Social media had only really started to take off some time in 2009.
In the 2020 TV documentary The Social Dilemma, the show talks about how creators of social media encourage and nurture the addictions of users to help companies make money. But the impact of social media went beyond commercial exploits. Over the years, it also subtly cultivated a deep and unhealthy sense of emptiness.
Luke Burgis talks about this using the story of a man with his martini in his book, Wanting:
Social media has successfully helped billions to overcome geographical boundaries, bringing people together or re-connecting friends who have lost touch with each other over decades. It has also allowed us to keep up to date with what is going on around the world such as browsing someone else's holiday pictures on Facebook or reading about a friend closing a multi-million dollar deal with several well-known investors.
We have been given the privilege of gaining access to more information, but this has also on the flip side, amplified and nurtured the feelings of envy, insecurity and greed, subtly creating a false impression of what we deem to be important or credible.
By acknowledging what drives these feelings could help us better understand why so many companies and founders choose to believe that they read, to inflate their corporate identities and "social circles", probably in hope that some investor will come along and bite the bait. This is manifested in corporate websites, social media snippets, such as trumpeting about a media interview, or showcasing participation in high profile conferences.
And so, we've been led to believe that: If something is sensational and disseminated widely enough, it often the "truth". Even better if someone prominent says something about it (see BN Group). But curating a healthy media presence is one thing. Bullshitting in order to feed your ego is another.
"It’s easy for someone to become an overnight expert on 'productivity' merely because they got published in the right place" - Excerpt from 'Wanting'
Remember the reality TV show Shark Tank? Kevin O' Leary, aka Mr Wonderful, recently revealed taking a $15 million 'deal' from FTX to be its spokesperson. Never mind whether or not Mr Wonderful was a cryptocurrency-skeptic-turned-ambassador. In today's world, it seems that at the right price, people are willing to say enough bullshit to endorse a product or a company, regardless of whether they believe in it or not.
This strategy has been effective in the business and investment world, social media just made it better.
People who consume bullshit will believe in bullshit. Feelings of envy and FOMO often drive people (and investors) to make foolish decisions.
One of the biggest fears of any VC is to be left out in a multi-bagger deal. Some compensate for this through 'diversifying' their portfolios. Those who have staked their money have a vested interest. They want to make sure they don't look bad doing the deal, and therefore will do anything to ensure that the equity story holds up, at least long enough until they exit.
This is the state of fundraising in the world today. This is the reason why we have so many asset bubbles.
In light of the many recent frauds, scandals and apparent lapses in due diligence, investors have started to increasingly become more discerning about who they deal with, what they read in the media, the kind of information they are fed with, and perhaps even more importantly, where they put their money. If they haven't, they should.
The era of bullshitting is over. Companies and people need to wake up to reality and stop the proverbial fake it till you make it, "over-packaging" their products and services, and start getting real about talking about fundamentals and their numbers.
"In the end, I am a teacher; that is really how I see myself." – Jorge Paulo Lemann
When we think about teaching, instructional delivery is almost always the first thing that comes to mind - The typical classroom or lecture hall setting whereby a professor or a lecturer pulls up a set of powerpoint slides and speaks to the class.
Giving a two-day lecture on financial modelling has always been an enjoyable session for me - the interaction, debates and sharing of anecdotes. One of the biggest highlights personally is to see someone complete his/her financial model (plugging the ending cash from the cash flow statement into the balance sheet) for the very first time.
Doing up a financial model might be considered rudimentary for some of you seasoned bankers out there but it is a big thing for someone who is either not trained in corporate finance or struggling to put together an investment thesis at the workplace.
But my teaching engagements go beyond the classroom. At the work place, I am also the go-to person when it comes to troubleshooting excel files and powerpoint, explaining a financial model to an analyst or investor, or when someone needs a slightly older person to be present in the room or to do the presentation in English, etc. Aside from that, I've also been a listening ear to many of our colleagues at the office, from the senior and mid-level folks all the way to the rank and file. I've even been called to help in a situation whereby someone had called our front desk complaining about an imposter who offered him a job at our company.
In August, we closed a landmark financing transaction with a highly reputable investment firm.
The process was lengthy - mostly because we had very sucky lawyers - but also because it involved a deal structure that no one else had done before. Parts of the term sheet were tricky and the closing was even more convoluted. One treasury analyst (协办) in my team had the 'privilege' of assisting me on the deal. Joke was that I had brought her aboard a pirate ship (带上贼船), unleashing an incredible amount of documentation in the process, spanning at least seven inter-connected agreements. The deal was eventually closed and some weeks later, she resigned for better opportunities and left this note:
During that same period (with a separate team), I was also running multiple conversations on getting our first-ever "ESG financing" framework accredited by a international ratings agency. Although we had paid a fee for doing so, the negotiation process was tough. The ratings team sitting in Europe didn't have a clue on the overly long payment cycles experienced by public hospitals in China, and how supply chain financing for pharmaceutical companies delivering medical consumables actually resolves this critical financing bottleneck.
