Before I Forget…

AS THE warrior king who defeated the Mughals and founded the Maratha empire of Western India in the 17th century, Shivaji Bhosle is remembered as a tactical genius as well as a benevolent ruler.  The direct descendants of his Malva-caste soldiers are also developing a reputation for organisational excellence.  Using an elaborate system of colour-coded boxes to convey over 170,000 meals to their destinations each day, the 5,000-strong dabbawala collective has built up an extraordinary reputation for the speed and accuracy of its deliveries.  Word of their legendary efficiency and almost flawless logistics is now spreading through the rarefied world of management consulting.  Impressed by the dabbawalas’ “six-sigma” certified error rate—reportedly on the order of one mistake per 6m deliveries—management gurus and bosses are queuing up to find out how they do it.  The system the dabbawalas have developed over the years revolves around strong teamwork and strict time-management.  At 9am every morning, home-made meals are picked up in special boxes, which are loaded onto trolleys and pushed to a railway station.  They then make their way by train to an unloading station.  The boxes are rearranged so that those going to similar destinations, indicated by a system of coloured lettering, end up on the same trolley.  The meals are then delivered—99.9999% of the time, to the right address.

Harvard Business School has produced a case study of the dabbawalas, urging its students to learn from the organisation, which relies entirely on human endeavour and employs no technology.  For Paul Goodman, a professor of organisational psychology at Carnegie Mellon University who has made a documentary on the dabbawalas, this is one of the critical aspects of their appeal to Western management thinkers.  “Most of our modern business education is about analytic models, technology and efficient business practices,” he says.  The dabbawalas, by contrast, focus more on “human and social ingenuity”, he says.  Firms, both Indian and foreign, are similarly curious.  Tata, Coca-Cola and Daimler have all invited dabbawalas to explain their model to managers.  Last month it was the turn of delegates at an accountancy conference in Dubai.  There are even plans within the organisation to create a consulting business.  The dabbawalas, who all receive the same pay, are also seen as paragons of “bottom up” social entrepreneurship.  C.K. Prahalad, a professor at the University of Michigan’s Ross School of Business, says they show how a home-grown business can help lift workers at the “bottom of the pyramid” out of poverty.  They also contradict the stereotype of developing-world labourers as low-wage economic victims…..

Reference : http://www.economist.com/business/displaystory.cfm?story_id=11707779

Interesting graphics for Marketing types -

    
(click thumbnails for larger images)

…..More unusual than the fact that a member of the FTSE 100 and S&P 500 will have a 53% family shareholder is the way the Canadian clan exercises its stewardship.  The architect of Thomson Corp’s pursuit of Reuters was not David Thomson, the chairman and grandson of the founder, nor Dick Harrington, chief executive, but Geoff Beattie.  As president of Woodbridge, the family investment company, Mr Beattie, 48, is often described as the consigliere or éminence grise of the family.  It is a sign of the rarity of such roles in Anglo-Saxon capitalism that there seems to be no English equivalent.  Mr Beattie, deputy chairman of Thomson Reuters, describes the role simply: “Woodbridge exists for one reason - to create value for its shareholders, who are all descendants of Roy Thomson.”  In the 30 years to 2005, he says, that value grew from $300m to $30bn.  The structure emerged as the founder expanded the family’s assets from a single Ontario newspaper to include the Sunday Times in London, Thomson Travel and North Sea oil interests.  Woodbridge was conceived as an investment company that would sit above those concerns, but it plays a hands-on role in strategy, governance and use of capital.  Other family conglomerates accrue advisers who “slowly but surely emasculate the family”, Mr Beattie says.  But Woodbridge acts as the sole conduit between the family, its assets and a tight circle of loyal lawyers and bankers.  In 50 years only two people have held the role.  Mr Beattie took over in 1998 from John Tory, a lawyer who spent 20 years advising Roy Thomson and another 20 counselling his son, Kenneth.  According to Mr Beattie, who began his career in Torys law firm, continuity has shaped a long-term approach that has become a family hallmark.  Without the responsibilities of operating executives, “it allows us the time, and gives us the responsibility, to be far-sighted”.  Others cite this detachment as the reason Thomson family members have been unsentimental traders of assets.  The Reuters transaction was largely funded by the sale of Thomson Learning, for at least $2bn more than had been expected.  Ken Thomson’s sales in 1981 of the London newspapers that earned his father the title Lord Thomson of Fleet cemented the family reputation for having an uncanny sense of when an industry is on the turn.  The approach has driven huge churn in the portfolio, but with the Reuters acquisition Woodbridge has placed most of the family’s chips on “intelligent information” - data of vital importance to traders, lawyers, tax accountants, scientists and medics.  Its Thomson Reuters holding is the largest of Woodbridge’s assets, but its 50-strong office also oversees technology-focused private equity investments and smaller holdings such as 40% of CTVglobemedia, publisher of Canada’s Globe and Mail newspaper.

