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Wrong Correctness

35 replies on 3 pages. Most recent reply: Jan 15, 2010 11:35 AM by robert young

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Josh Brown

Posts: 3
Nickname: jtbrown
Registered: Nov, 2009

Re: Wrong Correctness Posted: Jan 4, 2010 1:53 PM
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Thanks for sharing your thoughts, Bruce. I enjoy reading and thinking about the things you write about. I certainly think you're right about businesses needing to change - I hope you come up with a way to change them.

James Watson

Posts: 2024
Nickname: watson
Registered: Sep, 2005

Re: Wrong Correctness Posted: Jan 4, 2010 1:59 PM
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> Several posters seem to confuse the purpose of a business
> with aspirations of its owners.

How can you separate the two? Businesses are controlled by their owners. Why would the owners direct a business to do things that the owners don't want it to do?

> The goals of a business' owner can be more than
> ever-growing profits. For example, a business can provide
> greater flexibility in work hours for its proprietor; or,
> perhaps the proprietor hopes to hand down the business to
> his/her child; etc.

In the US at least, such an organization would be a non-profit. A business is something that intends to profit from it's activities.

Bill Pyne

Posts: 165
Nickname: billpyne
Registered: Jan, 2007

Re: Wrong Correctness Posted: Jan 4, 2010 2:51 PM
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> > Several posters seem to confuse the purpose of a
> business
> > with aspirations of its owners.
>
> How can you separate the two? Businesses are controlled
> by their owners. Why would the owners direct a business
> to do things that the owners don't want it to do?

So, hypothetically, I work in IT and see that hospitals in my geographic area have poorly integrated EMR systems. I happen to have some knowledge of EMR systems. I decide to go into business as a consultant for hospital EMR systems integration: I provide a service. My aspiration is to make a reasonably good income (netting say $70K), have 4 weeks vacation, and work flexible hours because I have to pickup my daughter at the bus stop and take care of her until my wife gets home. Are my business and aspirations not separate? My aspiration is not to make a multi-million dollar income, although it would be a welcome side effect, and grow the business by double digits annually - using NOP as the metric.

>
> > The goals of a business' owner can be more than
> > ever-growing profits. For example, a business can
> provide
> > greater flexibility in work hours for its proprietor;
> or,
> > perhaps the proprietor hopes to hand down the business
> to
> > his/her child; etc.
>
> In the US at least, such an organization would be a
> non-profit. A business is something that intends to
> profit from it's activities.

Using the simplistic formula profit = revenue - cost, non-profits are not allowed to have profit? (http://en.wikipedia.org/wiki/Non-profit_organization)

However, my statement was simply that growing the profit annually may not be the primary aspiration of the business owner. Clearer?

James Watson

Posts: 2024
Nickname: watson
Registered: Sep, 2005

Re: Wrong Correctness Posted: Jan 4, 2010 4:20 PM
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> So, hypothetically, I work in IT and see that hospitals in
> my geographic area have poorly integrated EMR systems. I
> happen to have some knowledge of EMR systems. I decide to
> go into business as a consultant for hospital EMR systems
> integration: I provide a service. My aspiration is to make
> a reasonably good income (netting say $70K), have 4 weeks
> vacation, and work flexible hours because I have to pickup
> my daughter at the bus stop and take care of her until my
> wife gets home. Are my business and aspirations not
> separate? My aspiration is not to make a multi-million
> dollar income, although it would be a welcome side effect,
> and grow the business by double digits annually - using
> NOP as the metric.

The aspirations of your business are not separate from your aspirations. You lead the business. Businesses are not sentient beings with their own needs and desires. They exist to benefit the owners.

> Using the simplistic formula profit = revenue - cost,
> non-profits are not allowed to have profit?
> (http://en.wikipedia.org/wiki/Non-profit_organization)

Any net income after taxes belongs to the organization and would have to plowed back into the organization. The money could sit in a cash account.

In a business, the net income after taxes goes into retained earnings. This belongs to the owners (stockholders.)

> However, my statement was simply that growing the profit
> annually may not be the primary aspiration of the business
> owner. Clearer?

