Date

Topic

Category

ENTREPRENEURS TOOLKIT What I learned

Pre-Mat Week # 1 (w/c 25 May 09) An attractive opportunity is the most important element of FIT

What I Dont Understand/Have Yet to Learn

How do you determine whether or not an opportunity is attractive? The FIT framework note lists a lot of questions - I would like to apply or see these applied to a real scenario to understand how the framework helps you make the distinction. - I would also like to get to the point where this framework is part of the way I think anyway. How do you "never run out of cash?" What questions must you have answered adequately right at the beginning to minimise the chances? And what do I need to be monitoring closely?

May 25, 2009 Ultimate FIT Note

Framework

May 25, 2009 The Accounting Lesson Game

May 25, 2009 The Accounting Lesson Game

CASH is the most important thing to measure in a business. More cash is better Cash sooner is better Less-risky cash is better Never run out of cash - Expenses are the cost of doing business regardless of the level of production. - Expenses reduce earnings

May 25, 2009 The Accounting Lesson Game May 26, 2009 Acting on Lesson Insight

- An expense becomes An asset when we pay in advance and it has value into future accounting periods. E.g. A prepaid insurance policy. The prepaid portion of it is An asset. the current portion of it is An expense. Gross Profit is Sales less COGS Net Profit is Gross Profit less Expenses Acting on insight is what distinguishes those who truly make a difference, I know this is one of my weak areas. I love insight and those who simply dream. more than I love action. I need to develop the habit of always translating insight into action, effectively. I'm glad the LoM study groups are structured so that we identify an insight and an action after each lesson. This will be very helpful for me. What are my most valuable strengths? What are my most dangerous weaknesses? What questions have I not yet asked myself that I really need to over the next 12 months?

May 26, 2009 Managing Oneself May 27, 2009 Personal Transformation May 27, 2009 LoM Framework

Question Lesson Framework Summary Questions are more important than answers "How Can I Find My Calling?" - Preference and Potential / Self-knowledge (What do I want?) - Possibility / How the World Works (What does it cost?) - Priority / Trade offs (Is it worth it?) A useful profitability diagnostic framework (from the Accounting Game) Calculate Trends of COGS/Sales, Exp/Sales, NP/Sales Ask: (1) Did we make a profit? (2) How is the NP/Sales trending, up or down (3) If NP/Sales is trending down, is the problem reflected in COGS/Sales or Exp/Sales or both? (remember they all add up to 1) (4) What has been happening in the business that is causing the problem? (5) What do we need to do to resolve the problem?

May 30, 2009 Cash and Valuation

(Sub) Framework

May 30, 2009 Customers

Lesson

There are attractive customers and unattractive customers: In what circumstances would you still go for Attractive customers have intense needs, have few or no substitutes, are unattractive customers? easy to find and qualify, and easy to communicate the benefit to; They are low risk to try, are likely to buy many times, and are hard to lure away What questions do I need to ask potential customers to determine if they are attractive or not? How can you work when it becomes worthwhile?

Page 1 of 18

Date

Topic

Category
Lesson

ENTREPRENEURS TOOLKIT What I learned

Overarching questions: LoM: How can I find my calling? C&V: How can you make the firm and your equity worth as much as possible? O&C: How do you build a production or service delivery process that delivers exactly the right product or service, in the right quantities, at the right time, with the lowest cost per unit and the smallest upfront investment possible? Cust:How do you identify, listen to and segment customers; price products and services; and build a sales funnel to close the right customers, at the right time, in sufficient quantities, at as low a cost per sale and with as small an upfront investment as possible? EJ: Should you invest you money and your life in this venture? Operations is not about what you want to produce. It is about what the customer wants you to produce. Never lose sight of this Suggestions for making "Acting on Insight" a habit 1. Make it a reflex: Ask "how can I honour this insight?" 2. Start small 3. Make a provisional commitment 4. Be curious - discover what's working/ not and why 5. Discuss with people you trust

What I Dont Understand/Have Yet to Learn

May 30, 2009 All courses

May 30, 2009 Operations and Lesson Cost May 30, 2009 LoM Lesson

What insight from this week do I need to honour by taking action?

NOTES I would like to come up with a simple paper-based way of capturing my EJ lessons and notes. Preferably something I can carry with me and be able to jot the nites down "in real time". Then when I type them up, it's an opportunity to review them. Ultimate FIT - schedule in time to review again in a week's time Jun 2, 2009 O&C Lesson Pre-Mat Week # 2 (w/c 1 June 09) The Goal of any business is to make money: to make money by increasing What about social enterprises? Can you run a net profit while simultaneously increasing return on investment and social enterprise on business principles? Is there a simultaneosuly increasing cashflow. conflict of goals? The goal can be restated in different forms, but to say exactly the same thing to a different audience. The goal of a manufacturing outfit is to make money: to make money by increasing throughput while simultaneously reducing inventory, and simultaneosuly reducing operating expense. Throughput = the rate at which the system generates money through sales (MONEY COMING IN) Inventory = All the money that the system has invested in purchasing things which it intends to sell (MONEY INSIDE) Operational Expense = All the money the system spends in order to turn inventory into throughput (MONEY GOING OUT) You must understand the incremental impact to profits and free cash flows of every incremental sales, operational, or financial decision. The essential skills needed to become a successful entrepreneur are straightforward. You need to: (1) understand the basic mechanics of business; (2) learn how to read, motivate and lead people; and (3) understand your own motivations, talents and blind spots. Mastering the basic mechanics of business requires: (1) keeping track of profitability and cash flows on a unit-by-unit basis; (2) valuing the resulting cash flows; and (3) designing, building, and improving the processes that attract and serve customers.

Jun 2, 2009 O&C

Lesson

Jun 2, 2009 O&C

Lesson

Jun 2, 2009 O&C

Lesson

Jun 2, 2009 O&C Jun 3, 2009 C&V Jun 3, 2009 C&V

Lesson Lesson Lesson

How will I know when I have these 3 essential skills?

Jun 3, 2009 C&V

Lesson

How will I know when I have mastered the basic mechanics of business?

