Business

One of my favourite modules on my MBA course was Financial Engineering. A more accurate name for this module would have been ‘making profits from thin air’. I am convinced that employees from Enron were required to excel on this course! One of the great techniques I learnt about was boot strapping!

For a variety of reasons, different businesses often get rated on different multiples. A mature business with good management which is listed may for example be trading on a multiple of ten of annual profits. A new entrant which is up and coming on the other hand may have a multiple of twenty (as the growth prospects are better). Bootstrapping occurs when a company with a higher multiple takes over a company with a lower multiple and benefits from the entire new company getting re-rated with the higher multiple.

Company A makes profits of £1m and is rated at 10x profits and therefore has a valuation of £10m.

Company B makes a profit of £0.5m but has a multiple of 20x profits and therefore also has a valuation of £10m.

Both companies are worth £10m each and you would therefore think that if they were merged (ignoring any cost savings and other synergies etc) the new company would be worth £20m.

But if company B was to buy company A, the new company may get rated on the same multiple as company B before the merger. Therefore the new company B will be rated at 20x profits of £1.5m which is £30m.

Bootstrapping has thus ‘created’ £10m of additional value simply through re-rating the prospects. Some of you will no doubt argue that I have simplified this very complicated area. Of course, it is a bit more complicated than this, but the end result is the same.

In the 1980s companies like Hanson trust were able to build themselves into huge empires by acquiring companies which had lowly rated earnings, but then apply a higher multiple. This made Hanson shares expensive – which allowed them to continue to buy other companies. Tomkins also did the same thing before it suffered a severe bout of indigestion having bought RHM (incidentally, my first employer). RHM was simply too big for them to manage effectively.

Start ups are often valued at a multiple of turnover. Hence many start ups do try to buy other companies with turnover. This is especially true in cases where you can buy a company for cheap because it has run into trouble.

This is a brave strategy. The key thing to bear in mind is management ‘bandwidth’ Many companies, especially start ups simply do not have the room to manage another business.

Given the climate we are in though. I would not be surprised if someone did come along to buy many businesses on the cheap with a view to bolting them all on to get a higher multiple.

You heard it here first!

I have a confession to make which may surprise people who know me; I hate networking events. Because I have a good network, people assume I enjoy working the room and networking. I would say that I have a good network exactly because I don’t work the room or network the way I think you are supposed to.

Going to any event labelled as a network event is bound to spell trouble. You tend to meet people who think the name of the game is to give out as many business cards out as possible during the evening. And god, please spare me from the person who has practiced his personal elevator pitch. (You may say I am to blame as I am continuously promoting the elevator pitch – but only for companies not people is my reply to you!)

I like to build relationships with people – not just claim to know lots of people. In fact I have a pet hate when it comes to people claiming that they know lots of people. I would only say that I know someone if I can ring them on their mobile number and they answer the phone by saying “Hello Permjot” – that is that my number is on their mobile. I have learnt that it is not about knowing people but having a degree of influence over people. Networking events simply do not allow meaningful interaction to take place.

So if you are going to go to an event here are my golden tips

1) Make sure that there is a theme. This means that it is relevant to you and what you want to achieve. So EISA events tend to be very good as they only attract people who have an interest in investing in companies in a tax efficient manner

2) Have a ‘sponsor’ at the event. For example make sure that someone will take on the role of introducing you to the relevant people that you need to meet. I am asked in training sessions I run, to advise on how to meet and greet – the reality is this is very difficult to do. Having a sponsor makes it easier for you to be focused

3) Listen more than you talk. You will get a lot more out of your conversations if you understand what someone else wants.

4) Run a Google search on people at the event. The internet has made it so easy to do a five minute search on people. I am amazed at how many people meet me without knowing anything about me at all – it is all there and you will know how to pitch to me and what I do and don’t like

5) Be sparing with your business card. Make people work for it. If you are selling to someone else – earn the right to ask for their card. I never give my card to someone who simply asks for it as soon as I have met them

6) Agree there and then how you are going to contact someone again next

7) Make sure you follow up. This is the best piece of advice I can give

 Enjoy! If you are not enjoying it – leave! Seriously, people will sense that you are not at ease and will not want to get bogged down talking to you!

