Street-Smart versus Book-Smart

In my day to day activity I am increasingly confronted with a new burden: the need to work, communicate and maintain a balance of influence among groups of individuals that are framed as either street-smart or book-smart.  I admit, I struggle with the idea that one is more important than the other. In a society that is increasingly influenced by perceptions and is more connected at a superficial (virtual) level, empirical evidence suggests that street-smart people are doing better, are more prominent and more adapt to the current trends. However, I believe that both types have beneficial influences over the impacted audience.

The way I define this reality is by looking at it from different perspectives:

Book-Smart People                      Street-Smart People

Concerned with Substance            Concerned with Form
Create knowledge                           Able to relate information
Understand the principles              Figure out the application
Generate solutions                          Amplify ideas
Learn through formal education     Learn through observation
Know a lot about few things          Know little about a lot of things
Invent new things                            Innovate and improve
Higher IQ                                         Higher EQ

It is easy to get mesmerized by the ability with which Street-Smart people exploit opportunities in life, by impressing audiences with their extensive “know-what, know-how and know-who”. However, leaders and managers in authoritative positions are frequently confronted with the need to discern between information that is made available to them by Street-Smart versus Book-Smart subordinates. The mission of good management is to separate the real information in the message from the noise.
 
And there is considerable noise in the system;
   • created by unverified or exaggerated information,
   • embedded into the signal through misinterpretation or distortion
   • multiplied through repetition and extrapolation
   • strengthened by buzz-words and name-dropping
   • hidden under the umbrella of charisma and enthusiasm
   • reinforced by bullies and laud, energetic promoters

The unfortunate property of the signal amplifiers is that they magnify indiscriminately the whole wave sound, with all the useful as well as twisted components. There is no distinction between fact and hearsay, between reality and appearance, or between truth and distortion. That is why probing and testing of information accuracy is needed more than ever, in a world where verbal and written interaction has become so intense - due to the mobile, virtual and personal features of the communication tools – and the people are overwhelmingly interconnected.

So what I propose is an analogy with the electronics systems where the useful signal is generated by the Book-Smarts, is amplified and transmitted by the Street-Smarts and filtered and interpreted at the other end by the wise and experienced Manager. The filtering could be done either at the emitting point – although transmission could inject additional noise – or at the receiving end. The trick is to correctly identify the quality of the source, the character of the communicators in the channel, and the motivation of the interpreter.

The Role of Management

After spending a good portion of my professional life in management structures, I arrived to the conclusion that the fundamental role of management is to anticipate, assess and mitigate risk.


In absence of risk there is no need for management. I know, some will argue that any activity needs coordination and administration and therefore, it requires management. But isn’t that just another manifestation of risk?

Let’s assume an ideal operating environment that is self running. It has only a leader (owner) and an army of executants (employees).
• One day an employee does not show up for work and the owner realizes that there is a risk of that happening from time to time, among the employee population. Consequently he nominates an HR Manager to deal with the absenteeism.
• Another time the material needed for processing does not arrive, because of some supply problem; so he designates a Purchasing Manager to ensure that the material is ordered and received on time, and procured at the right prices.
• The products are ready for delivery now, but the truck hasn’t been called to pick it up; woops, there is a need for a Logistics Manager
• Opportunities for business present themselves in an irregular sequence, and the assignment of work among co-workers needs to be changed daily  a Production Manager is put in charge to coordinate the allocation of resources
• Customers are interested in the product but they want to talk to somebody where they could place their orders or learn about the product. Technically the orders could be recorded by phone or e-mail, and the reading of the brochure should provide enough information, but faced with the risk of loosing customers or orders because of lack of response the owner nominates a Sales Manager
• The PO suggests when the customer wants the product, but for some reason, the project activities are not happening according to plan  the risk of not finishing the project on time – unless properly coordinated - gives enough reason for the existence of a Project Manager
• Finally, the product is shipped and invoiced, but the payments are delayed, and the bank is raising questions about the overdraft level in the company’s account. That is when the Controller justifies its position.

The image is pretty clear: In the minute an enterprise is born, there are inherent risks that are threatening the ability of the firm to perform well and make profits. The capacity of the company to generate results is guarded against risks by this institution of Management, whose primary role is to anticipate probable scenarios, evaluate risk exposure, analyze possible consequences, develop solutions and implement plans, structures and processes, measure results and devise reward systems to ensure continuous success. In spite of these efforts, risk does not totally evaporate, but – when things are done well - is minimized.