Page 2 of 18

Date

Topic

Category
Lesson

ENTREPRENEURS TOOLKIT What I learned

Unit economics--a rough estimate of the sunk, fixed, and variable costs of your business. They yield the 4 numbers: 1) PSI (2) break-even volume for fixed-period costs (3) pre-tax payout, and (4) the total pre-tax profit These 4 numbers almost always give enough info to tell whether or not an opportunity is attractive. Fundamental entrepreneurs defer sunk investments and avoid fixed-period commitments until their venture reaches cash-flow breakeven and payout by selling a sufficient quantity of product, at a high enough price per unit. They move forward only if their investment is likely to be returned and potential losses are small and contained when compared to potential profits. In addition, fundamental entrepreneurs prefer to own most of the equity in their firms. What you can (and can't accurately predict: in order of increasing difficulty 1) production line. e.g. effects of cost-cutting 2) sales expansion: even with loyal customer base difficult to predict effects of sales expansion 3) new product: people's response to new product 4) market forces (interest rates, commodity prices and the general economic environment) Fundamental entrepreneurs seek investments whose value depends on things they can predict, influence or control.

What I Dont Understand/Have Yet to Learn

Jun 3, 2009 C&V

Jun 3, 2009 C&V

Lesson

Jun 3, 2009 C&V

Lesson

Fundamental entrepreneurs can take advantage of speculative booms using four methods READ LAST TWO PAGES AGAIN I think I am fundamental rather than speculative by nature

Jun 3, 2009 C&V

Lesson

6/4/2009 C&V

lesson

4 ways Fundamental Entrepreneurs can take advantage of speculative booms: 1) Stay true to a bootstrap approach, even in heady times. Even when others are betting it all, a fundamental entrepreneur can find niches in which wise incremental investments lead to quick payouts, staying clear of opportunities that require large sunk investments. 2) Finance investments with non-recourse debt. Non-recourse means that a lender may only consider the assets of the venture for repayment of its debts. Assets owned by the entrepreneur are not at risk. Projects that begin in economic troughs and end before a boom evaporates can be extremely profitable. If each project started during a boom is financed separatelyand with someone elses moneyan entrepreneur can collect profits from the winning investments without shouldering the costs of the losses. 3) Pursue a contrarian approach in cyclical industries. Industries like mining, oil and gas, real estate, and venture capital are cyclical. Factors such as the long lead time required to add capacity, inelastic demand, high capital intensities, and high operating margins make it certain that these industries will cycle between boom and bust. Fundamental entrepreneurs can take advantage of this by investing in these industries with non-recourse loans when prices approach variable costs, and selling as soon as profit margins are high enough to attract new entrants. 4) Collect real options while building a fundamental business that may become valuable during a boom. A fundamental entrepreneur can speculate by collecting, in the normal course of business, assets that might rise in value during a boom. For example, imagine that you ran an air-conditioning repair service in downtown Houston during the 1960s and '70s. You add customers one by one, being careful not to buy another truck until you need it. Over time, you buy more and more parcels of land on which to park your growing fleet. Before long you are making a decent living:get ahead of salary and net "Do not let the complexity of your business $250,000 in your number sense" Learn the essential (keep your brain one step ahead of your business)

These are very sound principles that I do not practice. How can I start testing them, and putting them into practice? How can I make them part of my thinking? How do I ensure that any debts my business incurs are non-recourse debts?

Page 3 of 18

Date

Topic

Category
Lesson

ENTREPRENEURS TOOLKIT What I learned

Selling to customers needs to be systematic - there needs to be a system that qualifies customers and classifies them depending on their need and preception of the benefits of the product

What I Dont Understand/Have Yet to Learn

Although while playing ChaChing/Pro I felt like I was making progress and getting better. I feel like I am still a long way from where I want my competence to be. How do I design the questions for a product so that I can effectively qualify prospects?

6/6/2009 Customers

6/6/2009 EJ

I also see with ChaChing that others are scoring higher (being lower cost) - what are their strategies? Lesson /Quote Look around you. Take a fresh, hard, and uncompromising look at life as What discipline can I master? you see it. Ask this question, What needs to be done? When you have an The clues offered in "S&S and the Heroes answer, and it may take some time to get it, then go and do what needs to Journey" are: be done. Do it better than anyone else does it and the world will beat down What gifts have I been given? your door for your help. Then you will not need a good job; and you will What brings me joy? have more than a career. You will have a mission. When have I experienced flow? R. Buckminster Fuller (check out authentichappiness.org for signature strengths) Lesson Stars and Steppingstones may draw you away from the comfort of the crowd, bring you face-to-face with your fears and limitations, and incite you to bet everything on the one dream that counts. It will also spare you the ultimate horror of a meaningless life.

6/6/2009 EJ

NOTES LoM, S&S "You must be willing to ask hard questions, listen quietly, and answer honestly... It will take great discipline to reserve time, to clear your mind and to follow questions into uncomfortable places" C&V - the C&V What are the Questions You Should Ask is heavy going. Need to read a few times Pre-Mat Week # 3 (w/c 8 June 09) Jun 8, 2009 Customers Lesson The key lesson for me is the heirarchy of methods for "getting into a customer's shoes" (increasing effectiveness) 1) Observe customer buying behaviour 2) Ask questions - well-crafted, deeply-probing ones 3) Conduct experiments

The question I still have is: If conducting experiments is the best way to gauge customer's likely behaviour, does this not create a Catch 22 situation where you have to start the business to be able to conduct realistic tests? How can you create the conditions that will prevail Another key lesson is recognising the limitations of the different methods: when your business is running without actually Observing customer behaviour is still subject to the biases of the observer running the business? Asking questions sometimes soes not yield the truth, and sometimes customers change their minds Experiments need to be very well-designed, testing one variable at a time.

Jun 9, 2009 LoM

Rule of thumb Net worth = (Age x realised pretax annual income from all sources except inheritances / 10) less inherited wealth Compare with: Current value of assets less liabilities Theory of Constraints (from The Goal)

Jun 12, 2009 O&C

Lesson

I would like to understand more how TOC applies to service organisations where it is more difficult to characterise the processes. According to the book, Every system is limited from achieving its goal by a small number of the challenge with service organisations is that the constraints - and there is usually one constraint. processes are usually less well documented and therefore, the first task is to document the 1. IDENTIFY the constraint (the resource/policy that prevents the processes, which is usually a very big job. On the organization from obtaining more of the goal) 2. Decide how to EXPLOIT the constraint (make sure the constraint's time other hand they have quite a few examples of successful implementation of TOC in service is not wasted doing things that it should not do) 3. SUBORDINATE all other processes to above decision (align the whole organisations. system/organization to support the decision made above) 4. ELEVATE the constraint (if required/possible, permanently increase capacity of the constraint; "buy more") 5. If, as a result of these steps, the constraint has moved, return to Step 1. Don't let inertia become the constraint.

