business Archives - Page 15 of 20

Changing the story

Insurance seemed like betting against your death or misfortune and some people don’t want to bet on your personal downfall so they don’t want to buy insurance. For years, the industry have been trying to change the story and they settled on the idea of protection, financial protection against those misfortune.

In principle, that works theoretically but the issue is that a lot of what you pay for is sales and distribution. The structure of the industry is such because insurance works well only when the risks are being pooled. That means having lots of people paying the premiums in order to support payouts during adverse events. As a business though, it means that the firm is ultimately a sales and marketing organisation. Costs will have to weigh disproportionately on the distribution side of the business.

This is a shame because the society needs insurance. Yet it is a market failure; the market system allocates resources poorly in this market. It can be better designed through a mix of regulation and making it mandatory to have certain amount of cover. The government should not think the market will help reduce cost of insurance through competition because the basis of competition in this market isn’t so much pricing. It is more sales, marketing and tactics.

But isn’t it just like many other products? For luxury products, yes. Basically for things people don’t actually need, you can allow the whims and fancies to be shaped by the market. But when it comes to insurance, you want the market to deliver an outcome so you need to design the boundaries and structure to make it work.

The story of insurance should be that of mandates, regulation, and basic necessity and right of people. We come together to live in highly urbanised environment and it should be a no brainer for us to risk-pool and mutually insure. There’s no excuse for this market to be hijacked to support high-flying salespeople.

Two-part tariffs

In economics, when there’s even some monopoly power, the business can set prices and still have people buy their products. There is monopoly power everywhere; local convenience stores can price the way they do because there are some customers who are unable to switch providers or move. And so the businesses can price their products and somehow structure the pricing to be two-part tariff, which mean they can charge you a fixed fee and then layer on additional charges per unit of consumption.

They can take various forms. For example, a bakery can charge you $10 annual membership and give you 10% discount off the breads that you buy from them for the entire year. This way, they charge you a fixed fee and then get you to pay for more per marginal unit of consumption. The gym charges you a single registration fee and then monthly membership. Even devices such as reMarkable which is an e-ink writing tablet is selling its tablet and then charging people for a monthly subscription that allows people to sync their notes to various platforms, have unlimited storage, etc.

Even the smart phones involves getting you to pay for the device, then charging you for apps or gaining more revenue from additional services you use on the phone. The tariff structure has an alluring quality of pricing the overall good at almost marginal cost. Or does it? That’s what economic theory suggests but it is unlikely to be the case on digital goods and services. They are probably being priced at the long run marginal cost plus a premium to support long term development and innovation. Is that an efficient outcome? It’s hard to say.

What is more interesting, is that the two part tariff structure creates more stickiness for the customer to the producer. Having already paid for the first part, the customer tries to make more use of that, averaging down his/her cost per unit of consumption. This is the use of sunk cost fallacy and faulty thinking to trap consumers.

Unfortunately, it does work.

When you know something

When do you choose action when you’ve the knowledge? For example, when you know that your boss is saying something that is wrong to the client, when do you choose to correct him (or her)? What would you say?

What about when you know that you’re generating more trash by using the disposable takeaway container, or the cutlery? How about when you actually have a reusable container to use but wonder if it’s worth the effort to wash it? How do you balance your knowledge with your actions?

For far too long, we recognise that awareness and knowledge is the first step. But then getting from this first step to the point of action where it really makes an impact seem like a mystery. Psychologist probably had less luck figuring this out than marketers and social media platforms. The world’s most intractable problems are not to be solved through knowledge but action – how much would knowledge spur action, and how the mechanism works remains much of a mystery. But whatever we discover that we can do, why don’t we direct it towards helping to drive positive action towards the most challenging problems that mankind faces?

Downward counterfactual thinking

Counterfactual thinking is a concept in psychology that involves the human tendency to create possible alternatives to life events that have already occurred. I’ve no doubt this is a sign of intelligence and it is a residue in our ability to project forward into the future. After all, if you can imagine the different possible futures, you could also imagine different possible pasts.

