SOPHISTICATED FINANCE

Self-organizing Systems

For some time I have been looking for a phrase that describes what I think is the future direction of software. Frog Design provided the phrase in this story, "We Are the Builders of Tech Revolutions. Why Are They Still a Surprise?" Frog predicts that software will be "self-organizing" by ~2030. Whether Frog and I agree on the meaning of self-organizing is not important.

I define self-organizing to mean that the software has sufficient data about the user combined with well developed artificial intelligence sufficient to predict an experience equal or better than the user could do. The experience might be a purchase such as a vacation trip or a list of recommended books to read or know who of your friends to send an article to. In the work environment your archive of information would dynamically connect with co-workers around the world who show the same degree of seriousness about a subject and create meta tags (or whatever is in use then) so that similar articles are more easily available to you regardless of how one person tagged them.

The information capture about you is already there. Note the Facebook ads you keep getting until well after you buy the new bag you researched at Michael Kors. The AI software probably needs a bit more time to reach the standard of designing a vacation as well as you would do it, but another ten years should be sufficient. A lot of data is being run through that AI software in ten years and the software keeps learning.

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How to Define Social Benefit

Sometimes defining words drives me crazy for years. As yesterday's post might indicate "risk" is one of those words. I really like the concept of equating risk with "variance in cash flow" in business usage.

"Social" is another such word that perplexes and annoys me. I cannot understand why this word should have implied normative value, as in social benefits. Social is derived from "society". Social is a characteristic of a group of people. A group of people is a "society".  So, society is the sum of the individuals.

Ostensibly capitalism allocates the resources to satisfy individuals and their needs. What capitalism cannot allocate resources to, probably because such a thing cannot attract investment capital, might just be a social benefit. For example, no performing arts center can attract investment capital so maybe such a project is a social benefit.

Social benefit looks a lot like a public good. My rather detailed thinking on the subject is in this post, "Public Good". Until further notice, this capitalist is defining "social benefit" as public good.

Emotional Engagement is the Key to Sales

This post is a synopsis of my lecture today in my three entrepreneurship classes.

It is widely recognized that a product/service must induce emotional engagement by a customer for a sale to occur. Seems simple enough an idea, but in practice it is quite challenging to achieve. Many would say that if you solve a customer problem, you will generate sufficient emotional engagement for a sale. Solving the customer problem is necessary, but not sufficient--especially in a competitive market.

One way to think about emotional engagement is the increasingly popular Golden Circle. Simon Sinek popularized this technique in his Ted Talk in 2009 where he discusses a three-part communications strategy of why-how and what. Personally, I like the fact that a process was being applied to understand emotional engagement and communicate it, but the talk, despite its popularity, was insufficient for me to be able to apply it until recently.

The hard part of the Golden Circle is picking the "why". Everybody can answer the "what"--the product or service--and "how" is also straight forward. The "why" is the key to achieving that comparative advantage in emotional engagement.

Fortunately a recent Fast Company story, "Want Your Kickstarter To Work?", provides such an excellent example of the "why" that even I now get it. Make sure to watch the video in the article, where the concept of "why" is beautifully illustrated.

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Leadership Requires Wisdom

Smart Blog had a post yesterday,"What is the most important trait a leader must cultivate?". The article had a list of ideas from successful tech CEOs under the age of 40. The list included passion, perseverance and other frequently mentioned qualities. After I read the list I was bothered. What was missing from the list was any mention of the importance of wisdom in a leader. In fact, wisdom may be all a leader needs to be successful, but that idea requires further thought in a later post.

Google (with no attribution) defines wisdom as:

"The quality of having experience, knowledge, and good judgment; the quality of being wise."

This is not a bad definition, but I think it focuses more on how to become wise rather than how to be wise. The relatively small number of people who are wise have three characteristics:

1. Focus
2. Fair
3. Calm

Focus

Focus means that one is always considering the overall mission of the organization. Every decision is considered in the context of what it does to further or achieve the mission or sustain the organization so that it can achieve its mission. Essentially, focus means that the wise leader always frames the question properly so that it is considered in terms of the mission. Identifying the problem or question properly is the hard part. Solutions are comparatively easy. By framing the question properly the leader demonstrates good judgment, a type of perseverance and communication skills sufficient for an organization to move forward effectively.