Page 4 of 18

Date

Topic

Category
Lesson

ENTREPRENEURS TOOLKIT What I learned

What I Dont Understand/Have Yet to Learn

Jun 12, 2009 C&V

12-Jun C&V

Lesson

12-Jun C&V

Lesson

12-Jun C&V

Lesson

12-Jun C&V

Definitions

Always start with the customer need (do not use a cost-plus approach to pricing.). Value is determined in the mind of the customer. This is the essence of Unit Economics: determining where there are enough customers who want a similar item, delivered in a similar way, who are willing to pay enough per item, that we could build a production process to profitably serve them. According to Professor Amar Bhide in The Origin and Evolution of New Business, the majority of highly successful entrepreneurial businesses in the United States are not funded by venture capitalists. Most were started with less than $10,000, usually by entrepreneurs who copied an idea, made a few key sales to initial customers, and then discovered a way to serve a certain set of customers more effectively and efficiently than anyone else, in a manner that was difficult to copy. You can't hustle forever. To be successful I will need to choose which customers I will NOT serve. Focussing on one specific type of customer allows me to design a PROCESS for meeting their need that I can replicate again and again - specializing in delivering a specific type of unit to my chosen customers. I must do a few tasks well, must do these again and again until I am efficient, and I must execute these tasks better than anyone else How you have chosen your customer, your Primary Sunk Investment and How to choose the best PSI, "units" for ensuring the units you produce and deliver will be the difference between success success and failure. Definitions of Unit Economics Terms Unit of desire: The common need shared by a group of customers. In the water pipeline example, this need is thirst, which is fulfilled by gallons of water. Units of desire are measured and satisfied in the mind of each individual customer. Unit of production: What you make and deliver to satisfy a unit of desire. Its a physical entity. Primary Sunk Investment (PSI): An investment in an asset or standardized process that serves a group of customers with a similar need. Price per unit of desire: The price you charge for each unit of desire in this case, water. This price can never exceed the subjective value placed on the need in the mind of a customer. Often, this price is set by the price of a close substitute. Costs per unit of production: Includes two types of costs: (1) the variable cost per unit; and (2) the fixed period costs. Variable costs per unit: A cost that varies directly with the volume of units. In the water pipeline example, this was $.01 per gallon. Fixed costs per period (fixed period costs): A cost that, within certain limits, does not vary with the volume of units produced. They are fixed for a period of time. They are typically measured in dollars per unit of time. Volume of units per period: The variable that links demand and supply.

13-Jun C&V

Question

Why are utilities FPC's rather than VC's? Because you'll have to pay for them even if you make no product Confirm if NPV,15 is roughly equivalent to 5 x EBIDTA I've done the Customer Interview "Getting into your customer's mind" and learnt a lot from doing the interview. However, I still do not feel like I have a good grasp of how I can actually get into the minds of my POTENTIAL customers - especially if it's product that does not exist yet. I guess part of what this exercise does is expose me of a way of talking to existing customers to uncover why they buy, with a view to attracting new customers and retaining existing ones

13-Jun C&V 13-Jun Customers

Lesson Question

NPV at 15 years is roughly equal to 5 times the annual cashflow and can be used as a proxy for a quick valuation?

Page 5 of 18

Date

Topic

Category

ENTREPRENEURS TOOLKIT What I learned

What I Dont Understand/Have Yet to Learn

NOTES

Jun 15, 2009 C&V C&V

Lesson Lesson

Jun 18, 2009 LoM

Lesson

Pre-Mat Week # 4 (w/c 15 June 09) Both the unit economics and the monthly/annual performance are important. Being able to visualise the cashflow patterns for different business models in competitive settings is an invaluable skill. In order to develop the INTUITION of a master entrepreneur, I will need to PRACTICE predicting pre-tax cashflows for different business models in different competitive settings From Success that Lasts article: "Research into success has shown that one of the biggest causes of failure is an overreliance on ones greatest strengths. Are you favoring what you do best and neglecting your need for fulfillment in all four categories?" Superior opportunities: Generate more revenue sooner - pick opportunities with particularly attractive customers, or find an investor who already has access to them. (The more basic the need (Maslow's heirarchy - food, safety and shelter---->--->self actualisation) the more compelling it is) Superior opportunities: require lower upfront investment and risk through innovative deals, and through borrowing (assets like excess production capacity, brand, etc) Superior opportunities: generate more cashflow longer (easily scalable, and easily defendable from competition as evidenced by high barriers to entry, a benign industry rival, and considerable power over customers) Best operating leverage strategy: Maintain low operating leverage (and losses) until suffiecient demand is proven, and then invest to increase capacity and improve operational efficiencies (bootstrapping) Financial leverage (debt) allows you to control larger assets for lower upfront equity investment. If you are right about your predictions of future revenues and costs, the retun on your (smaller) equity will be magnified. However if you overestimate revenue or underestimate costs even slightly, and your whole investment could be wiped out, and you could lose control of the co. Combining operating and financial leverage is a dangerous game - it's speculative, since the margin for error shrinks below what an entrepreneur can hope to control. You can increase operating levarage by investing in machinery to increase efficiency, but also - choosing higher paying customers preferentially - increasing productivity of lower paid workers (by producing manuals) - finding innovative ways to lower costs, increase capacity while maintaining quality - using negotiating leverage to demand price discounts from suppliers THE KEY = Keeping costs stable as revenues rise

I need to PRACTICE predicting pre-tax cashflows for different business models in different competitive settings - until it becomes second nature This is different from previous HBR article by Peter Drucker "Managing Oneself" which said that the best way to succeed is to focus on what we do best, rather than on improving our weaker areas.

Jun 19, 2009 C&V

Lesson

Jun 19, 2009 C&V

Lesson

Staging investment: why do we want to make the riskiest investments first, and not last?

Jun 19, 2009 C&V

Lesson

Jun 19, 2009 C&V

Lesson

I do not understand when it is best to apply financial leverage (debt financing) to your business. Is this an iteration of diiferent scenarios?