I think we are really making the same argument. My initial point was that the statement that short-term profits are the only point of a business is way-off. It's absolutely the case that someone might want to create a business and never return a profit and be happy with that. Personally I think a lot of the issues with companies like GM is the focus on short-term profits. A business owner may want to just plow all the profits back into growing the business or protecting it. If you don't want to turn a profit, you should consider creating a non-profit, not a business, however.

You can't specifically spend money on things that you don't need for your business (especially personal purchases) just to avoid paying taxes. The government really frowns on that kind of thing. Businesses don't pay any taxes if they don't have a net income. You can't really have a net income before taxes that is greater than zero and have a net income after taxes that is less than or equal to zero.

Bill Pyne

Posts: 165
Nickname: billpyne
Registered: Jan, 2007

Re: Wrong Correctness Posted: Jan 4, 2010 4:58 PM
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> The aspirations of your business are not separate from
> your aspirations. You lead the business. Businesses are
> not sentient beings with their own needs and desires.
> They exist to benefit the owners.

Aren't aspirations strictly attributable to sentient beings? Businesses don't have aspirations: they exist to fulfill a need or want.

We diverge on the existence of a business. A business exists to meet the needs (or wants) of customers. Whether or not the business exists, the need is still there. Some entrepreneur recognizes the need and starts a business to fill the void. The owner of the business aspires to 1) meet the need and 2) meet his/her own personal goals. I'm going to say that making a profit annually is an inherent goal BUT growing the profit year-over-year may not be. For some business owners, simply making a profit annually is enough.

> Any net income after taxes belongs to the organization and
> would have to plowed back into the organization. The
> money could sit in a cash account.

Anything left after paying all costs, including taxes, is profit (if you'd prefer the term cash differential because of the connotations of profit, I'm fine with it). If the organization is non-profit, by law it must re-invest the profit into the organization, which may take the form of cash reserves in a cash account. A for-profit can choose to distribute the profit to owners and/or investors.

> I think we are really making the same argument. My
> initial point was that the statement that short-term
> profits are the only point of a business is way-off. It's
> absolutely the case that someone might want to create a
> business and never return a profit and be happy with that.
> Personally I think a lot of the issues with companies
> s like GM is the focus on short-term profits. A business
> owner may want to just plow all the profits back into
> growing the business or protecting it. If you don't want
> to turn a profit, you should consider creating a
> non-profit, not a business, however.

I think you're only looking at 2 cases: growth of profit and non-profit. I'm talking about a third case of an owner who makes a profit but is not concerned with growing the profit annually: consider the profit constant year-to-year.

> You can't specifically spend money on things that you
> don't need for your business (especially personal
> purchases) just to avoid paying taxes. The government
> really frowns on that kind of thing. Businesses don't pay
> any taxes if they don't have a net income. You can't
> really have a net income before taxes that is greater than
> zero and have a net income after taxes that is less than
> or equal to zero.

Yes, I'm aware. I used to have an S-corp. When I ran it I frowned on purchases not specific to my business (as did my CPA) and strictly kept separate bank accounts and credit cards for the business. For discussion on this thread only, it simplifies how much I have to type to have 2 categories: money flowing into the business (revenue) and money flowing out of the business (cost). In an accounting discussion, this of course wouldn't make sense. In a tax discussion, it would be illegal.

James Watson

Posts: 2024
Nickname: watson
Registered: Sep, 2005

Re: Wrong Correctness Posted: Jan 4, 2010 6:02 PM
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> Aren't aspirations strictly attributable to sentient
> beings? Businesses don't have aspirations: they exist to
> fulfill a need or want.

That's my point. Saying that a business has aspirations that separate from it's owners desires makes no sense. Similarly, the idea that the owners aspirations are driven by the business makes no sense. The business does what the owners decide it should do.

> We diverge on the existence of a business. A business
> exists to meet the needs (or wants) of customers.

Only as far as that fulfills the desires of the owners. A business is not required to do what its customers want. It's only required to do what the owners want.

> > Any net income after taxes belongs to the organization
> and
> > would have to plowed back into the organization. The
> > money could sit in a cash account.
>
> Anything left after paying all costs, including taxes, is
> profit (if you'd prefer the term cash differential because
> of the connotations of profit, I'm fine with it).

'Net income' would be the accounting term. It doesn't have to be cash. Income can include receivables and long-term notes. From the owners' perspective, profit is only realized when it comes to them from dividends or through the sale of stock (or the company.) Until then, it's just stockholder equity.

