Tao of the Zentropist

January 24, 2010

Harnessing the Inner Demon: Taking Stock and Letting Go

Fundamentally, every human being is driven by an inner demon, and in some cases, more than one. Now I realize that certain literalists of a religious bent will interpret this statement as belief in actual demonic possession, which is not the contention that I’m making (I’ll leave that subject to others for now). Rather, based on my three plus decades of life, I’ve observed that people are complex yet imperfect organisms and in terms of actions, attitude and predilections, will behave in ways that reflect the internal struggle that exists within us all.

Finding a means to positively harness the darker or more negative sides of our emotions, which we must first acknowledge to begin with, is an important step in the individual’s psychological and personal evolution. Rather than live in denial as to the existence of these emotions, we must learn to channel and ultimately rise above them as we navigate our way through life.

THE TWO WOLVES DEFINED

There is an American Indian allegory, often credited to the Cherokee Nation, which directly addresses this struggle that I’m referring to. While there are some subtle variations among the retellings, the theme never changes as recounted here:

An old Cherokee is teaching his grandson about life. “A fight is going on inside me,” he said to the boy.

“It is a terrible fight and it is between two wolves. One is evil – he is anger, envy, sorrow, regret, greed, arrogance, self-pity, guilt, resentment, inferiority, lies, false pride, superiority, and ego.” He continued, “The other is good – he is joy, peace, love, hope, serenity, humility, kindness, benevolence, empathy, generosity, truth, compassion, and faith. The same fight is going on inside you – and inside every other person, too.”

The grandson thought about it for a minute and then asked his grandfather, “Which wolf will win?”

The old Cherokee simply replied, “The one you feed.”

THE SHADOW MAN – YIN AND YANG FROM ANOTHER PERSPECTIVE

Joseph M. Marshall III, a multi-talented Lakota writer, educator, historian and craftsman whose works I’ve come to admire, speaks of his people’s concept of the nagi wica, or the Shadow Man in his book, Walking with Grandfather. As he explains it:

“The shadow being lives within each of us. He or she is the one that pushes back when someone pushes us. It is, as the label implies, the dark side of each of us. Its strengths are anger, recklessness, and impulsiveness, and most of its existence (in most cases) is spent waiting to emerge. Adversity most often pulls the shadow being from its dormancy, where it is held in abeyance by the absence of conflict… When it does emerge, its only limitation is the character of our overall being and the values and morals that we live by.”

In other words, the nagi wica is but a reflection of the face that we present to the world, and what is contained within is simply the hidden aspect of our complete, integrated being. We may attempt to suppress it, but in times of stress, it will sure surely emerge and if we are not careful, overwhelm us.

ENERGY SEEKS THE PATH OF LEAST RESISTANCE

In Buddhist traditions, we are taught that “good” and “bad” are value judgments fundamentally arising from desire, which is the cause of human suffering. Taoism acknowledges that in everything there is balance; as there is night, there must be day; for an object to be hard, another must be soft, and so on. The way in which energy manifests itself, or is utilized, is determined in part by intent, as within it can be found the aspects of light/dark, positive/negative, good/evil or any other dichotomy the human mind seeks to explain through language. Yet as the allegory of the Two Wolves illustrates, energy ultimately takes the path of least resistance. How we cultivate it, or generate it, in turn will influence how it is applied, consciously or subconsciously.

It is because of this natural law, as it were, that we must consciously make a choice as to how we conduct ourselves and put energy to productive use. We can look at a situation, assess it as unfavorable, and immediately fall into a pessimistic mindset, which tends to cloud judgment and further feed into the current morass, or we can acknowledge that “this too shall pass” and there is opportunity to find new solutions, or set another course to our intended destination.

What we cannot do is ignore it, for energy is unforgiving in this respect and does not dissipate simply because we wish it to do so.

MAKING THE INNER DEMON’S ACQUAINTANCE

So what to do when confronting our inner demon? First and foremost, we must seek to understand it. For some, it may be the insecurity of having grown up with little in the way of financial resources, which often motivates these individuals to seek out financial success utilizing what talents they have. For others, it may be wrestling with low self-esteem or being too self-critical and finding a larger purpose which bolsters confidence in one’s self. Still others are consumed by jealousy and envy, and rather than explore why these emotions might exist and how to let them go while using their energy for positive means, choose to wallow in a cycle which is ultimately self-destructive.

It is important to acknowledge that sometimes, these inner demons take the form of addiction (whether to substances or certain behavioral patterns), or are the result of chemical imbalances, physical ailments or deformities, or other serious psychological and medical conditions which require appropriate professional attention and care.

Rather than allow the inner demon to subsume the “angel of our better nature,” we must strive to accommodate this voice from the wilderness without yielding to it. We may not have full control of the card hand that we are dealt in life, but how we play these cards is completely within our purview and must never be forgotten.

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January 8, 2010

Common Financial Modeling Pitfalls

Financial modeling is part art and part science, and in the hands of those inexperienced or deliberately seeking to obfuscate reality, potentially an exercise in wishful thinking if not outright deception. The truth is, nobody has a crystal ball that can unerringly predict future revenues, cash flows, expenses and other pro-forma information given the countless shifting variables which can influence these numbers, but with some foresight, analysis and careful planning, one can create a credible, defensible model that illustrates performance that is not “black swan” in nature and has a reasonable chance of being realized given the stated parameters.

We must also separate the mechanics of programming an Excel Workbook with inter-linked datasheets necessary to create desired pro-formas (e.g. the Income Statement / Profit & Loss, Cash Flow and Balance Sheets) with the planning necessary for information to logically flow throughout the model. This requires a certain amount of sophistication and understanding of how these items all relate to each other. As with any other programming, the mantra “garbage in, garbage out” is one to remember.

