Manage Money and Income Sucessfully

Exchange traded funds (ETFs) are CEFs that own a set group of stocks, often those in an index such as the S&P 500 or the Dow Jones utilities. Most ETFs are also convertible into the underlying shares such that they always trade at or near NAV. The main issue with ETFs is that they only own the overpriced, overowned stocks in the index. When the last buyer is in for overpriced stocks, returns are mediocre at best and volatility increases.

However, ETFs, unlike index funds, are traded all day long. Overconfident investors will trade them, running up commissions and spreads. Internet companies now offer, for a fee, selected groups of individual stocks. These preset stock portfolios are tailored to attract a wide range of investor whims and are designed to give the investor the illusion of control.

With a mutual fund you are taxed on gains you did not incur and can lose value because other investors panic and sell. Internet portfolios allow you to control your gains and do not subject you to the whims of fund managers and fund management companies. Unfortunately, as a group, most of these portfolios will have the same swings as the market. These portfolios are full of the same overowned, overbought stocks that fill mutual funds. When the last buyer is in, return will be mediocre and volatility high. A mutual fund panic will cause your portfolio to drop just as it would if you owned a mutual fund. Powerlessness can lead to anxiety, numbness, depression, and freefloating fears as with any stock product.

Control is exercised by monitoring the company’s performance against agreed targets. Control over the transaction enables momentum to be maintained to complete it both during the restructuring discussions and subsequently within a given time frame. It also gives the participating banks the ability to react to events quickly, and thereby address problems before they are too late. Control plays an important part within the bank as well, so that the transaction team works efficiently and effectively.

Communication

Communication should be present at all levels: within the workout team in a bank so that all members of the team know the exact position and status of the restructuring; within the loan workout unit of a bank so that a consistent approach is adopted by the institution in all its workouts; within the bank to enable knowledge transfer from the workout department to, in particular, the bank’s credit function; with other creditors and the company during the restructuring so that all parties are kept informed of each other’s positions, where appropriate; and communication should be maintained with the company after the restructuring is in place to ensure effective monitoring and control.

A restructuring solution that is based on erroneous or unreliable information is unlikely to succeed. Every attempt should be made to establish the exact financial position of the company, as well as the credibility of any financial projections. Often this is very difficult and takes considerable time, partly because the lack of reliable information usually contributes to the company’s problems in the first place. Banks must invest all the time that is necessary to obtain reliable information at the outset of the restructuring. It is usually necessary to verify any information produced by the company independently to achieve this. Also, the sharing of information amongst stakeholders promotes trust in the loan workout process.

Anticipation and planning

An experienced banker can anticipate problems and take corrective action before it becomes necessary. To be able to do so, the banker must have sufficient dedicated time and resources to consider all possible options and approach loan workouts in a methodical way. The planning process should also incorporate contingency plans to be implemented in the event of unexpected outcomes. Planning also enables a bank’s resources to be deployed efficiently.

Trademarks and trade names are a second class of identifiable intellectual property. Trademark law is intended to prevent consumer confusion as to the source of products or services. The great names of the old economy are largely trademarked: Coca-Cola, McDonald’s, Xerox, Sears, Gillette, DuPont, and Kodak all inspire trust on a global basis. They create shareholder value above the intrinsic value of the goods and services in the marketplace.

The proliferation of web sites has made trade names even more important in the New Economy. Witness the flood of dotcom advertising during the Christmas season of 1999 aimed at creating brand awareness. The very names America Online and AOL, Amazon, Yahoo!, and eBay are now important commercial franchises. The traffic that comes with consumer awareness generates real options to supply new services on these sites and thus leverages value beyond that earned from the existing services.

Trademarks can be used commercially almost as aggressively as patents. Monsanto spent millions to establish the Nutrasweet trademark and required soft drink suppliers such as Coca-Cola and PepsiCo to put the Nutrasweet swirl logo on every can and bottle. They succeeded, despite considerable resentment from their customers, because of their patent position on the composition of matter. The objective was to use the trademark to differentiate Nutrasweet from generic aspartame and to protect its market position after the patent expired. The strategy appeared to work for a while, but the swirl now has been harder to find on the cans of the major soft drink brands.

The case for continuous innovation is powerful. The key idea is that a company in time calibrates the slope of its technological Scurve in financial terms.3 It gains that knowledge through an analysis of the costs of its R&D programs, counting both successes and failures. At the same time, it learns the impact of improved performance on sales growth and margins. The combination tells it how fast it can move up the S-curve for a given level of technology spending.

Faster growth and higher margins translate directly into value. A higher, sustainable growth of free cash flow significantly boosts discounted cash flow (DCF) valuations. And higher margins improve return on invested capital. The combination of high returns and high growth rates can produce sensational gains in economic value.

Of course, an R&D investment reduces free cash flow in the short term, as in the Boeing case, so it is necessary to factor in R&D productivity to determine whether the long-term growth creates more value than the short-term penalty extracts. Several metrics have been proposed for measuring R&D productivity. In The Valuation of Technology, I proposed using a growth-related measure: the ratio of annual new product sales to the portion of the R&D budget dedicated to innovative new products.

Other companies have developed algorithms for calculating return on investment (ROI) on R&D investment. In the long term, however, R&D productivity cannot be expected to remain constant. As one mines out the more attractive opportunities at the foot of the S-curve and as its slope flattens, it makes sense to reduce R&D and to eliminate programs that no longer add value.