> I think you're only looking at 2 cases: growth of profit
> and non-profit. I'm talking about a third case of an owner
> who makes a profit but is not concerned with growing the
> profit annually: consider the profit constant
> year-to-year.

I never said that the profit had to grow. A consistent profit is a profit all the same. I have only given counter-examples of "business exist only for short term growth" long-term growth being one example. I don't need an exhaustive list of all counter-examples to disprove a point. I just need one. I choose that one because even if you believe that businesses only exist to make (lots of) money, it's still a working counter example.

Bill Pyne

Posts: 165
Nickname: billpyne
Registered: Jan, 2007

Re: Wrong Correctness Posted: Jan 4, 2010 9:01 PM
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> That's my point. Saying that a business has aspirations
> that separate from it's owners desires makes no sense.
> Similarly, the idea that the owners aspirations are
> e driven by the business makes no sense. The business
> does what the owners decide it should do.

Okay. Despite the back and forth banter, we're actually in agreement. Let me word my point differently.

Businesses start to fill a perceived social want or need. The proprietor must at the very least earn a living from the business. Some proprietors focus on profit growth. Others make a profit but have other aspirations such as more autonomy.

Whatever the aspirations of the proprietor, the business must fulfill something another person wants or there will be no customers and, by extension, revenue. Focus must be on the customer.

If you have a software business for example, your focus must be on the product and not maximizing profit growth, so long as you're actually turning a profit. I think we in the US have forgotten this basic tenet of business.

James Watson

Posts: 2024
Nickname: watson
Registered: Sep, 2005

Re: Wrong Correctness Posted: Jan 5, 2010 9:51 AM
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> If you have a software business for example, your focus
> must be on the product and not maximizing profit growth,
> so long as you're actually turning a profit. I think we in
> the US have forgotten this basic tenet of business.

I agree. Two problems, I think, are that we focus too much on the short term. At my last job people would go ape-shit over getting invoices processed for the monthly accounting cycle. Monthly! They would risk huge costs in order to not have slightly lower numbers for the month.

The other issue I see is that the difference between taxes on dividends and long-term capital gains makes investors want companies to grow well beyond their markets. This drives companies to expand into businesses that don't make sense for them. Peter Lynch calls it 'diworsification' or something similar.

Maybe it's because they have 100 year mortgages but Japanese companies seem to be much more focused on long-term sustainable growth while in the US, companies are very quick to kill the goose to get at the golden eggs quicker.

robert young

Posts: 361
Nickname: funbunny
Registered: Sep, 2003

Re: Wrong Correctness Posted: Jan 5, 2010 3:06 PM
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> Businesses are
> not sentient beings with their own needs and desires.
> They exist to benefit the owners.

One of the longstanding conflicts in both law and economics is that, in fact, corporations are sentient beings. They have an existence separate and apart from both managers and owners. That this should be allowed was handed down by the Supreme Court in 1819 (http://en.wikipedia.org/wiki/Corporation). Note: in the article is a reference to the Real Adam Smith, and his contention that corporations are inherently bad (my characterization).

James Watson

Posts: 2024
Nickname: watson
Registered: Sep, 2005

Re: Wrong Correctness Posted: Jan 5, 2010 3:24 PM
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> One of the longstanding conflicts in both law and
> economics is that, in fact, corporations are sentient
> beings. They have an existence separate and apart from
> both managers and owners. That this should be allowed was
> handed down by the Supreme Court in 1819

That well known fact that, in legal terms, corporations are treated as individuals doesn't make them sentient.

robert young

Posts: 361
Nickname: funbunny
Registered: Sep, 2003

Re: Wrong Correctness Posted: Jan 6, 2010 9:30 AM
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> > One of the longstanding conflicts in both law and
> > economics is that, in fact, corporations are sentient
> > beings. They have an existence separate and apart from
> > both managers and owners. That this should be allowed
> was
> > handed down by the Supreme Court in 1819
>
> That well known fact that, in legal terms, corporations
> are treated as individuals doesn't make them sentient.

But, legally, they are, and for the purposes of this discussion dealing with separation of ownership and control; "Wrong Correctness" is by far more prevalent in corporations for the reasons I've outlined.

