economist Frank Knight distinguished between uncertainty (nonmeasurable) and risk (measurable).
- Once we realize life isn’t up to the spin of the wheel, we are free souls. Our decisions matter. We can change the world.
- Risk can be calculated when: 1) low uncertainty; 2) few alternatives; and 3) high amounts of data to make estimates.
Another highly recommended book is Risk Savvy: How to Make Good Decisions, byGerd Gigerenzer, 2014. Points made by the book:
- We have a risk-illiterate society.
- 9/11 low-probability events (dread risk). To convince his wife to fly after 9/11, not drive, Gigerenzer says, "If reason conflicts with a strong emotion, don’t try to argue. Enlist a conflicting and stronger emotion."
- He asked his wife: How many miles would you have to drive by car until the risk of dying was equal to taking a nonstop flight? The answer: 12 miles!
- “Many of us smile at old-fashioned fortune-tellers. But when the soothsayers work with computer algorithms rather than tarot cards, we take their predictions seriously and are prepared to pay for them.”
- A system is not intelligence if it doesn’t make errors.
- Hospitals (negative error culture, leads to defensive medicine) vs. Aviation (positive error culture). If aviation had the same culture as hospitals, there would be two plane crashes per day.
- Defensive decision making: Choose an inferior option B to protect itself in case something goes wrong. (procedure over performance).
- Always ask the doctor what they’d do if was them, their son or mother, etc.
- Logic is good for known risks, intuition is better for uncertainty. Heuristics can work in a complex world!
Satisfice (satisfy + suffice) is when you select the first good enough option.
Risk-seeking vs. risk-adverse person classification is misleading.
Ed's Thoughts on Risk
Without a doubt the most misunderstood, yet vitally important area of project management in the market place is risk. Consultants are wary of talking about risk with their prospects and customers. The irony here is that the reason why they are hired is risk.
All projects have risk. They are the elephant in the room that no one will talk about for fear of losing the customer.
Risk, simply, is an uncertain event that if it occurs, will have a positive or negative impact on the project. Risk has two primary components: probability of occurrence (usually expressed as a percentage) and impact of the risk (usually expressed in dollars). Please note that risks, while often perceived as negative, can be positive.
Classifications of risk. Three common ways of classifying risk are effect-based, source-based, and level of uncertainty.
- Effect-based risk classification refers to part of the triangle of truth that the risk might affect, meaning timeline, cost, quality, and scope.
- Source-based risk classification refers to which function or type of activity is associated with the risk.
- Levels of uncertainty classification refers to how much is known about the risk. These include: knowns, known-unknowns, and unknown-unknowns. It is the progression of risks from un- known-unknowns to knowns that is important.
Risk tolerance. The level of risk a project manager or key stakeholder is willing to take is called risk tolerance. The three basic types of risk tolerance behaviors are:
- Risk seekers who prefer uncertain outcome and are willing to possibly pay a penalty to take a high risk if the potential payback is high enough
- Risk neutrals whose tolerance is proportional to the amount of money at stake
- Risk averters who are unlikely to take any risk that is high regardless of the potential payoff
It is most important to identify the risk tolerance of the executive sponsor of projects.
One should try to avoid politicians logic in assessing risks.
No such thing as a bad risk, only bad premiums.
There is no actuarial model for pricing risk by the hour.
Ed mentioned Donald Rumsfeld's infamous video of him trying to explain the effect-based classifications of risk.
Ed and I were honored to interview Rabbi Daniel Lapin for the second time (our first guest to make an appearance twice). Ron has been a big fan of the Rabbi, listening to his radio show, and reading his books, for over a decade.
We only had the Rabbi on for about 30 minutes, so we ran without commercials for the first half of the show.
We covered the following topics with him:
- His 2/6/16 Podcast on The Blaze Radio Network: “There Are No Poor People in America.”
- His thought experiment about paying $20 to prevent suicides, and the three Biblical punishments (Capital, Restitution, and Lashes), and why Rabbi supports all three.
