A Self-Correcting Market?

Everyone who has ever studied economics, at whatever level, is already aware of the concept of a self-correcting market; one where any excessive advantage will be removed by other people (or firms) entering the market to exploit those advantages. You can’t sell gasoline for $10 per gallon in 2011, because if there are any other gasoline retailers in your market they can sell gas $5 and appropriate all of your customers (and profits); and if there isn’t already another gasoline retailer in your market, there soon will be. It’s sometimes associated with Adam Smith’s “Invisible Hand” concept – in this case, new retailers would arise to sell gas at half the price, not because they are good or noble, but rather because they can make a huge amount of money by doing so. It’s almost as if an “invisible hand” – which in this case represents their own self-interest – is guiding them toward an action that will ultimately benefit everyone in the community (except for whoever used to have the $10 monopoly of gasoline). Unfortunately, it doesn’t appear that US Airways has ever studied economics…

According to a story that popped up on the Pittsburgh Post-Gazette website this week, starting in January US Air will be the only airline flying between Philadelphia and Pittsburgh, since Southwest has not been able to make a profit flying that route and is dropping it. Southwest had been offering comparable airfares, but US Air was offering assigned seats and frequent-flyer miles that could be used on other airlines through the Star Alliance system, and that gave US Air enough of an edge to make the route unprofitable for Southwest. Under the circumstances, you might expect US Air to raise fares on that route a bit, in order to raise profits as well as to give themselves something they can “slash” later in order to offer “special discount fares” without actually making less money. You probably wouldn’t expect an increase of nearly 600% (from $118 to $698), however…

Now, it’s possible that US Air anticipates that someone else was going to come into the Philadelphia to Pittsburgh run in a few months, and is trying to squeeze some money out of the route while they have an exclusive hold on it; it’s also possible that they believe that their entrenched position, first-mover advantage and goodwill combined with issues in the local economy will make the route too unattractive for anyone to want to start flying it. What they don’t appear to grasp is that even if nobody wanted to get in on the Philadelphia to Pittsburgh run before, they will now – because someone could charge four or five times the previous standard fare for this flight, and yet still undercut the US Air ticket by more than $100. And that doesn’t even consider transportation options which do not involve airliners…

Depending on your exact destination, the two cities are roughly 300 miles apart along Interstate 76. This implies a five-hour trip at moderate speeds, but when we consider that most travelers have to get to the airport two hours before departure, then spend an hour or so in the air, and then wait to deplane and reclaim their baggage, the time differential is only an hour or so. If you need to rent a car at your destination city, this may completely eliminate any time advantage, and even allowing for 31 cents per mile for the trip, you’d still save $500 easily on the round trip. If you’re travelling on business with a four-person team, you could save $2,000 if you drive, and your time differential will still be negligible…

Bus and train travel will remain problematic for business travelers and some other customers, but it seems likely that some additional commuter service will arise between the two cities – because the margin we’re talking about here is rather extreme. All you need to do in order to be competitive in the current market conditions is transport one person round-trip from Pittsburg to Philadelphia and back for less than $698 and less than 5 hours. The problem, of course, is that once a cheaper (and less obnoxious) way of getting from Philadelphia to Pittsburg and back is in place, it’s not just going to go away again once US Air lowers ticket prices to try to compete. Without really meaning to, US Air may just have given birth to entire new industries of competitors…

I don’t own stock in US Air, but if I did, I think I’d see about having an invisible hand (or even a visible one) slap whoever made this particular business mistake upside the head – while I still could…

The Ethics of Greed

Over the last few weeks we’ve finally started seeing some push-back from the far Right over the Occupy movement, with a surprising number of Wall Street insiders expressing indignant dismay and outrage over being treated like monsters and blamed for the current national economic crisis. Several of these individuals have gone so far as to call themselves “small businesspeople” and insist that none of the current economic problems are their fault, since they have broken no laws or regulations. Some of them would probably go so far as to argue that since they were able to earn money and generate wealth for their clients, make large salaries on which they (theoretically) pay taxes, and make capital accessible to companies that could use it to create jobs and expand the economy, they are actually doing more good than harm to the country, or at least the financial community. Given that this is literally 180 degrees from what the OWS movement would say about them, I thought we should discuss it further…

