Archive for April, 2012

Entrepreneurial Finance: Do You Know the “Real Options?”


Entrepreneurs do not spend too much time planning, but often consider opportunities arising from uncertain conditions as they deal with original ideas. As new opportunities come into focus original ideas can garner new value not considered when the entrepreneur acted on an original opportunity.

Larger companies use net present value, internal rate of return, payback period, and many other sophisticated methods to evaluate cash streams from capital investments. Often these companies do not consider thereal options.” Capital budgeting involves understanding time value of money and probability analysis, which many entrepreneurs may not have learned about. The idea involves evaluating projects like a game of chance using the time value of money and probability analysis.

For example, the idea is similar to a card game in a casino and playing the odds. The player finding the project with the best odds usually wins. The concept of “real options” evaluates cash flow using net present value and the odds for each alternative to decide if the project has future value. If the expected value in a project turns negative the player can cut bait to minimize losses. On the other hand, continued investing may give the player an option to chase a project with a dubious future value.

Sometimes early losses can reverse and turn profitable. Without committing to an investment in a project, the entrepreneur may not see any prospect for net present value turning positive and not invest in the project. Thus the entrepreneur may find a project is worth investing in because the chances are good the net cash streams will turn positive sometime in the future.

“Real options” offer the entrepreneur a call option to help decide when to cut bait or to continue with a project. Without a sense of what lies ahead the entrepreneur may overlook good projects and exit too soon leaving the prize for someone else to discover.

If you want to learn more about time value of money visit my YouTube channel. If you want to know more about “real options” visit us here.

What alternatives do you consider when deciding to invest in projects for your business?

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Small Business: Divide and Conquer


In this election year the country has seen the political parties jockeying for votes of small business, but whether either party represents the needs of small business is questionable. Ide (2009) showed that small businesses account for 99.7% of businesses in the United States and 50.7% of employees in 2004.

Although small business should have significant  political power, the parties are lukewarm about  supporting important interests of small business. Each party encourages some of the interests of small business, but neither party makes a strong case for small business.  As Young (2008) suggested, policymakers since the New Deal have taken the strategy to fragment small business interests.

Each party has a script it follows to divide and conquer small business, but what if small business unites? Small business by the sheer numbers should have a more powerful influence on policymakers than big business.

Baumol, Litan, and Schramm (2007) listed several political issues benefiting small businesses. Bankruptcy protects tops the list because the cost of failing is too high. Big business benefits by Chapter 11 reorganizations. Although Chapter 11 is affordable for big business, this provision of the bankruptcy law is costly for entrepreneurs. The stigma attached to bankruptcy penalizes small business, but rewards big business. The notion big businesses can clean up their act, but entrepreneurs have little value to the economy is a bad idea. Why can big businesses make mistakes, but not entrepreneurs?

The next item on the list is access to finance. Joseph Schumpeter (1911) explained the importance of banks in making financing available to small business to spur innovation and drive economic growth. The role of financial markets is to channel savings to investors wanting to earn higher returns. Banks today are not lending and policy makers have done little to help small business find the funds they need. Lending to innovators drives economic growth and job creation. Large companies have access to capital through the capital markets. Why not lend to small business?

Baumol et al. (2007) argued small businesses need rewards for engaging in productive entrepreneurship that innovates and finds ways to make and deliver products better than those existing. For example, small businesses should find it easier to protect intellectual property and pay lower taxes. Small business should have an equal ability to enforce contracts as big businesses enjoy. Unfortunately, existing law favors big business and the cost of protection is too heavy for small business.

Another item on the list is antimonopoly regulation. The policymakers in recent years have ignored antitrust laws and made it easy for big business to crowd out small business. Savino (2009) explained how Supreme Court Chief Justice Louis Brandeis championed efficiency in business by enforcing antitrust legislation in the late 1920s and 1930s. Capitalism relies on equal opportunity for small business to compete.

A final item on the list is to support innovations resulting from inventions coming out of university research and development efforts. Making patent protection easier would benefit these efforts and federal funding can help, but policymakers are overzealous about austerity measures (Baumol et al., 2007).

Unlike others willing to accept current conditions for small business, I believe the time has come for small businesses to come together and foster a small business agenda. I want to see the United States return to the prominence it once achieved as the hub of small business creation.

Please leave a comment on what you think is important for small business. I am interested in knowing your thoughts. What should be part of small businesses political agenda?

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References

Baumol, W. J., Litan, R. E., & Schramm, C. J. (2007). Good capitalism, bad capitalism and economics of growth and prosperity. New Haven, Conn. and London: Yale University Press.