Once accepted as an objective need, the management expands, gaining legitimacy and consolidating its new platform called “Overhead”. In time, the merits of its contribution are gradually diminished to a point where is perceived as non-value-added, or burden. And from there, in the name of “lean transformation” a process of constructive demolition begins, until the necessary managerial safeguards are no longer in place. Then something happens and the negative impact of such occurrence exceeds by far the cost of its prevention. Instantly we realize the value of risk management and are willing, again, to dedicate resources to it.

However, by now we went full circle, and the history repeats itself.

Does it sound familiar? It should, because is happening everywhere. And emerging from it, an entire army of management consultants make a living.

Financial Regulation - A Common Sense Solution

There are days when complicated issues come on display in a different light, and, suddenly, they look much simpler. It recently occurred to me that the problem with the financial industry may not be residing in the behavior of its players, nor in the ways it functions; it has more to do with the commercial attributes of its products.

I was always troubled by the terminology used in the financial industry. And, I am sure, I am not alone. When I hear bankers using a term like “product” my skin wrinkles, because I know that they do it just to disguise the real nature of the item that is being sold, and the risk associated with it. The psychological effect of calling derivatives and other financial instruments “products”, is that the public is more inclined to accept their legitimacy in the commercial space, as opposed to treat them as pure gambling.

In the real world the product is something that is conceived and made for public consumption or utilization. One of the most common attributes of the commercialized products is the warranty that comes with the transfer of title. That is the real guarantor of quality and performance, even more so than the brand name and firm reputation. In some instances it even comes with an extended warranty, as a differentiator. In the name of this warranty, the product is usually returnable for and exchange, or for a refund if it does not perform to the satisfaction of the buyer. The only other sector where the buyer bears the entire risk of poor quality is entertainment: a ticket to a movie, or a baseball game, where the performance does not rise to the level of expectations is not usually refundable. But, at least in those cases, there is no presumption of potential for any material gain.

So why should the financial products be warranty exempted? Since the claim is that their creation and commercialization is the result of a similar process - concept, design, financial engineering, packaging, marketing, selling – why would they not be subjected to all other requirements of the commercial stream, including taxes? (How would you feel being charged 13% HST for the purchase of a stock, a bond, or any derivative?). To make it more appealing one can even buy insurance on such products. However, you cannot get any certificates of warranty. Isn’t that fishy? It certainly smells like it.

The way it is right now, there is zero accountability of the seller (or the commercial agent) to the buyer of a financial product. This lack of responsibility for the performance of the product is what encourages the speculators to misrepresent the risk of the investment, and hence mislead the buyer. In a world of total accountability, the financial institutions should be required to guaranty a minimum level of performance for their products. That is the only regulation that needs to be implemented: “A money back guarantee”. The rest would fall naturally into place.

Let the financial institutions be as big as they want, so long as they play by the same rules as everyone else. As true products, the faulty CDOs issued by AIG or Goldman Sachs should have been recalled, and the buyers (instead of being victimized) reimbursed the full purchasing values. It is easy to accumulate profits where everything is sold without consequences to the issuer. It is like shopping at the Flea Market, or buying from a Garage Sale. At least in those cases you see what you buy. In the virtual world of financial speculation there is no such thing.

So public beware when buying “products” through such an unregulated channel! As Michael Lewis once said in his book “The Liar’s Poker”: in the market there is always a fool; and if you don’t know who the fool is, it is likely that you are the one.

It is a shame that the financial sector attracts so many intelligent people (intelligence does not necessarily equal integrity) and wastes their talent as flea market merchants.

Personal Thoughts on Societal Priorities

I recently had an interesting discussion with a diverse group of people about the value of the Space Program announced by Obama Administration earlier this month. Of course, the issue has generated debate in regards to the role of government in the modern society. Here are my thoughts on the subject.

History has proven that free-market environments provide more effective conditions for sustained economic growth. Many refer to the progress of the western societies, and primarily USA, to support this argument. However, since the globalization movement intensified – during the last two decades – the rapid evolution of the emerging economies, even in absence of perfect free market mechanisms, (China being the most relevant example) raise questions in regards to the absolute relevancy of the above hypothesis.

