A GOOD scientific experiment will follow 7 steps. The type of science can change: biology, chemistry, physics, mathematics, computing, management consulting – but the steps remain the same.
1. Aim
Clarify the questions that the organisation is trying to answer: Who, What, When, Where, Why, How? For example, the organisation may come to you with two questions (1) why are we losing money? (2) what should we do about it? You need to clarify these aims so that you can write down a clear objective:
When we say “losing money”, are we talking profits or revenues? Answer: profits
How much money did the company lose last year? Answer: $5M
Are you aiming to break even, achieve a specific profit target, or gain market share? Answer: break even
When do you want to achieve this objective? Answer: within 1 year
2. Background
Clarify the situation so that you can develop an initial hypothesis. To do this you may need to ask a few questions. For example:
How long has the company been losing money?
Are competitors also losing money?
Have there been any recent changes that might explain the drop in profits?
3. Hypothesis
State an initial hypothesis based on the background information that you have. This gives you a starting point from which to begin your analysis, and you can refine your hypothesis when new information comes to light. For example, your initial hypothesis might be “that the company is losing money due to a drop in revenues.”
4. Method
Develop a structure for analysis that will allow you to refine your hypothesis. To identify the source of lower profits you may want to can use the profit framework.
5. Experiment
Progress the analysis.
6. Discussion
Summarise the results of your analysis and update your hypothesis each time you discover something important.
Very few people have ever managed to achieve his level of investment success. The interesting thing about that fact is that there are only a few simple principles that you need to know if you want to be a successful value investor.
Stick to your Circle of Competence – only invest in companies that you understand.
Value Stocks as the Part Ownership of a Business
Focus on Intrinsic Value – determine the underlying value of a business rather than looking at how much the market might be will to pay. Factors to bear in mind when figuring out the value of the business:
Business Drivers – what is the company’s business model? How do they make money?
Low Leverage – how much debt does the company have? You want to see as little cash going out of the business as possible.
Cash Flow – how much cash flow does the company generate? You want to see more and more cash coming into a business over the years.
Sustainable Competitive Advantage – what kind of natural advantages does the business have? To sustain and grow earnings the company needs a large moat with alligators in it. Large moats might come from (1) strong brand, (2) patented technology, or (3) incumbent low cost position in a market with economies of scale.
Prospects for Growth – what kind of profitable opportunities are available to the business?
Quality Management – the company needs honest and able management because an investor should not need to keep checking whether management is doing its job.
Invest with a Margin of Safety – there is always investment uncertainty, so the price should be low enough to ensure that you have a “Margin of Safety”.
Think Independently – it is difficult to outperform the market if you follow the market. Think independently and “be greedy when others are fearful”.
Printing money is the last refuge of failed economic empires and banana republics
QUANTITATIVE EASING is a monetary policy tool sometimes employed by central banks to stimulate the economy when conventional monetary policy becomes ineffective.
To stimulate the economy, the central bank normally carries out expansionary monetary policy by lowering short-term interest rates through the purchase of short-term government securities. However, when the short-term interest rate gets close to zero it becomes impossible to lower the short-term interest rate further and so this policy tool can no longer be used to stimulate the economy (the liquidity trap).
When faced with the liquidity trap, the central bank can shift the focus of monetary policy away from interest rates and towards increasing the supply of money (quantitative easing). To increase the money supply, the central bank buys government bonds and other financial assets with newly printed (or more correctly, electronically generated) money which will increase excess reserves in the banking system. The central bank hopes that banks will use these excess reserves to increase lending which will help to stimulate the economy.
When a government increases the money supply, this will lead to higher prices because there will be more money chasing the same amount of goods and services. In other words, printing money (quantitative easing) causes inflation.
THERE MAY be a business school bubble for other people, but not for you.
Whether you are buying into a bubble depends on whether the cost of what you are buying significantly exceeds its intrinsic value. For most assets, you can find the intrinsic value by looking at the expected return – the more money the asset puts in your pocket, the more valuable it is. This works well for stocks and bonds but not quite as well for education, and rather poorly when that education is from a top business school which offers some very attractive non-monetary benefits:
Personal branding derived from the brand name of your MBA school will stand by you for life. “Oh, you’re a Harvard graduate, good man, let me open some doors for you!”
Social status derived from the prestige of your school may be a particular boon if you are a man. A first year psychology student once told me that women look for just two things in men (1) status and (2) resources. (Given the cost of attending a top business school you had better work that social status to your advantage.)
Networking with smart, well-connected, ambitious and successful business school students will help you discover new ideas and unforeseen opportunities.
Positive emotions are contagious and by associating with the happy and fortunate people whom you find at business school you may be able to achieve more than you ever thought possible.