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Joachim Schwass, a professor at IMD, the Swiss business school, who specialises in family business and entrepreneurship, says the Thomson family is atypical in having begun to diversify in the first generation: “They had a very open mind, which is something unusual in family businesses.”  They also differ from others in not demanding a boardroom majority or preferential classes of shares.  Family representatives have just four of the 15 seats on the Thomson Reuters board.  “That’s by design.” Mr Beattie says.  “It’s a board meeting, not a shareholders’ meeting.”  Roger Martin, a board member of Thomson Corp and now Thomson Reuters, says: “They have always had the view that if you need to marshal the majority vote, something’s wrong.  There has been no situation I can recall in the seven or eight years I’ve been on the board that wasn’t unanimous.”  If Woodbridge sees a proposal may not win approval, it works to build consensus.  Woodbridge’s approach of continually “stress-testing” assets means, however, that it has frequently had to tell executives that businesses to which they are wedded no longer deserved a place in the portfolio.  Other boards would find it extraordinary for a shareholder to lead negotiations over a move as transforming as the bid for Reuters.  Mr Beattie says there were good reasons for him, rather than Mr Harrington, to conduct the discussions.  “Reuters wasn’t for sale, and they weren’t interested in suggesting to anyone they were,” he says.  Woodbridge could operate in “a very private environment”, whereas bringing in executives “who are out there competing with each other . . . creates a whole bunch of issues”.  The deal would not have happened had not Mr Beattie persuaded the guardians of Reuters.  Pehr Gyllenhammar, chairman of the Reuters Founders Share Company, says the company had “a real issue” at first with the notion of handing control to a single interest group.  Mr Beattie offered to adopt the Founders Share principles - editorial independence, integrity and journalistic freedom - for the combined Thomson Reuters, and volunteered concessions on selling shares that made any unwelcome change of control impossible.  That offer was “quite something”, says Mr Gyl-lenhammar. “It is very unusual that a family would not use their majority for short-term or medium-term capital gains.”  Mr Beattie’s role demonstrates the power the family has vested in him, says Professor Martin, who is dean of the Rotman school of management at the University of Toronto.  “I think they knew in their heart of hearts that they needed somebody like John [Tory] . . . They were smart and said, ‘We have to make it possible for them and enjoyable for them to do it.’”  According to Phillip Crawley, publisher of the Globe and Mail, the Woodbridge structure works in large part because of Mr Beattie.  “He’s got that ability, like his forebears, to see ahead, to pick where to be and where not to be.”  It is a model other businesses should study, Prof Martin says.  “There is a view, especially in the US, that the widely held, publicly traded corporation with no major shareholder is the natural order in the world.  It isn’t.  It is a recent phenomenon.”  The Thomson model’s time could have come, he says.  “I think there is going to be a pendulum swing back towards that, because of how hard it is to make the publicly held corporation work.”  If Prof Martin is right, Anglo-Saxon capitalism will need many more consiglieri.