Jun 19, 2009 C&V

Lesson

Jun 19, 2009 C&V

Lesson

Jun 19, 2009 C&V

Lesson

Page 6 of 18

Date

Topic

Category
Lesson

ENTREPRENEURS TOOLKIT What I learned

Effects of competition: 1) lower price per unit from - a more attractive substitute, or - price war from competitor (Vulnerable if: can easily be technologically leapfrogged, or if the relative contribution to FPC's and profit is large, and therefore attractive to competition, if customers matter more to you than you matter to them, product is a large part of customers' cost structure, customers have an attractive alternative) 2) Falling unit volumes, due to: - you hold price per unit steady and customers defect - you don't expand capacity fast enough and competitors serve customers who would have been yours, and keep them 3) Increases in costs: due to: - suppliers increase costs if a) their parts are critical to your success, (b) there is more demand than supply, (c) you are relatively insignificant part of their revenues. 6 major sources of barriers to entry 1) Economies of scale (declining costs per unit as volume increases) 2) Product differentiation - entrant has to spend to overcome existing customer loyalty 3) Capital requirements 4) Access to distribution channels 5) Cost advantages indep of scale - proprietary product technology - favourable access to raw materials - favourable locations - government subsidies - learning or experience curve (not to be confused with economies of scale. This is dependant on cumulative volume, not volume per peiod) 6) Government policy - licensing requirements - product / waste spec laws

What I Dont Understand/Have Yet to Learn

20-Jun C&V

20-Jun C&V

Lesson

20-Jun C&V

Lesson

20-Jun C&V

Lesson

Retaliation is likely if: - history of vigorous retaliation to entrants - established firms have substantial resources to fight back (excess cash, unused borrowing capacity, adequate excess production capacity, leverage with dist channels or cust) - slow industry growth (limited ability of industry to absorb new firm without depressing sales of est. firms) The Entry Deterring Price = the prevailing price structure in the industry How to calculate the entry-deterring price adj for pdt qlty and service, which just balances the potential rewards from entry (forecast by the potential entrant) with the expected costs of overcoming entry barriers and risking retaliation. If current price is higher than entry deterring price, entrants will forecast above average profits from entry, and entry will occur.) How Quickly Will My Margins Decline? 1) Business model: large margins + low investments = intense competition 2) Power dynamics: The more power others have the more quickly your margins will decline 3) Stability of pre-tax cashflows - see whether combination of operating leverage and competitive forces suggests stable or erratic pre-tax cashflows Recipe for a price war: a # of equally sized competitors, with relatively high fixed period costs and margins, selling similar products

21-Jun C&V

Lesson

Page 7 of 18

Date

Topic

Category
Lesson

ENTREPRENEURS TOOLKIT What I learned

How to keep out competitors: - Continue to innovate so that you always have sthg better, faster, or cheaper than others - offer customers sthg they can't get anywhere else - create advantages that are difficult to copy like manf process, sales funnel, or R&D team that take a long time and significant cost to duplicate - continually reduce costs so that margins stay stable as prices drop. - have fewer people who know how well you're doing - suppliers and customers who need you more than you need them - few attractive substitutes Unless you continually improve faster than the competition, you can expect pre-tax cashflows to reduce with time, esp as industry approaches saturation and competitors are tempted to compete on price

What I Dont Understand/Have Yet to Learn

21-Jun C&V

NOTES

Jun 24, 2009 C&V

Lesson

Jun 27, 2009 C&V

Question

Pre-Mat Week # 5 (w/c 22 June 09) Critical distinction: The Unit Economics summary collects all variable (unit) costs, no matter where in the business (sales activities or manufacturing activities) they are incurred, and separates them from the fixed period costs (again, collected from all parts of the business) so that the entrepreneur or manager can calculate breakevens and more effectively measure the trade-offs between price, unit volume (sales), and costs and calculate the value of new investments or other changes in the business. The Income Statement, on the other hand, organizes information by activity operations, sales, general administrative. The Income Statement is a financial record that helps the owner track expenses by category, recognize trends, and hold managers accountable for their respective areas of responsibility.

In last week's study one of the things we learnt was that you would ordinarily expect revenues to decline with time, especially as the industry matures (unless the company improves faster than the competition). However all the projections we have made this week based on historical records assume that revenue growth will continue at a rate similar to the past. Is this a simplification for learning purposes, i.e. is this something I should ocnsider in my projections? If so, how?

What is my strategy for calculating projections of future cashflows? Unit economics? Historical income statements?Neither? Both? What information will I need upfront in order to complete the calculation? What protocol will I put in place in order to get the information I need to make decisions?

Jun 27, 2009 C&V

Lesson

Jun 27, 2009 C&V

Lesson

A manager must pay attention to how costs change when the business increases its sales and output. One mustnt naively assume that costs increase steadily, proportionally with sales. A business may be able to increase output over a wide range by adding only variable inputs. Eventually, however, it will run into a capacity constraint. If it wants to grow past the constraint, it must modify it manufacturing process (and/or its sales process). Having relieved the bottleneck, the business has entered a new range over which it can expand output by changing only its variable costs. When it wants to grow beyond that range, it must incur the cost of relieving another bottleneck. Because of these discontinuities that is, the discrete, step-up in costs required to get past a capacity constraint the ratio of COGS to Sales (or of SG&A to Sales) will vary as output (sales) varies. In general, as sales increase, some costs are variable that is, they increase proportionally with sales some are fixed over the entire range of sales considered, and some are what we might call chunky costs. Chunky costs are fixed over a given range of sales volumes, but change as sales crosses a boundary into another range. They usually have the most variability in their ratio to sales. These are the costs that are fixed over a certain range and then step-up when the process is changed to relieve a bottleneck.

