Here's a simple question: oil company has excess cash that it needs to invest, or return to shareholders. It acquires an internet company, saying it was doing it to get the best returns for its shareholders. The question is, do you believe the company did the right thing.
Basic business know-how tells you that this is a preposterous situation for a company, and any shareholder who buys this crap deserves to get their money taken from them. Internet companies have volatile returns because of their inherent risk, which is the source of the high returns as well as high losses.
But apparently that is not the correct answer, according to the Monkey Tutor they have "teaching" finance at Rockett Girlfriend's university. Apparently the oil company did the right thing because "risk = return" and because it diversifies the oil company's earnings stream.
Firstly, only ignorants who don't understand how business and markets work think that "risk = return". There is no God-given right to high returns just because you took great risks. However you do earn the rights to great losses if you are inept enough to put oil managers in charge of an internet company. Risk does not equal return - otherwise, what's so risky about it? This is a subtly important but highly misunderstood concept, and the misconception is spread because tutors (often students themselves) everywhere are careless with their teaching, or worse, don't understand the concept themselves.
As for the point on diversification, another misunderstood concept. Any basic corporate finance textbook will tell you that diversification has limited benefits, and these benefits almost always occur at portfolio level (where a portfolio manager acquires diversified shares) rather than at corporate level (where one company may acquire a company unrelated to itself). The risk of loss is magnified when you have one management team (say, from an oil company) taking over or presiding over the management of the unrelated firm (say, an internet company). So not only do you have the inherent business risk, you have added management risk - clearly antithetical to the whole point of diversification!
Theory aside, I am appalled that this tutor saw fit to confuse his students by using incorrect justifications. If he was trying to play "devil's advocate", the responsible thing to do was to clarify this, state the correct answer, and the correct responses against his "devil's advocate" response. To leave it up in the air causes two things to happen: to confuse a weaker student, and to convince the stronger student (or her Rockett Fuel boyfriend) that the tutor is an idiot.
Thursday 31 May 2007
Thursday 24 May 2007
Tuesday 22 May 2007
Slater & Gordon: I don't like being third!!
[Personal opinion only, no financial advice. Heed this at your own peril.]
So on Monday, a local law firm, Slater & Gordon, listed on our humble stock exchange, the first law firm to do so in this sunburnt country. This is the quintessential law firm... fighting for the battlers, setting right what the mega-corporates (and their larger lawyers) did wrong. Who wouldn't want to invest in something so representative of the tall-poppy syndrome? Apparently quite a few wanted a piece of this Aussie-ness; one week in the market and it's trading at $1.585, 58.5% higher than the listing price (maths skills remain sharp as ever).
Ignoring the perennial argument over whether the bookrunners underpriced the stock at launch, it is rather interesting (read: puzzling) what the appeal of this stock is. It's a tiny firm, and they do LITIGATION. They sue poor, defenseless, hardworking mega-corporations for a living. How much more anti-capitalist can you get?
Well, the irony is not lost on me. No way am I investing (a totally capitalist recreational pursuit) in an anti-capitalist company. So it's not the fact that it's a tiny firm that can't crack the biggest city in Oz and produces a tiny return on equity while booking dubiously valued "Work In Progress" which may or may not turn into cash. It's the fact that it clearly and unequivocally states that their duty is firstly to the courts, then to the clients, then to the shareholders... SHAREHOLDERS!! A DISTANT THIRD!! Well, I'm not joining this silly new "I Like Being Third" Club.
The funniest thing that will come out of this though, is when the inevitable writeoff of WIP happens, the company goes insolvent (hello, Knights) and there is a shareholder class action against the company... what if your clients ARE your shareholders?! I'll bring the popcorn.
So on Monday, a local law firm, Slater & Gordon, listed on our humble stock exchange, the first law firm to do so in this sunburnt country. This is the quintessential law firm... fighting for the battlers, setting right what the mega-corporates (and their larger lawyers) did wrong. Who wouldn't want to invest in something so representative of the tall-poppy syndrome? Apparently quite a few wanted a piece of this Aussie-ness; one week in the market and it's trading at $1.585, 58.5% higher than the listing price (maths skills remain sharp as ever).