The question is whether the content of your counterfactual thinking is upward or downward. In other words, do you think the reality could have been better or do you think things could have been worse? People could be more positive when they consider that something worse could have happened rather than the actual outcome. In that sense, downward counterfactual thinking is actually a habit or strong mental re-frame that helps improve our well-being.

Nevertheless, the mind tends towards negativity because it sticks more than the positive. What I think is interesting is that different positions we are in can cause us to have inclination towards upwards or downwards counterfactual. It is interesting how being in second place encourages upward counterfactual thinking more than being in third place – just because you only have one person in front of you. So there are some kind of defaults that our counterfactual thinking drifts towards.

That’s not to say you can’t change your defaults. Part of my coaching practice especially around mindset shifts is exactly about that.

What do you do with slack?

I recently spoke to a financial advisor. Not an independent one, just from a firm who was not tied to a single insurer. The idea is getting the best deal, the most competitive deal. This is a marketing business, about serving clients, reaching people. That’s a shame because financial planning should be about brains and not how much you like someone.

But maybe I’m ahead of myself because if brains mean to be able to optimise very well, lowering premiums as a share of overall risk cover, or increasing cover while keeping to the same levels of premium, then it’s not always that good. We need slack in the system. People who might be idling at any one time you sample the workspace. You need to ensure there is breathing space, chattering space, ideation space.

We pay for slack all the time; do you use up all your mobile data and telephone call minutes every month? Do you boil only enough water for a single pot of tea each time? Slack is not a bad thing and over-optimisation creates risks. Perhaps the risk is small but there is always a trade off to be made.

Malicious obedience

I have been going through Bob McGannon’s Linkedin course on ‘Leading with Intelligent Disobedience‘, he brings up the concept of ‘malicious obedience’. It is the behaviour that follows from ‘well, if that’s what you want’. And it is probably what we engage in more often than we are proud of.

I think by juxtaposing intelligent disobedience with malicious obedience, one suddenly recognise rules for the place they should be. Yet more often than not, we follow rules somewhat blindly, out of laziness, fear or lethargy, when there might be more wisdom and intelligence in breaking them. Of course, here, we recognise another dimension for following the rules – it is to do so with malicious intent.

Of course, the malicious intent might not spring up overnight. It could be employees who knew something was wrong and sounded the alarms but the management refused to heed. It could be a child protesting the stupidity of a rule at home and not having received the appropriate explanation for why the rule was in place. So the risk of not empowering others with the ability to disobey intelligently is that we send the wrong message about what obedience is about.

Talking to bosses

In my career-coaching, I often encounter cases of communication challenges from employees or staff especially in conveying messages or ideas to the bosses. Part of the problem is probably culture and the strange imbalance of power with bosses, particularly in larger organisations. There is a lot more filtering of information with complex intentions:

Staff might be trying to simplify things for bosses in order to get information across fast but end up obscuring some information
Staff may also be trying to manage their bosses’ perception of them and hence try to be focused on delivering more good news than bad
Information might be mixed with remarks incorporated for bootlicking purposes

All of these we learnt through a combination of poor workplace culture, bad upbringing with parents hiding lots of different things here and there. There are much better ways to be able to bring truth to the table without having to flinch at the expected responses.

Highlight the context and the objectives of the company or project, and gain affirmation first
Bring up how the objectives are not being met
Define the problem clearly and how it connects to the objectives not being met
Provide some options; each of which justified either by expert or external opinions, past experience from the team and other parties
Request for a decision to be made

If the boss sits on the decision and don’t make it; you may need to be more persistent in highlighting the issue. Then you can start bringing the consequences and laying alongside the costs of the options so that doing nothing would clearly be more costly.

This approach is also useful for sales but perhaps that’s for another day.