Fair

While focused on the mission, the leader is always fair to all stakeholders--shareholders, employees, suppliers, community, etc. Good decisions are always beneficial to all stakeholders. To demonstrate fairness, a wise leader is always moral and legal in their behavior. The wise leader is not political because the concept of fairness, by definition, has no need for politics. Some might argue that a leader needs to be compassionate, but I think that fairness is sufficient. Transparency and open communications are part of fairness.

Calm

In times of crisis, the leader needs to be the unemotional, deliberate one who  insures that everyone remain focused. By being deliberate the organization has time to properly frame the question and increase the likelihood that the organization survives. At other times even wise leaders may show certain emotions that are not constructive, but as long as they are fair to stakeholders they can still be effective leaders.

 

"Not all smart men are wise, but all wise men are smart"

Anonymous

I will refrain from using the current mess in Washington to further illustrate the points in this post. Suffice it to say, read the quote immediately above.

 

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The Secret to Marketing

The best definition of marketing I have seen is "customer acquisition and customer retention". It is simple to understand and focuses on just two objectives. (The definition was developed by a professor at HBS, but I cannot remember which one.) 

When we look at customer acquisition, the subject of this post, we are all familiar with the basic principles of customer need and changing customer behavior. We are also familiar with the concepts of customer engagement and customer experience. Recently empathy has gotten a lot of coverage as a key concept in marketing. All of these concepts are important but none of them address the most fundamental issue in customer acquisition--build an emotional reaction.

Let me use Ernest Hemmingway's best story (in his opinion) to illustrate the point. The story reads as follows:

"For sale. Baby shoes. Never used."

In only six words Hemmingway engages you emotionally and the emotional reaction is profound. Perhaps you react because it is a child, perhaps it is grief, perhaps it is all your associations with baby shoes, perhaps it is a combination of these factors. 

A recent experience drove home the importance of emotion. My niece recently got married. The number of posts, pictures, likes and comments dwarfed any other event I have seen in my feed on Facebook in the last several years. While both the bride and groom appear to be popular--why such a large response to another wedding? Everyone has an emotional reaction to weddings. Weddings like babies always generate emotional engagement. The same is true for food pictures. Everyone associates food with an emotion, whether it be family, friends, their vacation in Japan, the night they got engaged or some other event positive or negative.

At this point you may be saying that emotion is fine if you are selling baby strollers or flowers, but how does it apply to a tech product like Dropbox. Dropbox generates an emotional response the first time you save a file to Dropbox. The simplicity and elegance of Dropbox brings one a profound peace of mind. The same logic applies to FlipBoard and Instagram. While everyone one talks about ease of use in UI, the more profound point is that simplicity and elegance initiate a positive emotional reaction. Facebook works because it speaks to everyone's need for self-esteem. Twitter works because it speaks to our need to be part of something, to belong.

Now let's look at Salesforce, one of the first successful B2B products. How does a business product generate emotional reaction. First remember that a person buys the product. That person makes their buying decision first on the basis of emotions, then on price, features, service, etc. Salesforce speaks to the emotional need to control things of importance for a successful outcome.

When you consider customer acquisition strategy for a new product the most important thing to understand is what emotional response are you trying to trigger and how will you do that. Understanding customer need and empathy are critically important but until you can frame the product and its messaging in emotional terms one does not fully understand the customer. 

Image credit: Happifyblog.com

Passion and Discipline

It has been stated many times that passion is a key to success, whether in business, research or art. Passion can be defined as an intense, enduring motivational feeling or conviction, which extends beyond romance and sexual activity. Passion is one of several emotions we all feel. 

Schopenhauer said that art is the physical expression of emotions. This insight is both profound and useful. It is profound perhaps because of the simplicity it brings to understanding art. It is useful in that it focuses the creator of art inwardly on their own knowledge. Maurice Sendak, not surprisingly, said it better--"knowledge is the driving force that puts creative passion to work".