First off, it’s important to consider that there is nothing wrong with a strong desire to make money, assuming that you do it in a way that doesn’t unnecessarily harm anyone else. As we discussed in our post about CEO compensation, if an individual manages to make the company he or she runs successful, bringing a better income for the stockholders, higher wages to the employees, a better quality of life to the community in which the company operates, and generally improving both the local and national economy in the process, it’s hard to say why there is anything wrong with that CEO also making an extremely large personal fortune in the process. I would go so far as to suggest that as long as the CEO is doing things that improve the lives of thousands or millions of other people, I do not care why he or she is doing so, or how the company chooses to reward him or her…

That said, there is no question that some of the financial practices that were commonly used over the past few years did contribute to the current crisis, or that many of these enriched the financial institutions (and their executives) at the expense of poor and middle-class people. Clearly some of the responsibility must be laid at the feet of people who participated in their own downfall; the borrowers who took on mortgages they knew they could never pay in the hopes of “flipping” properties at a huge profit, or the people who borrowed more than the cost of the house (the infamous “110% mortgages”) so they could get into real estate without any of their own money down. But the deregulation that made such transactions possible, as well as the lack of new regulations that might have kept the real estate market from spiraling out of control four years ago, are the direct result of the banking industry fighting Federal regulation tooth and nail for decades on end – ever since the last international financial crisis in 1929, in fact…

You cannot in reason use the law as an excuse for your actions if you were responsible for the passage of that law (or the elimination of any contradictory laws) in the first place. But if we accept that convention, don’t we also have to accept that all of the people who aren’t captains of industry (or owners of hedge funds) should have demanded government oversight of an industry that could, if left unregulated, destroy our entire civilization and way of life? None of the practices that led to the collapse of the real estate market and the near destruction (but for a huge Federal bail-out) of Wall Street are anything that I couldn’t explain to a ten-year-old in a few minutes, and voting for candidates who would pass laws requiring fiscally responsible business practices would involve even less effort, especially if the people who would benefit from such legislation really do make up 99% of the country, as is so often alleged…

So is there anything inherently wrong with wanting to make a lot of money and then arranging the legal and financial conditions that will allow you to do so? Or is it more reprehensible to allow such conditions to exist through ignorance and apathy, and then demonize the people who took advantage of our society’s failure to stop them? How do we find an acceptable balance point between a demand economy (reference any of the attempts at communism over the past century) and no government regulation of anything (consider the Industrial Revolution in the UK and US), knowing that history has already demonstrated the folly of both extremes? And who gets to decide where that point would be?

It’s worth thinking about…

Writing a Business Plan: Operations

Most people assume that the Operations section of the business plan will be the easiest one; after all, you’re just telling the reader what you are going to do. And, unless you are making a bold entry into an industry in which you have never worked, you probably know a great deal about what your new business will do and how it will do those things. Unfortunately, this is where most business plans break down, and also why: YOU know what your company will do, in great detail, but your reader doesn’t necessarily – and your reader is the one who decides if you get the resources you’re asking for. Let’s go over some of the critical points you will want to include…

First, you will want to complete the classic “W5” questions that any reasonable person would want to know before offering anything to your new venture; you’ve already answered What you want to accomplish (the Mission statement) and probably Why (the Vision statement), but now you need to address where, when, and with whom you will do these things. So tell us: where are you going to set up operations? Do you have a location (industrial space, retail space, a suitable vacant lot) picked out? If so, tell us what makes that location ideal (or at least optimal); if not, tell us how you will find one. If you’re going into retail or food service location may be your single most important factor; if your operations are entirely online you may only need access to high-speed Internet connections and a post office. Either way, you need to explain where you’re setting up shop…

Then you should consider when you will start operations, and how much lead time you will need to get ready. We’ve talked about critical path management (CPM) in this space before; it’s the process of working out which steps in your development have to be completed before you can continue (and which ones can be completed concurrently while you get to that point); we’ve also discussed the use of a Gantt Chart (it’s not an acronym; the chart is named for its inventor, Henry Louis Gantt) which lays out the critical path graphically. As usual, neither technique is mandatory, but you will find this part of the plan much harder without them or the equivalent…

With whom is also critical; you will need to lay out how many people you will need for each of the company’s functional areas; if you are planning a divisional structure you should discuss each division separately, and if you are planning for multiple shifts you will want to consider how many people (and which ones) will be on each shift. Some departments (payroll, sales, PR) may not need a second or third shift; others might increase your profits assuming they don’t cost more to operate than you will make during those hours. You should probably include details about benefits, salaries and employee retention plans that you’ve already worked out, although those aren’t as important at this stage…