Rules for intelligent disobedience

Bob McGannon introduces some rules for breaking the rules when talking about intelligent disobedience which I found to be useful in general even without considering the notion of intelligent disobedience. He suggested some really quick considerations:

Do it as an exception: only when the standard rules don’t work.
Don’t do it in stealth: Convey your intention and explain the reasons you’re breaking the rules.
Not to be passive aggressive: you don’t play nice and say you’re going to follow the rules and then leave your boss’ room and then break them.
Don’t break the law: if a rule is based on a law, you need to make sure that you’re not acting in a manner that breaks the law.

Why putting these ideas upfront is important for management and also within the context of any organisation is that you want people to be acting intelligently and have a clear robust process for exceptions. It doesn’t mean you create extra bureaucracy; if anything, it is to allow people to act wisely and be allowed to face the music later if they agreed it is a mistake.

Within an organisation, by introducing these ideas, you empower employees and treat them maturely as individuals rather than a cog in the system. In practically all areas of life, when we need people to be more autonomous, we naturally will end up hiring the best people.

What is Bankability?

infrastructure

I’m hoping to embark on a series of writing that will help the university students and young graduates appreciate the infrastructure industry better. I know this is likely the beginning but I’m not sure when it will end or how frequently I’ll be writing. For now, I thought I just want to get started and eventually when there is critical mass, I’ll be putting it up on a separate website.

For consumers, when we apply for credit cards, the bank taking in the application wants to know our income, our employer, age, and will probably scrub our current track records for payment on our other cards, as well as any outstanding debt we have. For businesses, the process involved in loan applications is somewhat similar. Banks look at the years it has been established, the revenue/sales track records, the profitability of the firm and or sometimes they are financing based on the invoices – payments that the firm will be receiving from its customer for goods sold.

And then there’s infrastructure projects; they are not yet built, there’s no cashflow or payments made to the infrastructure, sometimes the land is not even acquired yet (there’s no one providing funds to acquire the land!). The willingness of a well-established financial institution to lend money to the project at reasonable interest rates (ie. ‘bankability’) will depend a lot on factors that surround the projects which gives good indication of the ability of the project to repay its debt. Like consumer credit, the more data the banks have, about both projects of the type in general, and also specific data about the project to be financed, would help give them a better sense to assess if they should lend to the project.

So what kind of data? I’ll distinguish between the availability of data, and the outcome of the assessment on the data available. The banks need data on the reliability of the sponsors/developers (essentially the equity owners of the project), the engineering-procurement-construction (EPC) firms involved, the government or customer of the project (ie. the one who will be paying for the services the infrastructure provides), as well as the underlying project involved. For each of the entities involved:

Previous payment/financial performance – in the form of financial statements, records, etc.
For government, often some kind of sovereign rating
Track records in project execution (especially in terms of the construction in the case of EPC firms, and operating experience for the developer or whoever they might be appointing to operate the project)

Then for the underlying project, the sources of data that will allow the banks to make the assessment would be:

All the contracts involved in the project
Feasibility studies involving site survey results, data – independent studies verifying that the proposal is feasible, technical solutions can deliver expected results, etc.
Any documentary evidence of support by governments or other development financial institutions towards the project.

In essence, these things are basically like the payslip or appointment letter from your employer which you submit for your credit card application. They give proof that the project is able to be put together and generate the kind of cashflow worthy of the loan that it will be taking out. There will also be sophisticated financial models that are shared across the developers and the banks in order to work out transparently what is the cashflow expected from the project across its lifetime and how these cashflows will be divided amongst the various stakeholders.

Through the information, the bank determines how stable the cashflow is, the level of comfort they have with the creditworthiness of the various parties, and then work out the pricing (ie. interest rates) on the loan, which helps to update the financial models, and provide more clarity to all the parties involved on how the returns from the project are shared. The assessment of risks by the bank (which impacts on pricing and whether they would be interested to finance the project at all) will be based upon their internal due diligence on the various parties involved in the project, as well as the feasibility study, and the set of contracts underlying the project. It often depend critically on the government involvement in the project and how they are involved. Major project finance deals are often achieved with government providing a guarantee on the income stream of the project conditional on the performance of the project based on pre-agreed indicators. Once the bank is satisfied that the operators and developer is able to perform in accordance to the contract, they shift their attention towards the creditworthiness of the government who have promised to pay.