Ide, T. (2009). How to rectify unfair trade practices and to establish appropriate supply chains and better business culture under the global market economy. Pacific Economic Review, 14(5), 612-621. doi: 10.1111/j.1468-0106.2009.00475.x

Savino, D. (2009). Louis D. Brandeis and his role promoting scientific management as a progressive movement. Journal of Management History, 15(1), 38-49. doi: 10.1108/17511340910921772

Schumpeter, J. A. (1911). Theory of economic development. Cambridge, MA: Harvard University Press.

Young, M. (2008). The political roots of small business identity. Polity, 40(4), 436. doi: 10.1057/pol.2008.20

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Small Business and the Social Entrepreneur


 My business as a consultant and mentor for small business differs from traditional models because of my focus on educating and training entrepreneurs otherwise without the means to run a business. I put enjoying the entrepreneurial experience first ahead of profits. Businesses grow by starting small and proving competencies as a business person. Paula Marguilies wrote about a similar story. The story is about Linda Rothenberg’s High Impact Endeavor, and I encourage you to read the article. I aim to develop a comparable program here in the United States or anywhere for disadvantaged entrepreneurs.

Entrepreneurs need role models before capital. APG Academy of Entrepreneurship provides opportunities to disadvantaged entrepreneurs by reaching out to successful entrepreneurs allowing the disadvantage entrepreneur to learn how to run a successful business. Disadvantaged entrepreneurs need not fear failure, but work with experienced and highly educated professional entrepreneurs.

Disadvantaged entrepreneurs without help have every right to fear failure. Studies show higher educational levels and experience improves the chances of success (Blanchflower, 2004). Disadvantaged entrepreneurs are closer to emerging social issues and can make a difference in our economy. Most coaches and mentors work only where they see an obvious opportunity, but miss many because they are not attuned to the needs of more disadvantaged populations.

I encourage disadvantaged populations to follow their dreams and use us as a resource. We do not have the bias of the traditional consultants and coaches. We jump in the trenches right with you. Want to learn more?

Please leave a comment if you have a dream you want to pursue, but are afraid you do not have the education and experience to successful follow your dream. Where do you see unfulfilled needs?

References

Blanchflower, D. G. (2004). Self-Employment: More may not be better. (10286). National Bureau of Economic Research. Retrieved from http://www.nber.org/papers/w10286.

 

 

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Developing Productive Employees for Your Business: Do You Believe in Second Chances?


One of the hardest challenges for a small business is finding the right employees, but I believe  finding the right employees runs a little deeper than just locating them. People are people and no one is perfect. I believe finding the right employees includes developing and molding them into the employees you want to represent your business.

I remember a situation from early in my career. I had an employee who I liked very much as a person, but ran into some hard times and got involved with the wrong people in her personal life. I found it sad that someone had taken advantage of her and that she let it affect her work performance.  At the time, I saw few alternatives aside from letting her go. I did not relish this task and today I might not go quite as far as letting her go if I had it to do over again. This woman took losing her job personally at first, but with time realized her experience losing her job helped her become strong and overcome her personal problems.

About a year later, this woman came back to me and I rehired her. She quickly became one of my best employees and thanked me for having the courage to deal with her as I did. Still, I am not convinced I did the right thing. The quality she showed me is her genuineness about overcoming her situation and wanting to do well in her job.

The danger I ran in to letting this employee go is finding and replacing her with someone else who could perform the job at least as well as she did. Although I believe much good competition exists in the job market, there is something to be said for a person’s role in developing people. People you develop are more in tune with your goals and expectations than someone from the outside who you have had no hand in developing. How many times do you hire what you believe is an extremely talented person only to see that person leave for a better offer elsewhere?

The moral of the story is I believe developing employees by giving second chances is far better than looking for superior skills. I value people first and value them as my most important asset. Do you want employees to align with the goals for your business or do you prefer hiring strictly on the basis of the best talent? How important is it to find people who can align with the vision you have for them and your company? Please let me know your thoughts by responding to this post. Please visit us by clicking here.

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Changing the Rules of the Game Affects Small Business Entrepreneurs


Small business entrepreneurs exist in a hostile environment in today’s global economy because large multinational companies exert political influence to prevent competition by forming monopolies and oligopolies. These companies want to preserve the wealth they have created. Entrepreneurs want to create new wealth by introducing new goods and services, innovating new means of production, creating new markets, or developing new sources of supply (Baumol, 1990).

Joseph Schumpeter argued the role of the entrepreneur is to create and when the rules change inhibiting that role “creative destruction” causes socialism (Schumpeter, 1975). Socialism happens when bureaucratic managers overtake imaginative entrepreneurs to benefit corrupt society. Ingenious entrepreneurs, however, will resurface to restore capitalism (Long, 1983). Baumol (1990) explained the conditions during these periods as productive, unproductive, and destructive. In other words, as the rules of the game change, conditions conducive to entrepreneurship change.