A closer look at how the role of the government is played in prosperous societies will offer an interesting perspective.

Constitutions provide the framework for the fundamental rights and obligations that members of a nation must collectively observe. They purposely leave the role of defining and running the economic space into the hands of elected governments. For most democratic countries this works fine, within the confines of the national borders. But what about the global environment?

There is no constitution universally accepted at the planetary level, nor there is any governing authority generally recognized across the globe. The creation - after the Second World War - of international organizations such as UN (United Nations) was meant to ensure the harmony in the political space. Similarly, portions of the economic spectrum were intended to be regulated by structures like WTO (World Trade Organization) or IMF (International Monetary Fund). We all witness, today, how difficult it is for members of these organizations to reach consensus on any measure of real importance, and how ineffective their involvement is in configuring a healthy and controllable global economic environment.

The consequence is a series of gaps, overlaps, contradictions and confusions - all anomalies that are creating a moral hazard - selfishly exploited by business and political entities in possession of the asymmetric information. This is why banks and other financial institutions prosper in this environment, beyond our wildest imagination. This is their business model: to detect valuation differentials and capitalize on any inbalance of sorts by creating exchange markets where these transactions take place, allowing them to benefit in two ways – charging significant transactional fees, or shorting the movement of stocks.

It is hard enough to regulate an internal system; it is close to impossible to impose such regulations on the global scale. Hence, the legitimate question of the worthiness of the type of markets that do not create a social utility, nor respond to a planetary need.

The speculative financial markets should be contained. The current betting system that constitutes the market for derivatives resembles rather a casino setting. It should be a sport in which people engage individually or as a group, but only to the extent of their sole capabilities. It should be treated and tolerated as entertainment, rather than means of existence. To allow such industry to evolve to the point that its failure could destabilize an entire economy it’s not only perverse, but is totally irresponsible.

                             *        *         *        *         *

We all agree that societies are complicated structures, which require a complex mechanism of organization and control. Beside industries that are producing real value through the conception, creation and transformation of goods and services there is an objective need for support and infrastructure, where the majority of peripheral services play an important role. But they have to remain peripheral as opposed to taking the center stage, and substitute the core.

Among the type of government spendings that do not have an immediate pay-back in terms of societal benefits – other than the employment of people in the industry - one could include the space program, production of military equipment or field deployments etc. These are few areas where efforts are of a strategic nature and will only bring long-term benefits. Although the outcomes are positive and generally supported by members of society, the efforts required to achieve meaningful results transcend the ability of the private sector. Incentives have to be created and support provided by governments through subsidies or budgetary allocations. Therefore, budget allowances remain the most effective tools to trigger, stimulate, accelerate or terminate such efforts.

At the other end of the spectrum there are activities that have a natural tendency to proliferate, due to the attractive margins they offer when insufficiently regulated (see financial speculations, drugs and arms dealings, adult entertainment etc.) We all can understand that in a free-society the existence of such activities is a necessary evil (the Romans invented the concept of “bread and circus” as the effective means of keeping people occupied in order to prevent revolts). But they should not be tolerated to the point that they become the most effective way of getting rich.

Ability to accumulate wealth should be correlated directly with the value contribution to the society. And this evaluation – of what is congruent with a nation’s values and aspirations – should be entrusted to a democratically elected government. In fact, the government should create and maintain (sometimes by means of political decisions, and other times by means of public consultation) a classification of activities, organized based on a merit point system, from the least important (but legal) to the most important.

The activities at the left of the spectrum (the least important) should be taxed more aggressively to prevent out of control expansion, the ones in the middle should be tolerated or encouraged through reduced taxes and/or subsidies, while the ones of national importance should benefit of tax exemption and budgetary funding.

It is in this context that I believe that trading derivatives for financial speculation should be placed at the left of the social utility spectrum. I find the whole discussion about bailing out institutions using such techniques for their own benefit as unfounded. When they do well they should be taxed in the highest bracket; when they are on the verge of collapse they should be left to suffer the consequences of their own greed.

On the contrary, the space program should be funded in proportion to the nation’s ability to support it, without sacrificing the normal quality of life of its citizens. In the long run, the cognitive progress and the technological advancements resulting from such programs provide universal benefits that, beyond any doubt, enhance the human condition, thus justifying the investment.