Reference : http://www.ft.com/cms/s/0/76e37820-1005-11dd-8871-0000779fd2ac.html

Interesting contemporary events related to some dense (and heavily theoretical) LOSs in the CFA Level 2 curriculum  -

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An instant classic on the subject.  This article alongwith the Bear Stearns one offer a comprehensive perspective, in layman’s terms, of the latest Wall Street meltdown. 

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The current financial crisis in the US is likely to be judged in retrospect as the most wrenching since the end of the second world war.  It will end eventually when home prices stabilise and with them the value of equity in homes supporting troubled mortgage securities.  Home price stabilisation will restore much-needed clarity to the marketplace because losses will be realised rather than prospective.  The major source of contagion will be removed.  Financial institutions will then recapitalise or go out of business.  Trust in the solvency of remaining counterparties will be gradually restored and issuance of loans and securities will slowly return to normal.  Although inventories of vacant single-family homes - those belonging to builders and investors - have recently peaked, until liquidation of these inventories proceeds in earnest, the level at which home prices will stabilise remains problematic.  The American housing bubble peaked in early 2006, followed by an abrupt and rapid retreat over the past two years.  Since summer 2006, hundreds of thousands of homeowners, many forced by foreclosure, have moved out of single-family homes into rental housing, creating an excess of approximately 600,000 vacant, largely investor-owned single-family units for sale.  Homebuilders caught by the market’s rapid contraction have involuntarily added an additional 200,000 newly built homes to the “empty-house-for-sale” market.  Home prices have been receding rapidly under the weight of this inventory overhang.  Single-family housing starts have declined by 60% since early 2006, but have only recently fallen below single-family home demand.  Indeed, this sharply lower level of pending housing additions, together with the expected 1m increase in the number of US households this year as well as underlying demand for second homes and replacement homes, together imply a decline in the stock of vacant single-family homes for sale of approximately 400,000 over the course of 2008.  The pace of liquidation is likely to pick up even more as new-home construction falls further.  The level of home prices will probably stabilise as soon as the rate of inventory liquidation reaches its maximum, well before the ultimate elimination of inventory excess.  That point, however, is still an indeterminate number of months in the future.  The crisis will leave many casualties.  Particularly hard hit will be much of today’s financial risk-valuation system, significant parts of which failed under stress.  Those of us who look to the self-interest of lending institutions to protect shareholder equity have to be in a state of shocked disbelief.  But I hope that one of the casualties will not be reliance on counterparty surveillance, and more generally financial self-regulation, as the fundamental balance mechanism for global finance.  The problems, at least in the early stages of this crisis, were most pronounced among banks whose regulatory oversight has been elaborate for years.  To be sure, the systems of setting bank capital requirements, both economic and regulatory, which have developed over the past two decades will be overhauled substantially in light of recent experience.  Indeed, private investors are already demanding larger capital buffers and collateral, and the mavens convened under the auspices of the Bank for International Settlements will surely amend the newly minted Basel II international regulatory accord.  Also being questioned, tangentially, are the mathematically elegant economic forecasting models that once again have been unable to anticipate a financial crisis or the onset of recession.