However, why are so few of us able to use knowledge to produce art? Part of the answer is found in this quote from Isabel Allende, "Writing is always giving some sort of order to the chaos of life." Writing and art comes from the processing of emotions and knowledge in order to reach an understanding. Therefore, art comes from a commitment to reach understanding and the commitment is grounded in discipline. Ursula Nordstrom stated this point beautifully, "emotion combined with the artist's discipline is the rarest thing in the world".

While this post focuses on art, the "trilogy" of passion, knowledge and discipline is a recurring pattern in most creative people regardless of their area of interest. The theme of "order from chaos" also recurs not only in art but also in science and math and perhaps other fields.

This post was inspired by a post on Brain Pickings, "Conjuring Cohesion and Purpose: How Ursula Nordstrom Cultivated Maurice Sendak’s Genius". 

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A Refresher on the Fundamentals of Capitalism

I am very fond of asking my students to define the words they use. For example, I have yet to find a student that has a good definition of marketing, despite the popularity of marketing courses in business schools. Suppose I asked you to define capitalism, the intellectual and practical foundation for business. What would you say? Drum roll....

Capitalism is "the free allocation of capital by individuals in the service of their individual ends (within the framework of a fully competitive market)". (paraphrase of Milton Friedman) 

This definition comes from a new working paper at HBS by Rebecca Henderson and Karthik Ramanna titled "Managers and Market Capitalism". The paper argues that businesses have a moral responsibility beyond Milton Friedman's dictum to maximize shareholder returns. The authors argue that businesses have a moral obligation to serve society by preserving free markets and capitalism, which is in their self-interest, and not just satisfy the self-interest of shareholders. Essentially without capitalsim and free markets the shareholders would most likely be harmed. Therefore, egregious behavior, such as the 2008 financial crisis, undermines the integrity of free markets and is therefore immoral.

The authors provide a moral framework around the writings of Milton Friedman through a very insightful discussion of the history of the economic principles that underpin his thinking. Friedman's thinking was in large part based on the original liberal thinking of Hobbes and Locke and further advanced by Friedrich Hayek. The economic history lesson alone makes the article worthwhile for anyone who needs a refresher in the fundamentals of capitalism.

I also think the article is the best development of a moral framework for capitalism that I have read. The power of the argument is that the authors derive the requirement for moral behavior from classic economics writings alone with no reliance on another discipline. Putting Friedman in a compelling moral framework is long overdue. 

The article is here  Download SSRN-id2231526. Simply a brilliant article.

Another perspective on capitalism from another group of HBS professors is here. "Capitalism at Risk", despite the title, presents views consistent with Henderson and Ramanna albeit derived from a totally different approach . Not as rigorous an approach but equally insightful.

 

 

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Economics as Moral Science

Having taught entrepreneurship now for eight years, I find that many students use words that they cannot actually define. Such a word is "economics". Every business student takes macro and micro-economics, but how many students can give a concise definition. Fortunately Ben Bernanke, Fed Chairman, provides an elegant definition.

In a speech reported in Businessweek, Bernanke defined economics as " the allocation of scarce resources". Bernanke then went on to ask why we do economics, which lead to a discussion of the close relationship between economics and government policy. Bernanke believes that all the focus on economic indicators masks the real objective of economic policy and government. Quoting Adam Smith, Bernanke stated that government should provide "secure tranquility", what some would call happiness. Bernanke then went on to describe the Bhutan government index of happiness as possibly a better way to measure economic performance because it moves away from materialistic measurements in favor of more personal benefits. This concept moves us closer to Robert Schiller's (Yale economist) view of economics as a "moral science" where economics is “driven by the broad moral purpose of improving human welfare.” I like this concept because I find it hard to believe that the great (economic) thinkers have consistently ignored morality. I believe that even Milton Friedman, the "bad boy" of 20th century economics, recognized the need for morality in economic systems.

If we accept this concept of economics, the distinction, for example, between social entrepreneurship and traditional entrepreneurship may become trivial. The implied normative judgment in social entrepreneurship is not necessary if economics is a "moral science". Need to read more Schiller.