Baumol offered a historical analysis showing how conditions for entrepreneurship change and result in either productive, unproductive, or destructive climates for entrepreneurship. During unproductive and destructive periods, slave conditions exist for workers because companies do not value them as much as during more productive periods. Corruption causes meager conditions for workers because of a lack of incentive to create. Governments engage in warfare as an alternative way to find economic gain. Arbitrary taxation takes away individual freedoms and incentives conducive to new creations. Baumol showed history confirms these conditions exist in unproductive and destructive periods (Baumol, 1990).

Monopolies and oligopolies are one of the main causes of “creative destruction” and leave a void in addressing social issues normally carried out by small business entrepreneurs (Baumol, 1990). Entrepreneurs channel actions to other areas during periods of “creative destruction” because of a lack of incentives to create. The rules of the game have to change to restore productive entrepreneurship.

Baumol, Litan, and Schramm (2007) offered several ideas for how the rules of the game need to change to promote entrepreneurship and restore capitalistic conditions. Some of the ideas Baumol et al. noted include enforcing antitrust laws, welcoming new trade and investments, improving education, favoring democratic conditions, and fostering laws conducive to growth and prosperity.

In my practice, I work differently because I stress how important entrepreneurship is to the economy. Most consultants focus on profit building, but I focus on how critical entrepreneurship is to the economy and to enjoy the entrepreneurial experience. The one area I would change about how most consultants handle their role is to encourage entrepreneurs to learn from small failures. Entrepreneurs should not worry about failing. The biggest problem I see is fear of failure and not working through the harsh conditions.

I encourage entrepreneurs to try new initiatives to overcome hard times and not worry about what anyone else thinks. Entrepreneurs do better when they are persistent and try alternative approaches.

Please leave a comment on how you respond to failure and handle difficult times. How do you deal with the rules of the game during hard times? Would you like to learn more?

References

Baumol, W. J. (1990). Entrepreneurship: Productive, unproductive, and destructive. Journal of Political Economy, 98(5), 893-921. Retrieved from http://search.ebscohost.com/login.aspx?direct=true&db=bth&AN=9103252727&site=bsi-live

 Baumol, W. J., Litan, R. E., & Schramm, C. J. (2007). Good capitalism, bad capitalism and economics of growth and prosperity. New Haven, Conn. and London: Yale University Press.

Long, W. (1983). The meaning of entrepreneurship. American Journal of Small Business, 8(2), 47-56. Retrieved from http://search.ebscohost.com/login.aspx?direct=true&db=bth&AN=5749899&site=ehost-live

Schumpeter, J. A. (Ed.). (1975). Creative destruction from capitalism, socialism and democracy. New York: Harper.

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Small Business Finance: Bootstrapping Will Set You Free


The biggest problem I hear most entrepreneurs have in starting their business is how to raise the funds they need. The truth is 91% of entrepreneurs start their businesses by using debt, while only 7% use their own equity (Lam, 2010). This statistic is almost perfectly correlated with the failure rate. The high failure rate associated with the use of debt is no coincidence.

Many small business consultants offer services to develop a business plan to find financing. I suggest avoiding borrowing as much as you can. Bankers and other lenders are not your friend, but the enemy. Entrepreneurs pay dearly on borrowed money leading to high failure rates. How do you expect to earn a return high enough to cover the double-digit cost of capital when first starting out?

I find finances work better for a small business entrepreneur who can manage his or her own finances. An entrepreneur can control his or her own destiny by following this simple advice. Bootstrapping will set you free and make you independent of the loan sharks. What is bootstrapping? Quite simply, bootstrapping is “using other people’s money.” Moreover, bootstrapping is a continuing course of action, not a onetime affair. A savvy entrepreneur will learn how to use bootstrapping to lessen the need to borrow (Lam, 2010).

Some ways an entrepreneur can use bootstrapping include working out of your house, leasing rather than buying equipment, buying second-hand equipment, taking advantage of trade credit, hiring inexpensive labor, and employing family members in the business. An entrepreneur can also develop a savings club to raise capital for start-up (Lam, 2010). Using these techniques avoids the need for external financing and reduces the financing gap. A good entrepreneur balances the cost of funding with the returns the business can earn. A good entrepreneur manages the gap between immediate demand and the firm’s funding needs.