Credit market systems and their degree of leverage and liquidity are rooted in trust in the solvency of counterparties.  That trust was badly shaken on August 9 2007 when BNP Paribas revealed large unanticipated losses on US subprime securities.  Risk management systems - and the models at their core - were supposed to guard against outsized losses.  How did we go so wrong?  The essential problem is that our models - both risk models and econometric models - as complex as they have become, are still too simple to capture the full array of governing variables that drive global economic reality.  A model, of necessity, is an abstraction from the full detail of the real world.  In line with the time-honoured observation that diversification lowers risk, computers crunched reams of historical data in quest of negative correlations between prices of tradeable assets; correlations that could help insulate investment portfolios from the broad swings in an economy.  When such asset prices, rather than offsetting each other’s movements, fell in unison on and following August 9 last year, huge losses across virtually all riskasset classes ensued.  The most credible explanation of why risk management based on state-of-the-art statistical models can perform so poorly is that the underlying data used to estimate a model’s structure are drawn generally from both periods of euphoria and periods of fear, that is, from regimes with importantly different dynamics.  The contraction phase of credit and business cycles, driven by fear, have historically been far shorter and far more abrupt than the expansion phase, which is driven by a slow but cumulative build-up of euphoria.  Over the past half-century, the American economy was in contraction only one-seventh of the time.  But it is the onset of that one-seventh for which risk management must be most prepared.  Negative correlations among asset classes, so evident during an expansion, can collapse as all asset prices fall together, undermining the strategy of improving risk/reward trade-offs through diversification.  If we could adequately model each phase of the cycle separately and divine the signals that tell us when the shift in regimes is about to occur, risk management systems would be improved significantly.  One difficult problem is that much of the dubious financial-market behaviour that chronically emerges during the expansion phase is the result not of ignorance of badly underpriced risk, but of the concern that unless firms participate in a current euphoria, they will irretrievably lose market share. 

Risk management seeks to maximise risk-adjusted rates of return on equity; often, in the process, underused capital is considered “waste”.  Gone are the days when banks prided themselves on triple-A ratings and sometimes hinted at hidden balance-sheet reserves (often true) that conveyed an aura of invulnerability.  Today, or at least prior to August 9 2007, the assets and capital that define triple-A status, or seemed to, entailed too high a competitive cost.  I do not say that the current systems of risk management or econometric forecasting are not in large measure soundly rooted in the real world.  The exploration of the benefits of diversification in risk-management models is unquestionably sound and the use of an elaborate macroeconometric model does enforce forecasting discipline.  It requires, for example, that saving equal investment, that the marginal propensity to consume be positive, and that inventories be non-negative.  These restraints, among others, eliminated most of the distressing inconsistencies of the unsophisticated forecasting world of a half century ago.  But these models do not fully capture what I believe has been, to date, only a peripheral addendum to business-cycle and financial modelling - the innate human responses that result in swings between euphoria and fear that repeat themselves generation after generation with little evidence of a learning curve.  Asset-price bubbles build and burst today as they have since the early 18th century, when modern competitive markets evolved.  To be sure, we tend to label such behavioural responses as non-rational.  But forecasters’ concerns should be not whether human response is rational or irrational, only that it is observable and systematic.  This, to me, is the large missing “explanatory variable” in both risk-management and macroeconometric models.  Current practice is to introduce notions of “animal spirits”, as John Maynard Keynes put it, through “add factors”.  That is, we arbitrarily change the outcome of our model’s equations.  Add-factoring, however, is an implicit recognition that models, as we currently employ them, are structurally deficient; it does not sufficiently address the problem of the missing variable.  We will never be able to anticipate all discontinuities in financial markets.  Discontinuities are, of necessity, a surprise.  Anticipated events are arbitraged away.  But if, as I strongly suspect, periods of euphoria are very difficult to suppress as they build, they will not collapse until the speculative fever breaks on its own.  Paradoxically, to the extent risk management succeeds in identifying such episodes, it can prolong and enlarge the period of euphoria.  But risk management can never reach perfection.  It will eventually fail and a disturbing reality will be laid bare, prompting an unexpected and sharp discontinuous response.  In the current crisis, as in past crises, we can learn much, and policy in the future will be informed by these lessons.  But we cannot hope to anticipate the specifics of future crises with any degree of confidence.  Thus it is important, indeed crucial, that any reforms in, and adjustments to, the structure of markets and regulation not inhibit our most reliable and effective safeguards against cumulative economic failure: market flexibility and open competition.

Reference : http://www.ft.com/cms/s/0/d386202c-f3c3-11dc-b6bc-0000779fd2ac.html