Page 8 of 18

Date

Topic

Category
Lesson

ENTREPRENEURS TOOLKIT What I learned

In making cashflow projections you need to understand how the sales process works. (in addition to understanding the manufacturing process) Do costs increase as revenue increases? If so how? Variable? Chunky? Good pro forma projections make use of everything the manager knows about the manufacturing and sales processes including the succession of bottlenecks the processes will encounter, the output levels at which the respective constraints begin binding, and what it will cost to relieve the bottleneck and further expand capacity in each case. Pre-tax cashflow (unit econ) = EBITDA (income stmt) for simple businesses. For more complicated businesses with inventories, customer credit, supplier credit, recurring investment in plant and equipment, need more complicated tools to evaluate profitability e.g. Free cashflow to the firm In order to make good decisions, a CEO would ideally use both unit economics an dincome statements, AND ask lots of questions. He would deeplyunderstand the sales funnel and the manufacturing process so that he can understand how prices, volumes, and costs are related 5 Master Keys: 1) Instruction 2) Practice 3) Surrender 4) Intentionality 5) The Edge David Sandler system for selling: Make a series of upfront contracts with the prospect. 1) PAIN - find prospect's pain 2) MONEY - raise it upfront 3) DECISION-MAKING - will they decide now? 4) FULFILLMENT (the product presentation/demo) 5) CLOSE

What I Dont Understand/Have Yet to Learn

Jun 27, 2009 C&V

Jun 27, 2009 C&V

Lesson

Jun 27, 2009 C&V

Lesson

Jun 27, 2009 LoM

Lesson

Jun 27, 2009 Cust

Framework / System

Would the money point be less relevant if it as low value item being sold? It can alienate the prospect if the money is not an issue for them, but you seem to be placing undue emphasis on it.

NOTES

Jul 1, 2009 C&V Jul 1, 2009 C&V

Lesson Lesson

Pre-Mat Week # 6 (w/c 29 June 09) Present value = how much you can borrow now against a future cashflow The difference between the present value of the cash coming in and the present value of the cash going out is the net present value (NPV) of the businesss cash flow - measure of the value of the business today Value = Cash + Risk + Time Discount rate is the rate of return required by an investor to accept the risks of a certain investment. OR a combination of a risk-free rate to compensate investors for the time value of their money and a risk premium that investors will demand in order to invest in a firm like yours (a firm with your customers, your operating leverage and your competitors). Rule of thumb Risk premiums Large, stable company - 5% Mid-sized company - 10% Small start-up - 15%

Jul 1, 2009 C&V Jul 2, 2009 C&V

Lesson Lesson

Jul 2, 2009 C&V

Lesson

Page 9 of 18

Date

Topic

Category
Lesson

ENTREPRENEURS TOOLKIT What I learned

Warning: unlevered FCFF discount rates, by definition are designed to measure the risk of a firm with no debt. It is incorrect to apply a discount rate designed to measure the risk of the cash flows of a firm to the riskier stream of cash flows for the equity owners once preferential payments to debt holders have been made. Because of the volatility of equity cash flows and the distorting effect of extreme discount rates on later year cash flows, it is generally better to estimate an intrinsic equity value by first discounting the unlevered Free Cash Flows to the Firm, then adding back the tax shield savings as a result of interest payments and subtracting the market value of the debt. Other discount rate approaches, like WACC and CAPM, are not intended for estimating the future value of an entrepreneurial firm and should not be used for this purpose. Tax shield - The Internal Revenue Service treats interest expenses as a tax deductible expense. This means that tax payments go down as interest payments rise. The value created by these foregone tax payments is called the tax shield. 3 components of discount rate: - the real rate of returncompensates investors for putting money to work instead of spending it. Over the past three hundred years, the world economy has grown at approximately 3% a year, generally varying between 2.5% and 3.5%. In other words, this is the value we create as human beings by being willing to defer gratification to invest in our future. - an adjustment for the expected rate of inflation. Because governments debase the value of their currencies each yearby printing banknotes whose value exceed the amount collected in taxeseach unit of currency is expected to be worth less in the future than it is today. Over the past several hundred years, inflation has averaged approximately 3% a year - the premium over nominal returns that an investor should expect to receive for bearing the risk of an investment There is no substitute for understanding the fundamentals: why customers buy, how products are made and delivered, and how competitors can be kept at bay. Warren Buffet uses 9% (3/3/3) because he avoids any business he does not understand. He run multiple free cash flow projections, uses convertible debt or other types of options to protect himself from downside cases and invests only when the market is pessimistic about the future. This means that In good times, when inflation is low and too much money is chasing deals, Buffetts discount rate will be too high, and he will be unable to find any interesting investments because others will outbid him. In times when inflation is high or money is hard to find, Buffetts 9% discount rate will lead him to be aggressive, and since there will be few other bidders, he will have his pick of investments that give him the highest net present value at a 9% discount rate

What I Dont Understand/Have Yet to Learn

Read more about this cincept in AFEE note "What is the Intrinsic Value of Your Equity

Jul 2, 2009 C&V

Jul 3, 2009 C&V

Lesson

Read more about this cincept in AFEE note "What is the Intrinsic Value of Your Equity

Jul 3, 2009 C&V

Lesson

WACC - why is it calculated the way it is? How does it represent risk?

Jul 3, 2009 C&V

Lesson

Jul 3, 2009 C&V

Lesson

What discount rates would you apply for a business in Zambia - inflation is not stable, but probably predictable in the high teens; Government treasury bonds pay quite a high interest rate; So I imagine the nominal rate (=real rate + inflation) will have to be at least 30% - and this is before I have adjusted for the specific risk of the business

3-Jul C&V

Lesson

4-Jul Cust

Lesson

Some Tips on the Sales Process 1. It is generally much cheaper to sort and qualify customers who are interested in buying than to try to interest and persuade customers (changing minds is expensive). 2. Each additional step in a Sales Funnel adds an exponential amount of complexity and costs. Communications and handoffs from one step in the process to another are expensive and difficult to execute. 3. Targeted approaches tend to work better than broad approaches. 4. Convincing customers to come to you is usually far more effective than having to go to them.