- We discussed Father Sirico’s statement: “I value the truth more than my freedom.” Rabbi didn’t agree. This will be discussed more in the future.
- Does he think taxation is theft? Rabbi, “No, I don’t.”
Rabbi Daniel Lapin, known world-wide as America's Rabbi, is a noted rabbinic scholar, best-selling author and host of the Rabbi Daniel Lapin Podcast on The Blaze Radio Network. He is one of America’s most eloquent speakers and his ability to extract life principles from the Bible and transmit them in an entertaining manner has brought countless numbers of Jews and Christians closer to their respective faiths. In 2007 Newsweek magazine included him in its list of America’s fifty most influential rabbis.
Before immigrating to the United States in 1973, Rabbi Daniel Lapin studied Torah, physics, economics and mathematics in Johannesburg, London and Jerusalem. He quickly became persuaded that God continues to smile on the United States of America and he became a naturalized citizen on what he describes as the proudest day of his life.
Rabbi Daniel Lapin was the founding rabbi of Pacific Jewish Center, a now legendary Orthodox synagogue in Venice, California. He implanted the community’s mission of demonstrating the relevance of traditional Faith to modern life.
Pacific Jewish Center, synagogue in Venice, CA, est. 1978 with Michael Medved, served as rabbi for 15 years
Other Resources and Readings
Ron’s review of Thou Shall Prosper
Rabbi Lapin’s website: www.youneedarabbi.com and www.rabbidaniellapin.com, where you can subscribe to his weekly Thought Tools column, which contain Biblical principles on family, finance, faith, marriage, and relationships.
Rabbi Lapin’s Podcast on The Blaze Radio Network
Ed mentioned the article, A Plea for Culinary Modernism: Why We Should Love New, Fast, Processed Food (pdf). Gastronomica I (February 2001), 36-44.
Ed’s blog post on his grandfather, who used to sit on the porch and say, “I wonder what the poor people are doing?”
Netflix Reinvented HR
Article from HBR Jan-Feb 2014, “How Netflix Reinvented HR.”
Reed Hastings, CEO, 5 tenets to approaching talent:
Hire, Reward, and Tolerate Only Fully Formed Adults—don’t hire the problem 3% in the first place
Tell the Truth about performance—Building a bureaucracy and elaborate rituals around measuring performance usually doesn’t improve it. 360 feedback went from anonymous to signed, then to face-to-face
Managers own the job of creating great teams—no performance bonuses. Market-based pay. Let employee select % of equity, no vesting (no golden handcuffs)
Leaders own the job of creating the company culture
Good talent managers think like businesspeople and innovators first, and like HR people last: I’ve never seen an HR initiative that improves morale!
“There’s no reason the HR team can’t be innovative too.” Ron’s question: is this asking for a barking cat?
And from the Feb 20, 2016 The Economist, Schumpeter columnist in “The measure of a man,” argues that the death of performance appraisals is greatly exaggerated.
Kevin Murphy at Colorado State Univ: “Performance reviews are “an expensive and complex way of making people unhappy.”
IBM, Accenture, Adobe, Deloitte, GE, Microsoft and Netflix have all scrapped annual performance appraisals.
Uber for Trucking
From The Economist, March 5, 2016, “The appy trucker.”
The top 5 airlines in the USA account for 90% of the industry’s revenues. In contrast, the top 5 logistic firms account for 20%. Trucking is much more fragmented (much lower barriers to entry).
Trucking is a $700B per year industry in the USA, projected to grow at 3% per year for the next decade. Yet trucks drive empty 50B miles per year, 28% of the total (25% in Europe). This is incredibly inefficient.
Brokers charge 45% to arrange a haul, but the process is really inefficient. Startup Apps like Cargomatic, in Los Angeles, lists jobs, pings nearby drivers, and arranges payment. So does Transfix out of New York, which charges a 10% commission.
Amazon is working “On My Way,” whereby anyone can get paid for delivering packages.