One of the areas where I am frequently asked to help small or fast-growing businesses is in the area of putting a board together. I have come across a lot of people who equally ask if I have any vacancies for them on the boards of businesses I am involved in. It is also an area I have strong views about!

Sadly, there are many people who are very good at self-promotion and are very believable. They may have won an award recognising them as a ‘type’ of the business person of the year. And I don’t mean to denigrate these achievements but do you have any idea how many business awards there is each year? Well, Ernst & Young (I used to work for them) create at least 40 award winners each year. I guess there are at least 1000 business award winners each year. The point is to look beyond awards and accolades.

Early on in my business career, I met someone who was an award winner and a good self-publicist. I confess to falling under his charm somewhat and thought he would be great as a Non-Executive Director of some of the companies I had just got involved in.

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But then I noticed how all the topics of conversation were always about him. He spent more time negotiating his terms of compensation rather than talking about the business or how he could help. He was a massive disappointment as he delivered nothing. Luckily for us, he left the companies early and was not able to acquire his negotiated share entitlements. I discovered some companies had not been so lucky with some of their appointments.

Scarred by this early experience, I then asked a lot more questions about potential Non-Executive Directors and discovered that my experience was sadly not unique. So my advice on this is really simple – before you appoint a Director ask some really sharp questions;

1. Can they really add value to your business?
2. Can that value be quantified – and therefore targeted? (Sometimes it can’t but they are still great to have on the board)
3. Is any reward linked in with that value?
4. Is there expertise best suited to being on a board? (For example, I rarely sit on boards – I am on just one at the moment, but still help over 10 companies at the moment in an informal capacity)
5. Will their appointment help your business’s standing? (with potential customers, banks, potential investors etc)

I should mention in the interests of balance, I have also had the pleasure of working with some brilliant Directors (and there are many more of them than the bad ones). I don’t want to use names on this blog as if I say good things; it could be seen as I am being paid by them and I don’t want to say bad things about people in case I get sued!

These great Directors add focus to a business, bring a wealth of contacts with them, help companies raise money and keep the management in check. As an investor, I am learning the importance of investing in companies with great boards, or if they don’t have them, helping put one together.

Let’s say there is an issue on a particular product of a company in terms of quality. How should the company decide which interest group to put before the others?

In terms of hierarchy of needs, I think any business could and should use this simple framework to decide who the most important person in a business is

1) This always without fail has to be the customer
2) The employees. They are the ones making the profit and employed as ambassadors to the customer on the companies behalf
3) The shareholders. Without their investment and support their would not be a business
4) The board of directors

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In the 1990s, AMEX had to restructure and I always remember this anecdote. The new President decided to stream line and got rid of many Vice Presidents and other senior people in the business. This was difficult for him as he had known many of them for years and his move was criticised as there was a feeling that the company was going to be losing too much knowledge in one go. After a year or so, when he was asked about the effect of those firings, he is reported to have said that what he regretted was the fact that it made no difference to the business at all from a capabilities point of view. Senior management and Middle management need to be constantly reviewed and the question needs to be asked – are they still adding value?

The interesting thing though is that when you look at an organisation chart, the Board of Directors are at the top to denote seniority. I am in the camp that likes reverse charts, which show how important someone is in an organisation depending on how closely they are involved with the client in either selling to them or producing the product for them.

SAS airlines went through a radical change in the early 1980s which transformed the business and one of the key changes they introduced was giving reservation and booking staff the authority to deal with customer’s complaints and issues. Staff had real power and everyone else in the organisation was meant to support this chain.

In terms of the importance of customers, you would hope that this is self-explanatory but I am amazed at how frequently companies forget about the principle of consumer sovereignty. To help focus on this point, let me badly quote you Jack Welch

“No company can guarantee you employment, only satisfied customers can”