Once you’ve completed all of those details, it’s time to get into what company operations will actually accomplish. What we’re looking for here is an overview of how the company will go about its daily (and monthly/yearly) operations; how many people, doing what tasks at how many workstations, producing how much product out of how much raw material. If our day shift employs 100 people to run presses and lathes on five different production lines, each of which can turn out 250 widgets each day, then we need to explain how much we can sell 1,250 widgets for, how much the raw materials for 1,250 widgets will cost, and how much we will be paying our 100 operators. If we expect to start a swing shift after a year or so (once we’ve had time to train up supervisors and foremen) and a night shift after two years (if there’s enough demand to support one) we need indicate how much additional input and output we expect, and we should also discuss how we will train and promote new management personnel, as well as any additional facilities we will need to handle the increased workforce (and output)…

Finally, this section should discuss your plans for the future. Do you plan to expand at some point; are you going to move into other products or services, other geographical areas, new products or new technologies? You don’t have to account for all of the possibilities now – especially if there’s a possibility of game-changing technology emerging in your industry during the foreseeable future – but very few of us intend to just set up shop and perform the same operations until we retire. Once you have accomplished all of the things you’re planning to do, what will you do next? This is especially important if you are bargaining for an equity share in your business (e.g. selling stock or taking on silent partners) as opposed to just borrowing money that you promise to pay back – but that’s a discussion for another day…

And They Call ME a Cynic…

Suppose for a moment that you were watching television and an ad came on where an A-list celebrity was driving a sub-compact car through the South Bronx. Let’s further assume that the actress in question has cultivated the persona of being connected to this neighborhood (her home town), and in fact has lines in the ad talking about how she draws inspiration and energy from this place. Now, knowing nothing else about the production of the video, the endorsement deal between the actress and the car company, the contract between the car company and the ad agency, or the product itself, how much of this would you accept just from seeing the commercial?

Unless you are a very innocent and trusting person, you probably don’t actually believe that a random film crew happened by as the celebrity spokesperson was driving around the Bronx; you would realize that people who get paid tens of millions of dollars each year probably don’t drive around in vehicles that cost less than $20,000 (if they drive around at all). Obviously, this is a paid appearance in which the car company is paying the celebrity to use their product in a television commercial in order to convince her fans to purchase similar products – or to convince people in general that they can be like the actress if they buy the product…

If you’ve ever learned anything about advertising or television production you would also realize that even elementary action shots will require dozens of technical people, lead and following vehicles, cooperation from local authorities, police escorts and traffic control, and enough lawyers to field an entire football team, armed with enough contracts to build a stadium. In fact, if you’ve ever seen a film crew working – or seen any one of dozens of “behind the scenes” shows over the years, you’re familiar with the idea that even something as simple as a 20-second commercial takes thousands of person-hours of field work alone. You will probably also recognize all of the clichéd images in the spot (it’s practically a catalog of images you’ve seen in movies and television programs about New York) and realize that even as an effort to establish an image or a brand it’s not a very good one…

You’d have to be a complete cynic to see this piece and wonder to yourself if any of it was actually real; if the ad agency had a production company film a woman of the same approximate size and shape driving the car around the Bronx, stage some scenes and images that scream “New York!” to people who have never been there, and then photograph the actress on a soundstage in Hollywood and CGI her image into the film, replacing the image of the stunt driver. Unfortunately, if you read this story on the Smoking Gun website, it appears that this is exactly what happened with the Jennifer Lopez spot for Fiat…

Now, no one is suggesting that celebrity endorsement are (or even should be) real; most people understand that these are paid representatives of the company who have been chosen specifically to help cast the product (and sometimes the business behind it) in a particular light. There’s even a parody of this in the movie “City Slickers,” where the owner of an ice cream company is asked why he has attractive male models portray him and his partner in the company’s television ads (he replies “If it was us, could you eat?”). I just find it amusing to learn that even my characteristically skeptical view of such offerings was actually less cynical than the work actually produced by the ad agency – which produced an anthem to the Bronx using a woman who may call herself “Jenny from the Block” but won’t actually set foot in the place…