- The Bridge
- The Certifier
Marina claims that the middleman, far from being disintermediated by the internet, have grown, and that we are all, in a sense, a middleman. Examples of web-based middlemen:
- Powersellers on eBay are 4% of sellers and 50% of sales
- Craig’s List sellers
- CarLotz, flat fee, takes car on consignment, connects buyers and sellers
The End of Moore’s Law?
From The Economist, March 12, 2016, Technology Quarterly, “After Moore’s Law.”
Moore’s Law has had a glorious 50 Years: “Computer power doubles every two years at the same cost.”
Peter Lee, VP, Microsoft Research: “The number of people predicting the death of Moore’s law doubles every two years.”
In 1971, the Intel 4004 had 2,300 tiny transistors, each the size of a red blood cell, which could be counted by a kid with a decent microscope.
Today’s Intel’s Skylake has 1.75B transistors (size: 100 atoms across), at 400,000 times the power. If cars and skyscrapers improved at same rate, cars would be capable of traveling at 1/10th the speed of light, and the tallest building would reach ½ way to Moon.
Three ways computers will continue to become more powerful, but in different and varied ways:
- More clever software (AlphaGo, Watson, Deep learning, AI, etc.)
- The cloud—30% growth last yr, projected to remain until 2018
- Specialized chips for particular jobs
The industry is at an “inflection point”: It needs a replacement for silicon, such as:
- Silicon-germanium alloy
- Electronic blood: provide energy and regulate the temperature
HP, Google, IBM, Microsoft are all entering chip-design business. There will be new tradeoffs on the three key metrics of power, performance, and cost.
Remember: computer firms are not, fundamentally, in it to make ever-smaller transistors. They’re in it to produce useful products, and to make money.” Amd consumers don’t care about Moore’s Law.
Google’s AlphaGo Beats World’s Best Go Player
From The Economist, March 12, 2016, “Showdown.”
Google’s AlphaGo AI beats Lee Sedol 4-1 in Go Series, from The Verge.
(Ed)itors note: Go and Othello are NOT the same game.
Lobby for Driverless Cars
Can Ethereum Restore Online Freedom?
Uber Saves Lives
Ed’s friend had a heart situation, and rather than calling for an ambulance, he called Uber. Hospital said it probably saved his life.
Paul Kennedy’s Biography
Paul Kennedy and Paul O’Byrne experienced just about every practice management course put on in the UK and are graduates of the Accountants Boot Camp, and many Ron Baker seminars. They implemented many in their firm, O’Byrne and Kennedy, Chartered Accountants.
They are candid about the traumas faced in abandoning timesheets and introducing fixed price agreements for all clients – and why they are so glad they did!
Since meeting Ron Baker in March 2000, Paul and Paul have challenged and argued with Ron’s views until they found it easier to go along with (most of) it. Since then they have preached – and practiced what they preached – the lessons in The Professional’s Guide to Value Pricing and The Firm of the Future. They come with first-hand experience and examples of how the message can be explained in a practice setting and the effects it has within the firm, to clients and prospects, and to fellow professionals. They have a core competency in sacking clients, having disposed of 80% of their clients between 1997 and 1999. Their story of this and trashing timesheets are included in three of Ron’s books, two for the ACCA and Implementing Value Pricing, and in the www.verasage.com website in the Trailblazers case studies.
Their firm now has less than one-third of its growing income from compliance work, and negative lock-up (work in progress and debtors).
Taking the lesson of intellectual capital, in 2003 they created the “GOBS MBA” course. This is a year-long, ten three-hour session course of modules that O’Byrne and Kennedy clients (owner-managers of businesses) should have been taught if only they’d been taught it.
A proud father of two and still a keen soccer player, Paul is married to a fitness instructor and won’t have that slice of cake, thank you. He has enjoyed traveling to New York and New Zealand as well as old Australia speaking on VeraSage matters and has initiated course on accountant to consultant as well as designing the VeraTrak software for a professional firm to operate in a timesheet-free zone.