As a result of these complexities, infrastructure transactions themselves are not only big in terms of the investment but they do require big teams to put the transactions together whether it is on the developer side, the financial institutions or the consultancy teams. These teams are all combining various disciplines including accounting, finance, engineering, general management, project management, legal, etc. To that extent, we do think that the industry is a good generator of job opportunities. The challenge is that these projects are typically have activities in starts and stops (extreme busyness in one camp or another in different points of time). The skills required across the sector is quite wide-ranging though the topic tend to be more narrow and focused.

This article is part of a series I’m working on to make topics in infrastructure a little more accessible to students and people from outside the industry who might want to get involved.

Costs of Innovation

I was updating some of the contents of this personal website and ended up re-reading the paper I wrote during my wonderful course in US Business and Economic History at Stern Business school in the Summer of 2014, taught by Prof Richard Sylla. I realised that in the table of comparison on the intellectual property systems of UK and US, I failed to illustrate the magnitude of difference in costs of filing patents under each system!

In 1624 up till 1852, it could have costs 100 pounds sterling in order to file in England. To file across jurisdiction of Great Britain to include Ireland and Scotland would have set an inventor back by up to 380 pounds sterling! In contrast, the US system was set up in 1790, charging only 4-5 US dollars per patent, increasing up to 35 US dollars in 1836.

Now the comparison was completely moot without including the exchange rates at that point of time! Perhaps my way of describing the system kind of glossed over it without it being a problem for Prof Sylla but today, almost 6 years after writing that paper, I want to set that straight.

So as usual, FRED saves the day with its wonderful datasets – they actually had a monthly exchange rate dataset that went as far back as 1791! For full disclosure, I would like to point out that they constructed it from Bank of England’s data on Three Centuries of Macroeconomic Data – incredible undertaking by those folks I must say.

In any case, we could safely consider the exchange rates to be around 5 US dollar to 1 pounds sterling, save for the slight fall in value of pounds during the Napoleonic wars and the huge fall in value of US dollars starting 1861 when the American Civil War started.

With that exchange rate in mind, we now see that in 1791, we now know it would have cost 100 times more to file a patent covering England compared to one that covers Federal United States (then only 13 colonies, and bits of other territories one must recognise). And of course, this gap went down to around 16 times by 1836 but still, it was a huge difference! No wonder Charles Babbage who invented the Difference Engine was quoted by Dutton (1984, p.70) describing the system in this manner: ‘the most exalted officers of the State in the position of a legalized banditto’.

That aside however, today, companies’ management systems that puts managers and bosses as the supreme single ‘buyer’ of ideas (monopsony for ideas as Gary Hamel of London Business School pointed out in The Future of Management) is costing innovation more. Unlike the British patent system, which was repeatedly boycotted by inventors such as Charles Babbage, the traditional systems of management often could ‘hide away’ innovations and good ideas simply fail to get the resources or actions it needs to prove themselves or even be realised!

In my paper, I argued that the merits of the American system of intellectual property as it had evolved, was not so much the price for a patent, or the fact it operated by statutes rather than case laws (and therefore is effective even when it is not yet challenged in courts), it was the power by which it incentivised inventors and innovators to share and spread their ideas around. This allowed for the society to build more ideas upon them and even combine various ideas together to form new ones – each layers protected by the IP rights and allowing the system of agreements to form for the various inventors to share in the benefits of the resulting composite ideas. The corporation, in stifling ideas with its system of management, imposes huge costs on innovation and suffers for it. Often, it is not just good ideas which are lost but also idea-generators and good employees who leaves in frustration.