Following are some of the key pitfalls that I have observed in financial models, aside from incorrect calculations and formulas…

BEWARE PREDICTABLE “HOCKEY STICK” REVENUE GROWTH

It’s interesting to note the tendency that regardless of the business vertical or product or service offerings, so many revenue projections tend to follow an extremely predictable trend line; the first two to three years often show modest growth, but by Year Four revenues suddenly rocket upwards, buoyed no doubt by massive public recognition of the value of the company’s offerings and resulting in what analysts call a “hockey stick” profile.

This “default” profile more often than not reflects the need of a company seeking investment to demonstrate an attractive return on investment (ROI) within a time-frame that is not too long-term for most investment sources. Unfortunately, it is often arrived at by manipulating, consciously or sub-consciously, data in order to arrive at a desired result, rather than compiling data without regard to the desired result, and then following it to its conclusion. In other words, rather than letting the facts speak for themselves in order to form a theory, one arrives at the theory first and then cherry picks “facts” in order to prove the theory true.

To be sure, there are certainly legitimate circumstances for the “hockey stick” profile to emerge, but you must be confident that this is not the product of wishful thinking or the confluence of “perfect storm” conditions.

ASSUMPTIONS ARE NOT GROUNDED IN REALITY

More sophisticated reviewers of financial models understand that these exercises in analysis are not a Magic Eight-Ball but rather an artificial construct that is highly dependent upon the quality of data entered, the programming which drives the resulting pro-formas, and of course, the ability of the company to execute on the various aspects of the business plan which allegedly support the conclusions show in the financial projections.

All too often, those preparing the model will fail to cite sources from which data is extracted or will base projections on overly-optimistic third-party research which sometimes has an agenda of its own. While it is not always possible or practical for a company to conduct extensive primary research or have access to historical operational data to help support future projections of market conditions, customer behavior and trends, etc., it is vital for the sake of credibility in the due diligence process that the company err on the side of caution and present conservative projections which under-estimate revenues and over-estimate costs to provide more margin for error and adjustment to “reality on the ground” rather than pie-in-the-sky wishful thinking.

MISTAKING TAM FOR THE MARKET NICHE YOU ARE TARGETING

Another very common problem is that companies sometimes overstate the actual market their product(s) or service(s) are addressing, and paint an unrealistic picture of the actual market size. In marketing lingo, “total addressable market” (TAM) is a conclusion as to the size of a given market assuming no competition exists and the company can distribute its product/service without constraint. Of course, this is something of an artificial benchmark, because competition (even indirect) always exists, even for a brand new product/service, and achieving complete distribution is virtually impossible no matter the medium.

However, in reality most companies are targeting very specific niches within larger markets and when assessing market potential, they must recognize and acknowledge this. For example, if you are manufacturing men’s technical outdoor apparel, your TAM would have to be based on the industry’s definition of “technical” clothing, intended for the outdoors, and only for men. It would be irrelevant and erroneous to base your market size projections on total revenues realized from sales of newly manufactured clothing, which includes men, women, children and all of the various types of clothing within the broader category.

COSTS TO CAPTURE MARKET SHARE GROSSLY UNDERESTIMATED

Another error to avoid when projecting market share is the tendency to take “short-cuts” and make arbitrary decisions such as, “our company can capture 2% of the market by Year 3” simply because that seems like a modest slice of the pie and that 2% number nicely dovetails into sufficient revenues and net profits to make your model look attractive to investors.

Unfortunately, if you wish to be taken seriously and have a credible defense to skeptics and those playing devil’s advocate, you must work more granularly and outline the process by which you arrive at the projected market share. Even more importantly, you must be realistic about the costs involved to capture such share, which will involve marketing initiatives that cost very real dollars, even in a digital age. All too often, companies grossly underestimate the costs of marketing channels, the duration of campaigns, or assume that “word of mouth” and other free or low-cost solutions will provide the customer awareness, brand equity and penetration that they need.

CASH FLOW RELIES ON OPTIMUM PAYMENT CYCLES FOR A/R AND A/P

Another easy to overlook detail in a financial model is the assumption that is made regarding payment cycles for accounts receivable (A/R) and accounts payable (A/P) especially during challenging economic environments. There is a tendency to assume 30-day cycles for both, without taking into consideration industry practices, likely customer behavior, and the effect of tightened credit as a result of the global recession which began in 2008. Many companies naturally will be aggressive in seeking to collect on A/R, yet will drag out their A/P as long as possible to conserve cash. In order to maintain sufficient operating capital, it is critical when preparing a model that you assume that you will not be paid as quickly as you might like for your products/services, and you will still have to pay your bills in a relatively timely manner or face other consequences which may constrain operations.

CLOSING THOUGHTS ON FINANCIAL MODELING

While preparing a financial model can be daunting and time-consuming, when done properly it should provide a business with a useful tool for internal planning as well as raising outside capital, if that is the company’s intention. In my experience, financial models that project beyond 5 years out are unnecessary and so incredibly speculative as to be fairly worthless, and are usually discounted by reviewers anyway. While some modeling advocates like to provide a monthly breakdown over a 5-Year / 60-month period, this too is often unnecessary; many reviewers are happy with breaking out only Year 1 (and sometimes Year 2) by month, and some will settle for quarterly breakdowns in lieu of this.

Finally, since it is easy to make honest mistakes in constructing a model, even if operating from a template, having another knowledgeable party review the calculations and underlying assumptions is a great way to error-check and provide friendly challenges so the model can withstand less forgiving scrutiny.

If your business requires assistance in developing a financial model, or for other Business Plan development, strategic planning, marketing or project management needs, please visit Black Rock Consulting online or email us for a confidential discussion of your needs. Initial consultations are FREE OF CHARGE and WITHOUT FURTHER OBLIGATION.

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