This is the link to the full Businessweek story. The story has many other interesting points on the history of economic thought and the changes in economics in periods of crisis.

Finance Term--Civets

For years I have been trying to introduce into common English usage the word "bozette". A bozette is a female "bozo". I have had little success but never the less I carry on. Now to "Civets".

Civets are the group of six emerging market countries just below the BRIC countries in terms of economic attractiveness. The countries include Colombia, Indonesia, Vietnam, Egypt, Turkey and South Africa. According to this story in the FT, the term "Civets" was coined by Michael Geoghegan, former chief executive of HSBC, to define an investment product for this country grouping.

 

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Passion

This is the third in a series of posts defining the three characteristics of successful entrepreneurs:

1. Focus
2. Discipline
3. Passion

Focus and discipline are defined here and here respectively. Today's post is devoted to "passion".

The Merriam Webster dictionary defines passion as:

 Intense, driving, or overmastering feeling or conviction

I would define passion as:

Intense, enduring motivational feeling or conviction

Enduring expresses the idea that passions are not fleeting.The insertion of "motivational" captures the notion that passions bring about actions. There is no passion without acts that demonstrate it. Conviction as opposed to "belief" demonstrates the "certainty" of passion.

All three characteristics of the entrepreneur are important, but passion is what sustains one in the challenges of a startup and insures the time and energy for discipline and focus to produce the desired results. The wisdom in entrepreneurship is in knowing when to use discipline and focus. Passion brings about action but discipline and focus put it on the correct path.

Image credit

 

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Discipline

In yesterday's post I defined "focus", one of the three characteristics of successful entrepreneurs. (The "focus" post is here.) The other two characteristics are:

1. Discipline
2. Passion

Today I will define discipline.

The Merriam Webster dictionary defines discipline as:

" orderly or prescribed conduct or pattern of behavior"

I think this definition is almost correct but it has a certain "military" flavor to it that may not be instructive in a business setting. I would define discipline as:

A systematic and routine approach to properly complete a task

"Systematic" captures the step by step approach inherent in discipline. "Routine" implies that the behavior can be repeated and is not a "one off" event. "Properly" suggests that there is a correct way to do something. Discipline applies to a wide range of behaviors from sitting properly in a chair to weight lifting or solving math problems. 

I think that many people lack discipline not because they lack will power or focus. I think many people lack discipline because they do not recognize that a discipline can be applied to a situation or problem. One of the shortcomings in education is that we teach disciplines such as discounted cash flow or marginal cost but we do not devote enough time to helping students identify the situations where the discipline can be applied. I think one of the clearest signs of intelligence is the facility to recognize a situation where a discipline can be applied. When one sees a problem, first look to see if there is a discipline that applies to solving it. More often than not there is a discipline.

A reader wrote me on yesterday's post about "focus" and asked if focus and discipline were not the same thing. Focus is about the singularity of the goal and acting consistently to achieve it. Discipline is a toolset that leads one to select the correct options and achieve a productive focus.

Now I have to go load the dishwasher, which according to my wife involves a discipline. See--everything has a discipline.

Image credit

Focus

My friend @johnfleming sent me a link to a Seth Godin post on focus. In the post Seth said:

"Focus involves eliminating options until you have so few moving parts that work

actually gets done."

Focus is one of the three key qualities of almost all successful entrepreneurs. The other two qualities are:

1. Passion
2. Discipline

Obviously these three characteristics make for success in many other fields but are particularly important in entrepreneurship.

Many words in business are used frequently but rarely understood. "Marketing", "empowerment", "collaboration" and "focus" might all be examples of terms that are used but rarely defined correctly. Seth's definition of focus captures the concept of options, which I think is an important part of focus but I think there is a better way to look at "focus", as described below.

Focus is the consistent exercise of options that move one toward a goal.

I think this definition is more constructive and actionable. Eliminating options does not necessarily lead to anything. I think I will define passion and discipline in the next posts.

A related story on simplicity and elegance is here.

Image credit