Page 10 of 18

Date

Topic

Category

ENTREPRENEURS TOOLKIT What I learned

What I Dont Understand/Have Yet to Learn

NOTES Have a look at websites http://www.studyfinance.com/lessons/timevalue/index.mv http://www.frickcpa.com/tvom/TVOM_Quiz.asp wps.pearsoned.co.uk/wps/media/objects/1669/1709736/0273685988_ch03.ppt

Jul 8, 2009 C&V

lesson

Jul 8, 2009 C&V

lesson

Jul 8, 2009 C&V

lesson

Pre-Mat Week # 7 (w/c 6 July 09) Terminal value (2 ways to calculate) I need to read the terminal value note again as the 1) Ebidta multiple (=f{interest rates, competion barriers}) concepts haven't sunk in yet - esp how to calc 2) perpetuity of growth method = annual fcff in year after terminal year, terminal value by perpetuity of growth method divided by (after tax discount rate minus stabilised growth rate) calculating the perpetual value of a stream of after tax cash flows, rising at a steady rate, relative to the after-tax cost of funds (the discount rate.) Terminal value for a business with rapid revenue growth, high operating leverage or continued heavy working capital and fixed asset investments? Quite simply, there is no accurate way to calculate a value under these circumstances. You must run the FCFF projections long enough to saturate your market until the growth in free cash flows begins to approximate the growth of the overall economy. Entrepreneurs tend to use the EBITDA multiple method with low multiples when buying (because the terminal value will be conservative) and the Perpetuity with Growth method with high growth rates and low discount rates when selling (because the terminal value will be aggressive.) Taxes: (re terminal value calc) - PWG method - you are extrapolating the value of the after tax free cash flows, so there is no need to deduct taxes as if the company was sold in the final year. - EBITDA method, where you are selling the company in the final year, any taxes will be paid by individual shareholders and not the company, so taxes do not need to be deducted from the companys free cash flows to the firm. - The only time taxes need to be deducted from a Terminal Value is if it is assumed that the firms assets will be liquidated and taxes are paid on any gains. Use the EBITDA Multiple Method or the Perpetuity with Growth methods to estimate a Terminal Value only if the free cash flow in the Terminal Year has slowed to at or below the growth rate of the overall economy. You cannot use the PWG or the EBITDA methods for a business with rapid revenue growth, operating leverage or heavy working capital and capital expenditure investments. ALWAYS check with 5 x pretax cashflow from Unit Economics Why 5 times? If you pay five times pre-tax cash flows for a company that continues to have the same revenues and operating margins in perpetuity, you will make the equivalent of a 20% pre-tax rate of return on your investment, which is equivalent to a 13% after-tax rate of return (@34% tax). If you understand how to run a business and work hard every day to serve customers, a 20% compounded pre-tax rate of return will make you very rich over a ten-year period. So, five times pre-tax cash flows turns out to be a reasonable, if perhaps somewhat conservative, starting valuation proxy for entrepreneurs.

Jul 8, 2009 C&V

lesson

Jul 8, 2009 C&V

lesson

Jul 8, 2009 C&V Jul 8, 2009 C&V

lesson lesson

Page 11 of 18

Date

Topic

Category
lesson

ENTREPRENEURS TOOLKIT What I learned

What I Dont Understand/Have Yet to Learn

Jul 8, 2009 C&V

What do you do then?? WARNING: Pre-tax cashflow multiple can give misleading results if: 1. A firms revenues are growing quickly and the business model of the firm requires reinvesting operating cash flows in working capital or capital expenditures to support continued revenue growth. 2. A firm has substantial fixed assets that are depreciatingin other words wearing out as items are produced, or deteriorating with the passage of time. 3. A firm has a legal form resulting in tax rates that differ from those of alternative investments. 4. The goal is to value the equity (owners share) of a firm with debt rather than the entire firm itself. (pre-tax cash flows from unit economics measure the value of a firmthe value of all of the cash flows from an enterprise. A valuation based on pre-tax cash flows says nothing about how this value might be divided between creditors and equity owners if the firm has debt.) Risky cash: The best investors focus first on recouping their investment and only then consider how much they might make in profits. Do not become too focused on financial concepts like rate of return and net present value. Focus instead on projects that pay out quickly and it will be hard to go wrong. Measuring risk requires answering three questions: 1. How predictable are the cash flows? 2. How sensitive are cash flows to changes in revenues and costs? 3. Who gets paid first? Measuring risk requires a deep understanding of your companys customers, cost structure, competitive environment, and financial obligations. Sahlman's 3 principles of valuation: Principle One: Value = Cash + Risk + Time Principle Two: Sahlmans Four Rules of Cash 1.More cash is better than less cash. 2.Cash sooner is better than cash later. 3.Less-risky cash is better than more-risky cash. 4.NEVER run out of cash. Principle Three: Your goal in a valuation is to narrow the region of darkness, not calculate a precise value (which is impossible). Hard work and attention to your customers will close any gap between what you pay to acquire and develop an opportunity and what its worth when you sell it. A balanced process has all the workstations operating at closely matched capacities, with minimum idle time, and minimum wait time for WIP cycle time = 1/ capacity What's the significance of the cycle time? It generally makes sense to locate the bottleneck at the workstation that would require the greatest capital expense to add a parallel resource (this means that the most expensive resource is as fully utilised as possible and has little idle time) Variability in a process can lead to unexpected idle time, which leads to less than expected performance. If a process depends on a workstation operating at 100% of capacity, then slightest hiccup will lead to underperformance. Solution? Avoi d running processes at 100% capacity

Jul 8, 2009 C&V

lesson

Jul 8, 2009 C&V

lesson

9-Jul O&C

Lesson

9-Jul O&C 9-Jul O&C

lesson

9-Jul O&C

lesson

Page 12 of 18

Date

Topic

Category
lesson

ENTREPRENEURS TOOLKIT What I learned

What I Dont Understand/Have Yet to Learn

24 1.5

10-Jul O&C

Buffer invetories can be expensive. Liberal use of buffer inventories to How do you minimise variability? smooth out variability tends to have adverse effects: - mask sloppy processes - inventories grow - quality degrades - productivity declines Most constructive management action is to minimise variability in all processes - products languish in WIP and may become obsolete Valuation (FCFF) risk premium and multiple. very stable, large firms 5% risk, multiple 7-10 medium-sized firms 10% risk, multiple 4-6 smaller, newer firms 15% risk, multiple 2-3 higher risk ventures 20%+ risk, multiple 1 How does this multiple relate to calculating terminal values? Would you use a similar multiple for the ebitda method of calculating terminal value?