The Whole Story

I was reading a story off of the Seattle Times website the other day and reflecting that sometimes even a really well-written article doesn’t actually tell you everything – or even the most important thing – about the event being covered. Sometimes it’s a matter of the reporter, the editor, or whoever runs the website not getting the facts straight; sometimes it’s rushed reporting or technical problems, and sometimes the people involved don’t really know what they’re doing; and sometimes it’s just that the people behind the story reported the facts accurately, completely and correctly – and missed the one key point that changes the entire nature of the article. It’s another reason to question everything you read, and look at every situation from as many different perspectives as you can…

The story itself seems simple enough, and relatively upbeat for a change. Last Thursday Boeing announced that they had received what will be the largest order in the company’s history; a request from Indonesia’s Lion Air for 230 of their 737 aircraft, including 29 of the new, extended-range version expected for delivery in 2017. This announcement comes on the heels of an order from Emirates Airlines for 50 of the new 777 aircraft, which was the largest order to date in terms of dollars ($18.1 billion USD). Lion Air also has options to order 150 additional aircraft, and over the summer American Airlines announced plans to purchase 200 additional Boeing aircraft of various types (potentially even bigger than either of these deals). One would expect a euphoric reaction from Boeing’s stockholders on this sort of news; however, this might not be the case…

Hidden at the bottom of the page is the notice that Boeing’s stock closed down 25 cents on Thursday, despite the glad tidings these huge orders represent. This could be of no consequence, of course; you’d have to check on the recent trends on the stock price to tell for sure. If you did, you might note that the current price is right about average for the past year (that is, about midway between the lowest and highest prices in the previous 12 months), or that the stock price has improved a bit since October but has not changed significantly over the past week. The actual value of a stock depends on a broad range of historical and accounting factors, and you will need some fairly complex equations to work out what it should be, but the key point here is that none of the people who make their money by speculating on how a company will perform (and whether its stock will increase in value) are reacting in the way you would expect them to react to the news that the company has just received its largest order ever and is now expecting an even larger one…

Now, I don’t pretend to have any expertise in the analysis of stock prices or probable future values; that’s a specialist function, and on my best days I’m just a generalist with a talent for spotting trouble. But then that’s the point – I don’t know what is going on here, I just know that something is missing from this picture. It might be nothing, or it might be the key to figuring out what an entire manufacturing sector is going to do for years or decades to come. But you’re not going to find out what it means without a great deal of additional research and analysis – and you won’t even realize that something else might be going on if you just take the original story at face value…

With the rise of computerized intelligence gathering and analysis software, and expert systems that can extract the one key piece of information you want from a database containing millions (or billions) of entries, it’s easy to forget that the machines are only as good as the people running them. I’m not saying that there is any hidden meaning in this simple story about large product orders being placed with Boeing, let alone that there might be some sinister warning concealed within the text. But just as you should never believe everything you read, you should also never assume that a given article is giving you the complete truth or the whole story…

Beyond Stupid

Sometimes I get wind of a story that goes so far beyond our usual chronicles of stupid business decisions that I can’t even come up with a bad metaphor to explain just how stupid it is. Unfortunately, sometimes I get stories that are even worse than that. This one came up over the weekend, and while I won’t name any names in order to protect the innocent and avoid being sued by the guilty, I wanted to share it with my readers (assuming I have readers) as an example of something that starts out dumb, gets stupider, and then plummets to a level of stupidity that I have rarely encountered even in seven years of management consulting and six of graduate studies. But the really scary part is that there are probably people working for your company right this minute who will fail to understand why these events are a problem…

The story goes that an acquaintance of mine is working for an insurance company and has become one of their top sellers – her last quarter went over a million dollars in sales. Because she had topped out the company’s incentive program, she was in line for a bonus of $50,000 for the year. Someone at the company decided that $50,000 is a lot of money, and since they already had the million dollars worth of policies, they could dispense without the person who sold them, so they laid off our heroine just short of the deadline for paying her bonus. Someone associated with the company was heard to remark that for $50,000 they could hire two new people, although we should probably not assume that was the reasoning behind their decision; it doesn’t appear to be that well reasoned…

Now, just on the surface of this story we can already see that the people making this decision are idiots. Two new people will not be as productive as one of your best people, especially in a case where experience, personality, and selling skill are required. This is a short-sighted decision which may save the company money this quarter, or even this year, but will cost it far more once the current fiscal year is over. But that’s only the beginning…