By using bootstrapping the small business entrepreneur shows the ability to manage capital in an efficient way. The small business entrepreneur does not need to give up control to find external financing and can highlight his or her management ability. Bootstrapping shows the small business entrepreneur has the ability to manage relations with others including family, customers, supply-chain partners, banks, and suppliers.

The small business entrepreneur who employs this strategy shows financiers the ability to manage capital so these financiers are more likely to want to offer external financing. The best time to find financing is when the business least needs it. Showing this ability allows the small business entrepreneur to find external financing at more desirable rates without sacrificing ownership and control.

Please let me know why you need financing to start your business by leaving a comment. Do you want to learn more about how to attract financing to your business using this proven forumula?

References

Lam, W. (2010). Funding gap, what funding gap? Financial bootstrapping: Supply, demand and creation of entrepreneurial finance. International Journal of Entrepreneurial Behaviour & Research, 16(4), 268-295. doi: 10.1108/13552551011054480

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Business Reputation No Longer Matters


I have seen many examples in recent years where it appears reputation no longer matters. Starting with the financial crisis behemoth companies like AIG, Goldman Sachs, Bank of America, and a myriad of others have fallen to scandal only to come out with renewed vigor. So what does it mean when a company falls out of favor because of scandal or financial ineptitude? Why do companies work so hard to build a brand only to lose their reputation to scandal?

Seemingly, some companies believe they can have a double standard and believe it’s okay to “do as I say and not as I do.” Why do these companies jump right back into business and rebuild so quickly? Is it because reputation no longer matters?

I believe the problem is a leadership problem of trying to keep a double standard. What’s good for the goose isn’t good for the gander. Weren’t things better when we could trust companies to obey their own standards? Isn’t that what leadership is all about?

I believe leadership is about valuing people to carry out a common vision and trust is the main ingredient needed to develop leaders. Why do companies not spend more on training executives on developing their leadership skills? Are they too arrogant and insensitive to open and honest feedback or do they believe their reputation no longer matters?

Think about what people are buying. I see more people buying generic brands and putting less value on major brand names. I go to Wal-Mart and see generic foods just as good as the major brands for less money. I see the same thing happening with other products. Just yesterday I was looking at lawnmowers and I only saw brands I never heard of before. Whatever happened to an automobile with a body by Fisher? Does anyone care about the brand or do people go for the value?

AIG, Goldman Sachs, General Motors, and Bank of America are right back at it with renewed vigor and one would think these brands would have had some damage. I am sure you can think of others. These companies spend huge sums on advertising to replace customers. Can we trust these brands?

I still believe reputation is critical for success and trust matters. I believe in a new breed of leader that people can respect and trust. Why do today’s executives do okay without the respect and trust of their workers and customers? Why do they need double standards? Have we lowered our standards as consumers?

Please leave a comment or visit us for more. I want to know your thoughts. Does reputation matter?

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Succeeding in Small Business: Managing Risk vs. Learning from Failure


I have read many divergent ideas about starting a business and how to succeed. One recurring theme I hear is to understand how to manage risk and avoid failure. I emphatically reject this idea for several reasons. First, small business entrepreneurs can mitigate risk through insurance and what the entrepreneur deals with is not risk, but uncertainty. Uncertain conditions are not manageable. How can you manage something you do not know about yet?

Second, instead of demonizing failure I believe an entrepreneur should embrace it because I do not know a single entrepreneur that hasn’t failed before succeeding. Failure is part of the program, like it or not! A seasoned entrepreneur knows how to fail and does not quit. Failure paralyzes the inexperienced entrepreneur who moves no further forward. Steve Jobs recognized the need to move on and jump to the next innovation. Jobs believed intelligent people change their minds. A seasoned entrepreneur learns something from each failure and gains valuable experience. An inexperienced entrepreneur is likely to walk away and find a reason on which to blame  failure.

I just read in another blog this morning about how Richard Branson’s mother taught him to not look back on failure, but to focus on continuing to move forward. What excellent advice! Setbacks do not bother Branson as he simply goes on to another idea. I wish my mother would have drilled that into me. Richard Branson is the founder of the Virgin Group in case you do not recognize the name.

In my view, successful entrepreneurs have to build a thick skin and rapidly put failure behind them. Successful entrepreneurs learn what they can do differently next time and develop a “gut” to react to uncertain conditions and limit their losses by knowing when to move on and try a different approach.

Small business entrepreneurs still need hard skills to run their business, but they can gain these along the way by finding the right people and learning from them. The successful entrepreneur realizes success is a learning curve and learning comes from trying new approaches and associating with the right people.

What do you think? Does successful entrepreneurship come from managing risks or learning from failure? I would love to hear your thoughts. Please leave a comment with your thoughts or click here to learn more.

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