Lessons from the Best in the Field

When it comes to finances, investments and a life worth living, nobody seems more qualified to lecture than Warren Buffett. From his biography - “The Snowball”, written by Alice Schroeder – I extracted some words of wisdom which I would like to share with interested readers.

About Stock Market

In the short run the market is a voting machine. In the long run is a weighing machine. Weight counts eventually, but votes count in the short term.

What one is doing when investing is deferring consumption and laying money out now to get more money back at a later time. The only two questions are: How much are you going to get back, and when?

Interest is the cost of “when”. It is to finance what gravity is to physics. As interest rates vary (from period to period, or from country to country) the perceived value of all financial assets – houses, stocks, bonds – changes.

Ultimately, the value of the stock market could only reflect the output of the economy. (Buffett expected the growth to be no better than 7% a year, on average). The wishful thinking that the stock market could keep rising at 10% or more a year, could only happen in three ways:
• If interest rates remain below historic levels for an extended period of time
• If the share of the economy that went to investors (as opposed to being consumed by employees and government) rose above sustainable levels
• The economy would start growing faster than normal.

However, all of the above are abnormal conditions.

About Wall Street

Wall Street is the only place where people ride in a Rolls-Royce to get advice from people who take the subway.

Anybody who consistently beats the market average is just lucky or trading on inside information. Behind every great fortune (achieved through speculation) there is a great crime.

Moral hazard is a chronic disease, but the world will always be full of people who love risk.

When enough time passes and nothing happens, people who are making a lot of money tend to think it is because they are smart, not because they are taking a lot of risk.

Derivatives are like sex; it’s not who we’re sleeping with, it’s who they’re sleeping with that’s the problem.

Wall Street is a “casino society” that is making the corporate raiders rich. The speculator’s profits should be taxed 100%.

If you keep betting long enough, sooner or later, as long as zero is not impossible, someday a zero will be one hundred percent certain to show up.

About Life

The purpose of life is to be loved by as many people as possible, among the ones that matter to you….That’s the ultimate test of how you have lived your life… As you get older and nobody thinks well of you, I don’t care how big your bank account is, your life is a disaster.

The trouble with love is that you can’t buy it. You can buy sex, you can buy testimonial dinners, you can buy pamphlets that say how wonderful you are. Sometimes, vast amounts of money could make a person look more attractive, funny and intelligent. But the only way to get love is to be lovable. And for the ones who have a lot of money, this truth is especially irritating. You’d think they could write a check: I‘ll buy a million dollars worth of love. But it doesn’t work that way. The more you give love away, the more you get back.

Life is like a snowball; you are born at the top of a hill and you could roll down, growing at every turn. But there are choices in life that will influence the way you grow.

“…The snowball only happens if you are in the right kind of snow. What makes it right is your understanding of the world and what kind of friends you accumulate. At times, you get to select, and you’ve got to be the kind of person that the snow wants to attach itself to. You’ve got to be you own wet snow, in effect. You’d better be picking up snow as you go along, because you’re not going to be getting back up to the top of the hill again. That’s the way life works.”

Toyota Conundrum

This is one of the most intriguing stories of the modern industrial era. It is so not just because it involves one of the manufacturing icons of our times, but because its larger than life story of success and exemplary execution has become the closest representation to an ideal business model.

Nothing used to be more convincing about building a supply chain, running efficient operations, employee involvement, customer loyalty and product reliability, than the example of Toyota’s Production System. An entire vocabulary of Japanese terms has been embraced and popularized by a consulting industry fascinated with the attributes of the TPS. Many companies around the world have tried to emulate their style of operation. Everything seemed to evolve in their favor until their own success started to haunt them. Last year Toyota surpassed all the other car manufacturers in global sales. There is little surprise that simultaneously it became the target of public scrutiny and political interest.

Marketing specialists have advised for years that product identity is key in establishing consumer preference. For Toyota that ID tag was reliability. But the differentiation attribute could be also the Achilles heel. When that unique quality starts to fade, the entire foundation of trust is shaken. The recent incidents related to sudden acceleration - reported by drivers of some models - is exactly the type of problem that could ruin Toyota’s untainted reputation.