When we finally obtained the official second party opinion (SPO), I counted over 100 threads in the email exchange. It was not only the first time we had ever published a social and sustainability-linked financing framework and received a vote of confidence by an internationally reputed ESG ratings agency, but more importantly, this was one of the key CPs to drawing down on a RMB 500 million syndicated loan facility.
In situations like these, I find my teaching methods taking on a more practical element. I am no longer working within the 'harmless' confines of the classroom where I can freely talk about structuring, negotiation and valuation. My actions have tangible repercussions on the outcome of the deal, and at every step, people are watching.
Middle-to-senior management roles (much like my typical classroom lectures on financial modelling) are often like stage performances: As long as you don't screw up big time, you can always afford a few slip ups, which is perfectly normal, but the show has to go on.
Look, most of the time, you work for money and are subject to the obnoxious KPIs placed on you because of your position. But once in awhile, your job gives you a unique opportunity to make a difference. That difference is sometimes not measured in the millions of dollars you bring in for the firm or the big bucks you bring home at the end of the year, but the impact that you make on the people around you. The difference could range from anything as simple as fixing the alignment on a powerpoint slide, fixing a financial model, helping someone negotiate through a transaction bottleneck or simply changing the mindset and perspective of a particular person.
It is often said that we can't let our jobs define us. But how we do our jobs, and behave with our colleagues and clients ultimately determines the kind of person we are.
I always have had interesting conversations around the assumption and concept of terminal value (TV) in my valuation and financial modelling classes.
The above formula is an extension of the Gordon Growth Model - an economic model developed by Myron Gordon, a professor from the University of Toronto, a key assumption being that a company lasts forever.
Corporate life cycles and the secondary market
The ecosystem of companies and their life-cycles today are very different from 40-50 years ago. Nokia came and went in 7 years. BlackBerry (RIM) lasted for no more than two decades. GE is probably one of the more closely relevant examples of how a company lifecycle could run its course for a relatively longer time before being dismantled into three separate segments in 2021. But I think most companies today don't enjoy that kind of legacy.
Many corporate decisions are made using five and ten year plans. While founders may even have a longer term view of how they envision the business to be, these are mostly aspirational, some might even say fluffy. To make a call on a business over a 20-year horizon is almost unfathomable. Most human minds can't handle outcomes beyond a few decades, and as a result, economists try and simplify this scientifically, and in the process, disregard the cyclical nature of businesses - which is a practical consideration for most investors with a finite professional life. After all, the terminal value is only as tangible as the ability to monetise the underlying asset at the right time.
The perpetual growth model also ignores the effects from secondary markets - investors and individuals that are prone to speculating on a company's value, taking positions both on the stock and derivative instruments such as CFDs and options.
This opens up an alternative scenario: Instead of holding on to a share to perpetuity, there is a choice to flip their position for a quick profit, as long as the equity story continues to hold up. This makes both the use of market multiples and communicating the right narrative even more relevant.
The 2% perpetual growth rate
Besides, as we all know, casting the remaining cashflows into terminal value after the forecast period usually implies that you are basing 60-80% of the total firm value on the discount rate and the perpetual growth rate, which to me seems very paradoxical given that we spend a significant amount of time working out the company's revenue and free cash flows, only to chuck it into a mathematical black box.
Interestingly, the so-called 2% rate widely used in our perpetual growth models originated from New Zealand in 1989 when the reserve bank codified its monetary policy.
According to the then central bank chief, he said that this was “a chance remark" and that the figure was "plucked out of the air to influence the public’s expectations”. The US would later on reference and incorporate this into their policy goals to balance economic growth, wages and unemployment among other things. If you try and communicate this with someone sitting in China or parts of emerging Asia, no one would have a clue what you were talking about. Most people in Asia simply don't care about what long-term growth rate you use for arriving at the terminal value.
Don't get so caught up in economic and finance theories
We used get into hours of academic discussions over the WACC and terminal value during my earlier days in banking. Some of it was deemed as a test of your corporate finance knowledge. Other times it was because a valuation report required the loose ends to be tied in order to arrive at a fair value, or that we needed to demonstrate some form of credibility in the delivery of our report.
The reality is: In the M&A world, there is no such thing as a fair value. No correct answer for the WACC. There are only astute decision makers and those who are afraid to get caught on the wrong side of the outcome. Calculating the cost of capital or terminal growth rate with precision is only crucial either from a financial reporting point of view or only if you expect someone important to be challenging these assumptions specifically.
"What is then the right discount rate to use?" Perhaps the more appropriate question is: What kind of returns are you expecting? If you are evaluating a start-up, this could be anywhere north of 35%. For private equity firms, the rates could range between 15-25%. Institutional investors of public equities could expect 9-15% with zero tolerance for failure.
Simply put: The discount rate is mostly investor-driven - which if you think about it, very similar to the CAPM (Capital Asset Pricing Model), only that the CAPM assumes the investors to be fully diversified. Investors who use their own yardstick for the discount rate and can't get to the valuation they want, generally try to manipulate the cash flows or find ways to "create value" in order to establish a case for the investment.
Don't get so caught up with economic and valuation theories. They are only as important as much as you can use them in the real world. As the dynamics of the real world change, so must our understanding and application of finance.