11-Jul C&V

lesson

I need to read the terminal value note again as the concepts haven't sunk in yet Read "Steppingstone Jobs as a Scavenger Hunt" again. Excellent tips - need to work with this DEVELOP A SCAVENGER HUNT LIST

Jul 13, 2009 C&V

Lesson

Jul 16, 2009 C&V

Lesson

Pre-Mat Week # 8 (w/c 13 July 09) There is a delicate balance in managing accounts receivable - you do not want to tie up valuable cash by extending credit to customers who dont demand it; and you especially want to avoid extending credit to deadbeat customers who later will refuse to pay. - BUT there may be some customers who will pay a far higher price per unit, and buy in large volumes, if only you will extend credit for a short period of time. - therefore, you cannot afford to look at accounts receivable simple as a line item on a balance sheet. Rather, it should be viewed as a customerby-customer investment that must be weighed individually, based on the long-term value of a particular customer relationship Accounts Receivable = (Total Revenue / Days in Period) * Days Receivable Inventory = (Inventory Days x COGS)/365 Accounts Payable = (Total Cost of Goods Sold/Days in Period) * Payable Days Managing inventory: delicate balance. - Inventory ties up valuable cash. - It can also spoil, go obsolete or become lost, damaged or stolen while waiting to be purchased - BUT If you scrimp too much on inventory, shortages may occur at different places in your assembly line, leading to a less efficient use of manufactur-ing assets. - a lack of finished goods inventory may lead to stockouts of popular items and cause impatient customers to go elsewhere. Accounts payable is the portion of your inventory that suppliers are willing to finance, in return for you agreeing to be their customer. Use it to offset investment in iventory accounts payable should not be considered simply another line on the balance sheet, but rather a series of supplier-by-supplier negotiations, where the amount of credit demanded depends on the service required and amount of leverage you have with the individual supplier.

Jul 16, 2009 C&V

Lesson

Jul 16, 2009 C&V

Lesson

Jul 16, 2009 C&V

Lesson

Page 13 of 18

Date

Topic

Category
Lesson

ENTREPRENEURS TOOLKIT What I learned

Dealing with failure: "If you want big successes, you have to take big risks. The key to dealing with those risks is to envision what failure might look like. You have to take your time and fully imagine what the real consequences will be to you personally. How much money could you lose? Will your reputation be hurt? Is there legal liability in any way? Will you lose any relationships? These types of questions force you to come face to face with the possibility of failure. Once you have done that there is only one question left: Can you live with that? If you imagine the worst and decide that you are willing to accept that outcome as a possibility, you can stop worrying about it and move forward, fully focused on a successful outcome. If, instead, you choose not to deal with the possibilities of failure, you run the risk of a constant and building anxiety nagging at your subconscious. This can destroy your focus, leading to a higher probability of failure." Randy Allen (Ben Allen's dad) Ben Allen's 4 rules of failure: 1) There is no success without risk. 2) Managing risk involves accepting the possibility of failure and its consequences. 3) When it comes to failure, quick and small is preferable to large and/or slow. 4) My self-identity is not determined by my performance. Process Definitions: Capacity (aka Throughput): How many units (on average) can a given workstation transform per unit of time? Process Time: How long does it take to transform inputs into a unit of output at a given workstation? Cycle Time: How frequently are items completed at a particular process stage? For a workstation with two workers performing tasks in parallel, the cycle time will be 50% of what it would be if there was only one worker performing the task. In general, the equation for calculating cycle time for a workstation is: (Task process time per unit) / (# of Tasks in Parallel at workstation) Lead Time: How long does it take for a unit to flow from raw materials to finished goods inventory? You can answer that question by adding up all of the cycle times for all of the tasks required to transform the unit. This calculation assumes that the unit will flow through the process without any wait time between workstations. Capacity and Cycle Time : An Inverse Relationship If the cycle time for a task is 15 minutes, then the capacity for that task is: 1 / (0.25 hours/unit) = 4 units/hour Idle Time If a workstation does not have any product available to be transformed, then it is experiencing idle time. Wait Time The amount of time that the product being transformed has to wait in queue prior to entering the next workstation is referred to as wait time. Distinction between lead time and cycle time: Cycle Time = The average time between completed units "coming out the end of the pipe" Example: the cycle time of motors assembled at the rate of 120 per hour would be 30 seconds per unit For Standard Work Analysis with more than one Operator: Cycle Time = the operator with the longest Processing Time Lead Time = the average time it takes for one unit of the thing to go through the entire process - from start to finish - including time waiting between sub-processes. (Also known as "Throughput Time" or "Turnaround Time). Lead Time = Sum of all Process Lead Times + Sum of all Queue Times between processes

What I Dont Understand/Have Yet to Learn

Jul 16, 2009 Cust

Jul 16, 2009 Cust

Lesson

Jul 20, 2009 O&C

Lesson

Page 14 of 18

Date

Topic

Category

ENTREPRENEURS TOOLKIT What I learned

What I Dont Understand/Have Yet to Learn

Jul 26, 2009 O&C

Question

Pre-Mat Week # 9 (w/c 20 July 09) Galactic Zappers - follow the GOAL heirarchy for maximising profits IDENTIFY, EXPLOIT, SUBORDINATE, ELEVATE, Repeat Pricing policy must flow from the overall marketing strategy and not be independent from it, or, worse still, send conflicting messages Often thinking about pricing is underresourced and left to the marketing function. Must have a mechanism in place for ensuring that pricing benefits from the input of different cross-functional people. Pricing policy is NOT cost plus, it must start with value as perceived by the customer Valuing raw materials - cost Valuing WIP - It is reasonable to assume that the cost of each unit in WIP includes full raw material cost + half of the labour direct charge (the assumption is that the average unit is 50% complete) Valuing FGI - selling price Depreciation is NOT a reduction in the value of an asset. It is a DISTRIBUTION of its cost / value over its useful life. Note 3 types of depreciation (1) GAAP (2) Tax (3) Economic Note difference: Depreciation - assets to operation Depletion - natural resources Amortisation - intangible assets When calculating FCFF depreciation is taken out in order to calculate tax and hence NOPAT. Since it is a non-cash expense, it must be added back in in order to calculate cashflows and hence intrinsic firm value (IFV) Depreciation analysis red flags: - switching from acc to st line method may denote trouble maintaining earnings high enough to support the former conservative approach to depreciation policy - unrealistically long dep lives - declining dep : sales ratio. May denote mgmt is milking co and not reinvetsting in assets - aka "riding down"

I got a profit of $9526 but I see some people were getting more than $12k - what did they do different?

Jul 26, 2009 Cust Jul 26, 2009 Cust

Lesson Lesson

Jul 26, 2009 Cust Jul 26, 2009 C&V

Lesson Lesson

Why do we need 2x as many units in FGI than we can deliver in order to ensure that we have enough quantities of all different types of products on hand? How is the 2x derived? (see wk 9 note Forecasting...)