What caused the unexpected turn of events? At what point did they deviate from the strategy that ensured them success? Where did their new tactics open areas of vulnerability? All of these are questions that, in the last few months, preoccupy the minds of industry experts, political commentators, media and financial analysts as well as the public at large.

One of the memorable aspects of Toyota’s traditional image is the superiority of their technical characteristics and the processes that ensured almost perfect quality and reliability. We might have become accustomed to that image via marketing campaigns or advertizing, but the credibility of its claim was based on technical merits. The people who made that image recognizable were more the likes of engineers and technicians who created designs, processes and systems that resulted into meritorious products, and less the kind of individuals who spread the word through shows, billboards and TV advertizing.

It is relevant to remember that when Toyota developed the strategy of penetrating the North American market, it sent an army of engineers to study the lifestyle of the target audience, and to translate the discoveries into product attributes that are suitable and attractive to the intended users. They returned with intelligent findings, objective observations and the knowledge rooted in the reality of the market they were committed to serve. What resulted was a series of high performance, attractive and reliable models that gradually earned the respect of the North American public and the appreciation of a loyal clientele. Engineers and technicians used to be the heart and soul of the Toyota organization.

More recently, due to competitive pressures, they switched the focus to marketing and sales, and placed their technical foundation on the back burner. There is usually a lag between the change in strategy and the impact in the field. However, when consequences start to surface they have a long-term effect. There is also a fine balance between the amount of funding, energy and effort required in different functional departments of a corporation. It doesn’t take much, though, to push an institution off balance.

It is clear now that Toyota – while claiming more boldly their first place in the minds of the customers through expensive and aggressive marketing campaigns – have taken their eyes off the ball, and subordinated the usual rigorous development, testing and control systems to the temptations of rushing production, and the pressure of being first on the market.

There is a lesson to be learned from each failure. I am sure that the Japanese technicians will eventually restore their good name by resorting to what brought them the initial reputation: solid engineering and decent positioning.

Tax Issues – Canadian Style

I believe that the economic crisis, currently experienced in the western countries, has the roots in the way the creation of value is stimulated and incentivized.

The present taxation system - in most of these countries – includes a number of components, of which the following are the most relevant:
• Consumption tax (VAT)
• Sales tax (PST)
• Corporate and Individual Income tax
• Property tax

Value Added Tax (VAT) – the Canadian GST is just a version of it - is meant to penalize the companies for their contribution (value added), as the net VAT is proportional to the gross margins. And here is where the anomaly starts. The more value you create in the supply chain the more taxes you pay. Our crisis is not that we create too much value (I mean real material value, not transactional utility), but that we don’t create enough. Therefore, what needs to be taxed – hence penalized or discouraged - is not the value added contribution to a product or service, but the lack of value added. In other words who should pay more is the business that only transacts the product, as opposed to creating it.

Contrary to this common sense assertion, the most rewarded businesses, these days, are operating in the transactional domain (investment banks, insurers, law firms, retailers of expensive merchandise). The material value creation is mostly outsourced and off-shored. Unfortunately, what the western world specialized in doing is to transact those goods and commercialize them.

If the government is seriously concerned about turning this trend around, the logical thing to do would be to implement a taxation system that would put more burdens on the companies not adding enough value into their offering – the types of commercial agents, or transactional contributors in the channel.

The taxation system is complicated the way it is. So any attempt to simplify it should be saluted and supported. The imminent introduction of the Harmonized Sales Tax will only increase the tax load to the consumer. Shifting the tax burden from businesses that actually create value to the ones that are just inserting themselves between the creator and the consumer - thus inflating the prices and altering the perception of true contribution - would be the only logical, responsible and effective way of stimulating the real value creation.

In a time when – due to accessible financial speculation and affordable house flipping – the public developed a false perception that the GDP could grow out of nowhere, and money could be easily made just by buying and selling, the second corrective measure should be a differentiated income taxation rate for investment money (higher) than for profits resulting from legitimate business processes (lower).

Human beings react to stimulus and incentives. Behavior could be influenced – to a certain extent – by the attributes of the system within which it takes place. Any advanced society should accept the need for dynamic changes, and be tenacious enough to implement the necessary adjustments, able to improve its economic functionality, financial equity and social fairness. The taxation system is one of the most effective tools for reaching these desiderates and restoring the balance.