On a second level, this decision will almost certainly cost the company any additional business from those clients who purchased products from our heroine. Insurance is a relationship-based business, and people tend to become very loyal to their agents, not to the companies they represent. When the clients who made up that million dollars in sales find out that their agent has been let go they are highly likely to follow her to wherever she ends up – and take their business with them. Moreover, they’re likely to tell their friends and family about this incident, and get as many people to come with them as possible. But that’s still not the worst of it…

Consider what this idiocy does to the company’s incentive program as a whole. They’ve just demonstrated to all of their remaining personnel that not only will they attempt to screw anyone they can out of his or her incentive money, but also there is a non-zero chance that if you perform exceptionally well for the company you will simply be fired for your trouble. It seems unlikely that any of their people will ever risk reaching that last level of incentives, which means that anyone who gets close will probably just slack off for the rest of that quarter (or year). In other words, they haven’t just lost their best seller; they’ve also destroyed any other personnel who had the potential to perform at her level…

Of course, none of that even considers all of the other personnel who will see this as writing on the wall and jump ship to the competition, taking their own client lists with them. So I suppose we can add a fourth level of stupid to this pile. I’d call it a cautionary tale, except I really doubt that any of my readers (assuming I have readers) are silly enough to try something like this. A much better question is whether anyone to whom you report is likely to try something like this. If so, you might want to consider getting your resume updated…

The Ethics of Occupation

I’ve written about the Occupy movement in our regular posts, and I don’t propose to discuss the ethics of their platform itself. If you believe in representative democracy in the first place (and I do) then there’s no question that people should have the right to petition the government for redress of grievances, and whether you agree with the exact points on the “99% Declaration” or not, we can’t really argue that the protesters have the right to raise those points. What I’m asking in this particular case is whether we can support the actual method of protest they’re using. There’s a great history of sit-ins and public demonstrations, not just in this country, but in the world generally; it’s hard to argue that such tactics have led to actual change in the world. However, as we’ve frequently noted, it’s a new world – and this particular protest has taken on some new twists as well…

Consider, for example, that most of the points the protesters are raising are directed at our Federal government, not at any of the companies or entities they are actually camping out around. City and State governments can’t change whether members of Congress have term limits imposed on them, for example, and no one on Wall Street can overturn the Citizen’s United case (which granted corporations the right to protected speech, including campaign donations) even assuming that it wouldn’t be silly for them to want to do so in the first place. From a purely functional standpoint, it’s difficult to see how shutting down the Port of Oakland or camping in a park at the end of Wall Street will impact the creation of Federal law; such actions may communicate the anger and disgust the protesters are feeling, but the people they’re inconveniencing are mainly longshoremen and street vendors – not exactly members of the 1%. And the Occupy Washington group was initially so small that the right-wing opposition started using those numbers to mock the movement as a whole…

Then there’s the “collateral damage” aspect of these tactics. In Oakland we saw the emergence of disruptive and criminal elements, which turned a peaceful protest into a riot and gave the local authorities the justification they needed for attacking unarmed people with clubs and chemical agents. Things haven’t gone as far into the weeds anywhere else, but most of the Occupy encampments have had problems with thefts, local criminals using them for cover, and some of our more reprehensible law enforcement personnel using the protests as an excuse to beat up innocent people. There have also been reports of the camps themselves (and the police lines around them) interfering with local businesses, which is definitely not impacting any giant corporations, but might be harming local people who are just trying to get to work, do their jobs, or make a living. And while all of these things may ultimately be the fault of corrupt, violent or stupid local officials, there’s not much question that none of it would be happening if the protesters had chosen a different set of tactics…

Members of the movement would probably tell you that if their goals are achieved the result will be a better world for everyone, and that the occasional inconvenience or loss they’re causing will be repaid a thousand times over by a better economy, a better system of government and a better life. And for all you and I know, they might be correct – but that’s still too close to an “ends justify the means” argument for me to be comfortable with it. So I feel compelled to ask: given the obvious difficulties with this method of protest and the possible consequences to people who have nothing to do with the injustices being protested in the first place, is the occupation of Wall Street (or anywhere else) really an ethical response to the situation? Can we really dismiss the concerns of everyone who opposes these protests as merely part of the problem, or should we extend those people the same right to be heard that the protesters are demanding for themselves? And perhaps most important of all, who gets to decide?

It’s worth thinking about…