In any case, my point is that managers of corporations are just as self-absorbed as the stereotypical Russian bureaucrat of literature and fact, and will maximize his/her immediate needs in ignorance of the corporation's best interest, either long or short term. For bureaucrats, that need is expanding staff and budget. The more of each a manager has (I was tempted to say controls, but such people are usually way out of control), the greater the dollars in his pay envelope. Since managers don't actually produce anything, and always have staff to blame for failure, expanding their fiefs is all that matters. Doing anything better with less is counter-productive to managers; there is nothing to gain.

For upper level managers, the Goldman-Sachs et al mess shows that managers who control the corporation's cash will always divert as much as possible to themselves using faux accomplishments as justification. Since the compensation committees and consultants are made up of members of this same class, there is no countervailing power to diminish, much less halt, this diversion.

So, fixing "Wrong Correctness" has to acknowledge structure of business. Where business is owned and managed by the same individuals, the problem can be fixed. Where not, not so much.

James Watson

Posts: 2024
Nickname: watson
Registered: Sep, 2005

Re: Wrong Correctness Posted: Jan 6, 2010 10:43 AM
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> In any case, my point is that managers of corporations are
> just as self-absorbed as the stereotypical Russian
> bureaucrat of literature and fact, and will maximize
> his/her immediate needs in ignorance of the corporation's
> best interest, either long or short term.

Incentive schemes is an interesting topic in game theory. The basic idea is to align the incentives of the employee with the employer. I agree that often the incentives of management are not well-aligned with the ownership. The most obvious is to give management a stake in owning the company but that's a bit trickier than it seems on the surface.

I also believe that the owners of public corporations (stockholders) are often not very interested in protecting and growing the value of the company in the long-term. If I plan to sell my house in a year, I'm not likely to invest a lot of money in buying new windows. Likewise, market often encourages rapid growth without concern for long-term stability.

art src

Posts: 33
Nickname: articulate
Registered: Sep, 2005

Re: Wrong Correctness Posted: Jan 6, 2010 4:55 PM
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Many of the owners of public corporations are people investing for retirement. If they have an average age of 40 (average of 20 and 60) and expect to need the money at 75 (average of 65 and 85) they have a time horizon of 35 years which is reasonably long term. The people making the investment decisions have a bonus to get this year so they have a time horizon of 6 months (average or 0 and 12 months).

Business have a purpose for their owners who start them. We as a society create a framework that includes businesses. So the existence of business must have a purpose for society generally also. And society generally has more interests than the profits of potential business owners. If businesses as we have structured them are not maximizing total utility, then we can respond.

Bill Pyne

Posts: 165
Nickname: billpyne
Registered: Jan, 2007

Re: Wrong Correctness Posted: Jan 8, 2010 11:05 AM
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> This
> drives companies to expand into businesses that don't make
> sense for them. Peter Lynch calls it 'diworsification' or
> something similar.

My employer from 2001-2004 was a conglomerate (I'm not sure if that's the proper legal term). The business units were all manufacturing except mine, which was finance. The executives at the corporate level never could quite grasp that the needs of a finance company are significantly different from those of manufacturing. It was a poor fit.

> Maybe it's because they have 100 year mortgages but
> Japanese companies seem to be much more focused on
> long-term sustainable growth while in the US, companies
> are very quick to kill the goose to get at the golden eggs
> quicker.

I think the culture of Japan is such that they take a longer view of everything. I watch Dinner Impossible periodically. One time the chef who hosts the show worked with a sushi chef. The sushi chef related how he spent his first 2 years making rice as a novice. Naturally the host's jaw dropped. (Imagine how good software developers would be if we followed a training system like that one.)

James Watson

Posts: 2024
Nickname: watson
Registered: Sep, 2005

Re: Wrong Correctness Posted: Jan 8, 2010 12:01 PM
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> I think the culture of Japan is such that they take a
> longer view of everything. I watch Dinner Impossible
> periodically. One time the chef who hosts the show worked
> with a sushi chef. The sushi chef related how he spent his
> first 2 years making rice as a novice. Naturally the
> host's jaw dropped. (Imagine how good software developers
> would be if we followed a training system like that one.)

In software, 2 years qualifies you as a senior developer.

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