The OBK Story
Paul explains his history of meeting Paul O’Byrne, and how they worked in the same firm, before going out on their own on October 1, 1987. Sadly, Paul O'Byrne passed away in November 2008.
He then explains the firm’s pivot to Business Advisory services and away from compliance services. Mostly this happened because Paul O’Byrne was “bored” with traditional accounting services.
In 1997, they attended the Results Accountants’ Boot Camp, conducted by Paul Dunn and Ric Payne. They realized they had too many customers—around 500. They first fired their largest (audit) customer.
They ended up firing over 450 customers over 2-3 years, freeing up capacity to move into more business advisory services. They developed a “core competency in firing customers. They did it professionally, keeping their reputation in the community intact.
Firing a customer is similar to breaking up: “It’s not you, it’s me, I’ve changed.” They also found them a replacement firm to make the landing softer. They also ended up selling some customers to another firm.
They also lost some team members due to this pivot. Today, the firm has 8 team members.
They developed many consulting protocols and products, and developed a rigorous customer selection criteria. Paul O’Byrne was no longer bored!
Then they met Ron, in March 2000. They thought he was crazy at first, especially Paul O’Byrne who continuously debated with Ron for three years about the concept of eliminating timesheets.
The firm did immediately implement Value Pricing, OBK says the firm became the “Ron Baker laboratory.” The firm didn’t eliminate timesheets until July 1, 2003, that’s how long it took Ron to convince them.
In fact, Paul Kennedy wrote what Ron considers is one of the most powerful arguments for eliminating timesheets, in his essay on timesheets. You can read the entire essay here.
Paul discusses the effect no timesheets has had on his team, and how the firm works. You become obsessed with value. Also, their website says OBK is a “teaching and learning organization.” Ed observes that most firms would not put this on their website, as it makes them vulnerable. Paul answers, “But it’s true, isn’t it, Ed? Why would we be afraid of the truth?”
What makes OBK one of the most innovative accounting firms on the planet?
The OBK MBA. The firm’s internal University offers an MBA to customers and potential customers. This is an intense program, teaching strategy, finance, positioning, pricing, and other facets of executive education, including each student preparing and presenting a case study. Check out the video on the MBA at their website.
VivaTrak. This is the firm’s internal project management program, which they developed internally. It translates the fixed price agreement into milestones, tracking deadlines to the customer, and value earned based on those milestones.
After Action Reviews. The firm diligently does AARs on all work, and Paul says AARs are one of the most transformative processes they have ever implemented. They have also introduced AARs to customers. AARs drive out fear, and develops a culture where people aren’t afraid to admit errors.
Paul points out that AARs can’t just be negative. You have to focus on what went well so you can replicate it.
Renewing Your Vows. “We don’t own these people.” OBK puts every single customer at risk at the end of each contract period. They have a conversation where the first item on the agenda is if they should continue the relationship. Sometimes, the firm wants out; other times, customers want out.
OBK doesn’t want people to stay from apathy. They only want to work with people who they can add tremendous value to. The firm’s success is a direct by-product of how it creates value for other people. Here are some of the questions they ask:
- How are we doing?
- How is this working for you?
- Are you getting value from our work?
- What can we do to create more value?
- Do you still think we are the right firm for you?
Paul wants his entire team to think they are on the last chance with every customer. This enables them to perform at the highest level, to exceed customer expectations and constantly deliver more value (it’s like a value guarantee on steroids).
This scares most firms to death!
Last Questions for Paul
What’s the number one issue facing the profession?
Lack of focus. We try to be all things to all people, and we need to narrow our focus. We can’t be all things to all people. Paul quotes Zig Ziglar: “You need to move from being a wondering generality to becoming a meaningful specific.” Figure out what you’re good at and stick with it.
What’s your advice to any firm out there that’s thinking about making some of the transitions you have?
Take a holistic view of your business. Become focused. Saying no, turning work away. Be comfortable with other accounting firms doing work for your customers. And get rid of your timesheets, as it detracts focus from what your customers care about.