Jul 26, 2009 C&V

Lesson

Jul 26, 2009 C&V

Lesson

Jul 26, 2009 C&V

Lesson

Jul 26, 2009 C&V

Lesson

As I read all these notes I need to keep uppermost the question: How does the information in this note relate to more VALUE for the business?

Aug 2, 2009 c&v

lesson

Aug 2, 2009 c&v

notation

Pre-Mat Week # 10 (w/c 27 July 09) Debt: treat as any other asset. Do projections of free cashflows suggest that the profits from additional growth and lowering the costs of financing (incl benefit of tax-deductible interest) exceed cost and risks from higher fixed-period costs and a loss of operating control and flexibility? Dr. Depreciation expense Cr. Accumulated Depreciation

Don't understand the sustainable growth rate formula. Need to read note again and understand it from first pples

Page 15 of 18

Date
Aug 2, 2009 c&v

Topic

Category
lesson

ENTREPRENEURS TOOLKIT What I learned

Cashflow modelling becomes more important when you have - high revenue growth - long supply chain and / or manufacturing process - large and/or frequent investment in fixed assets - low margins Net profits do not all go to the bank, they are split up between: - purchasing inventory - extending customer credit - purchasing fixed assets, and - cash Porter's 5 competitive forces: -

What I Dont Understand/Have Yet to Learn

Aug 2, 2009 c&v

lesson

Aug 2, 2009 EJ

lesson

Aug 2, 2009 LoM

ethical frameworks: - utilitarianism - greatest good - rights-based - virtue-based - goodness for own sake - justice and fairness - religious (- relativism - anything /nothing goes) (- pragmatism - every situation is unique) Preference - what order are stakeholders paid in during normal running? Priority: what order are stakeholders paid in in the event of a bankruptcy - revolving debt - term debt - high yield debt - equity owners

Started my scavenger hunt toolkit this week. This note to remind myself to follow up next week - need to write a summary of the cashdays analysis note from 2 weeks ago.

Aug 9, 2009 EJ Aug 9, 2009 EJ

lesson Framework

Pre-Mat Week # 11 (w/c 3 Aug 09) Management is an art - it involves seducing, screening, hiring, coaching, and occasionally firing employees Levers of Control: My job as an entrepreneur is to find a compelling need that begs to be satisfied, assemble people with the gifts to fulfill that need and organise them to do so, arouse a passion for excellence and create a sense of predictability and purpose out of the chaos that is the real world in a systematic way. 1) Belief Systems - deeply held values of the "tribe" (we believe statements); Articultation of the mission - inspirational, compelling, "it should inspire people to charge a hill", and be a clear message about which hill must be charged, the type of people to take the hill and why it matters. 2) Boundary Systems - "thou shalt not's" for the company; minimum stds for ethical conduct. There are no exceptions for violating a boundary rule 3) Diagnistic systems - measuring the results that matter (there are generally only a handful of numbers that matter - customer satisfaction, market share (gaining or losing); tracking margins over time; capacity utilisation (or turnover) of most important asset 4) Interactive systems - intentional ways of acknowledgeing, coaching and developing individuals Learning to say NO can be the best growth strategy there is. Focus not on "happy customers" but the right customers (clearly defined).

Aug 9, 2009 EJ

Lesson

Page 16 of 18

Date

Topic

Category
Lesson

ENTREPRENEURS TOOLKIT What I learned

Valuation using a multiple (based on a comparable firm) should be close to valuation done by DCF. Reasons for variance could be: - comparable firms not chosen well (e.g. different growth prospects, riskiness of cashflows) - cashflows of firm (or of firm chosen as comparable) are not expected to grow in stable manner (e.g large CAPEX investment expected - market valuation on which multiple is based is wrong To maximise profitability of a company, think as if the company is selling its most scarce resource, the minutes of the constraint. The products that better pay for the minutes they use are the ones that most contribute to the company's botom line.

What I Dont Understand/Have Yet to Learn

Aug 9, 2009 C&V

Aug 9, 2009 O&C

Lesson

The Art of Listening: I think the best place for me to learn to listen is when interacting with my daughter!!!

Aug 15, 2009 E&J

Formula

lesson

lesson

Aug 16, 2009 LoM

lesson

Aug 15, 2009 LoM Aug 16, 2009 C&V

Overarching question Overarching question

Aug 16, 2009 Cust

Overarching question

Aug 16, 2009 EJ 2-Sep LoM

Overarching question Lesson

Pre-Mat Week # 12 (w/c 10 Aug 09) Comparables: 1) Market value = # of shares outstanding * price per share + market value of debt 2) Market price / EBITDA = EBITDA multiple Using price/earnings ratios as a yardstick for comparing firms (for market price valuation purposes) can be useful. However watch out that the financial levarage of the firms is not very different as P/E ratios do not take this into account If someone offers to buy your firm 1) refuse to listen to price until you have calcuated IFV 2) compare their offer price with market price as determined by comparables 3) Confirm whether they are offering you money for the firm, or for your equity in the firm - big difference! Do not discard. All the aspects that make up YOU are important for your hero's journey. I need to make sure I do not discard some things like guitar, songwriting, theatre as I do business. I need to creatively determine how all of them can work together to make my hero's journey truly remarkable. How can I find a calling - good work that combines my passions and my strengths and makes a difference in the world? How can I make my firm and equity worth as much as possible? i.e. How do I make the right investment, operational, and financial decisions to maximize the value of my firm and my equity in it? How do I indentify, listen to and segment customers; price products and services; and build a sales funnel to close the right customers, at the right time, in sufficient quantities, at as low a cost per sale and with as small an upfront investment as possible? Should I invest my money and my life in this venture? Think more consciously about "what commitment am I making to this job?" esp for stepping stone jobs

Why are we ADDING the market value of the debt and not subtracting it? Because FIRM = EQUITY + DEBT

CRITICAL QUESTION - How can I combine my love for leading worship, acting, and songwriting with my passion for business and for helping the under-appreciated?

Page 17 of 18

Date

Topic

Category

ENTREPRENEURS TOOLKIT What I learned

What I Dont Understand/Have Yet to Learn

Page 18 of 18