Ignoring the perennial argument over whether the bookrunners underpriced the stock at launch, it is rather interesting (read: puzzling) what the appeal of this stock is. It's a tiny firm, and they do LITIGATION. They sue poor, defenseless, hardworking mega-corporations for a living. How much more anti-capitalist can you get?
Well, the irony is not lost on me. No way am I investing (a totally capitalist recreational pursuit) in an anti-capitalist company. So it's not the fact that it's a tiny firm that can't crack the biggest city in Oz and produces a tiny return on equity while booking dubiously valued "Work In Progress" which may or may not turn into cash. It's the fact that it clearly and unequivocally states that their duty is firstly to the courts, then to the clients, then to the shareholders... SHAREHOLDERS!! A DISTANT THIRD!! Well, I'm not joining this silly new "I Like Being Third" Club.
The funniest thing that will come out of this though, is when the inevitable writeoff of WIP happens, the company goes insolvent (hello, Knights) and there is a shareholder class action against the company... what if your clients ARE your shareholders?! I'll bring the popcorn.
Sunday 20 May 2007
Travesty of travesties
There is something evil happening at the University of the Real Capital of Australia right now.
Rockett Girlfriend has a financial analysis assignment that she has asked me to look over. One of the things she has to do is rip apart the valuation model used in their case study by a hypothetical retarded financial analyst (how dare this hypothetical character use that hallowed title).
We got to the section on whether to use "arithmetic returns" or "geometric returns". Easy right. Apparently not. To the confusion of all finance students in the University of the Real Capital of Australia who have a modicum of maths skill, their lecturer (and probably their lecture notes as well) claimed that "the majority of finance people recommend arithmetic mean returns".
WHAT?!
Who uses arithmetic mean? Which firm do they work for? I want to know this. I will IMMEDIATELY short their stock. If they don't have stock, I will advise them to go through an IPO, and then I will IMMEDIATELY short their stock.
Can you imagine, throngs of university students graduating, thinking "arithmetic mean returns is the market standard calc for everything". They will go NUTS when they start working. "Geometric mean returns? Yeah, I've heard of that. What? You want me to value using geometric returns? Ummm yeah, of course I can. [sweat. gulp. pee.]"
As far as we care, arithmetic mean is a mathematical oddity that has no practical use. Like pi and imaginary numbers and the sideways 8 (actually, we like using the sideways 8 to demonstrate blue sky potential of our valuations, but that's another story).
Please, University of the Real Capital of Australia. DO NOT teach this crap to your students. When our stocks show returns of 25%, 60% and 128%, we only say "the three-year average return is 71%" for our simpleton investors because it's a bigger number than the REAL geometric return of 65%. (Oops just gave that one away.)
Rockett Girlfriend has a financial analysis assignment that she has asked me to look over. One of the things she has to do is rip apart the valuation model used in their case study by a hypothetical retarded financial analyst (how dare this hypothetical character use that hallowed title).
We got to the section on whether to use "arithmetic returns" or "geometric returns". Easy right. Apparently not. To the confusion of all finance students in the University of the Real Capital of Australia who have a modicum of maths skill, their lecturer (and probably their lecture notes as well) claimed that "the majority of finance people recommend arithmetic mean returns".
WHAT?!
Who uses arithmetic mean? Which firm do they work for? I want to know this. I will IMMEDIATELY short their stock. If they don't have stock, I will advise them to go through an IPO, and then I will IMMEDIATELY short their stock.
Can you imagine, throngs of university students graduating, thinking "arithmetic mean returns is the market standard calc for everything". They will go NUTS when they start working. "Geometric mean returns? Yeah, I've heard of that. What? You want me to value using geometric returns? Ummm yeah, of course I can. [sweat. gulp. pee.]"
As far as we care, arithmetic mean is a mathematical oddity that has no practical use. Like pi and imaginary numbers and the sideways 8 (actually, we like using the sideways 8 to demonstrate blue sky potential of our valuations, but that's another story).
Please, University of the Real Capital of Australia. DO NOT teach this crap to your students. When our stocks show returns of 25%, 60% and 128%, we only say "the three-year average return is 71%" for our simpleton investors because it's a bigger number than the REAL geometric return of 65%. (Oops just gave that one away.)
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