Risk Rap

Rapping About a World at Risk

The Yin and Yang of Inflation

inflationpicInflation like all risk is a double edge sword. Its negative nature will upset the apple cart and pose uncomfortable challenges for SME managers that have grown accustomed to the status quo.

It will force managers to reconsider their well conceived business plans and perhaps more closely scrutinize this quarters P&L or the company balance sheet. It will present serious challenges for businesses supply chain and client relationships. It may raise the eyebrows of your shareholders and credit providers perhaps provoking some pointed questions concerning your management skills and the validity of your business model.

That said inflation does have an upside. Like all risk factors it has the potential to create opportunities. Inflation will drastically alter market conditions. It will reveal inefficiencies that nimble SME can actively engage and manage to turn those market conditions to their advantage. The key operative words are management, intentionality and active engagement.

Inflation is a silent killer. It stalks all SME threatening to gobble up product margins, revenue opportunities and bottom line profits. It diminishes customer buying power and may threaten the solvency of large customers and suppliers. It drives up the cost of capital, making credit more expensive while it forces state and local governments to raise taxes and fees.

The inflation bogey man lurks in the profit and loss statements of all businesses with SME being particularly vulnerable to its effect. Inflation dramatically shows itself on the expense side of the ledger in the increases for basic materials, energy, delivery services, T&E, administrative expenses and employee benefits. Inflation also affects the income side of the profit loss statement. It erodes the buying power of your customers and threatens collection of receivables by extending days outstanding, increased write offs or the sale of uncollected debt for pennies on the dollar.

SME profitability is particularly sensitive to the effects of inflation because of economies of scale, concentration of risk factors and lack of pricing power.

Many SME lack pricing power. Pricing power suggests that if price of a product rises to a certain level demand for that product will not diminish. For a SME to have pricing power it must offer value add product to dependent buyers. Its product or service cannot be easily replicated or widely available from other sources.

While pricing power escapes most SME numerous factors inhibit their ability to become low cost producers. They deliver product or service differentiation to their customers by other means then low price. Inflation erodes consumer purchasing power driving buyers to seek low cost producers. In this environment SME may suffer when buyers trade down to low cost providers. Key customers may compel SME to lower prices to be more in line with lower cost producers. This is a major threat to SME.

SME tend to have greater risk concentration in their business model. Heightened risk concentrations are most pronounced in small businesses due to a limited product line, geographical risk, market cyclicality and in client and supply chain relationships. Consider a small manufacturer of finished steel products for the home construction industry. Generally, manufactures profitability is highly correlated to the price it pays for basic commodities and has an extremely high concentration of supply chain and product risk. Small businesses may not be able to recover or adjust its product prices to cover increased commodity prices due to existing contractual agreements with customers or its lack of pricing power. The abatement of market demand due to a recession may provoke larger customers to demand price concessions by threatening to move their business to lower cost producers. The pressure on this small manufacturer is compounded by a spike of smaller account losses and moribund demand due to weak cyclical market conditions in its target market.

It’s almost a perfect storm of negative business conditions. Small businesses managers need to understand how inflation touches all aspects of their business and must manage its impact to maintain profitability and sustainable growth.

Managing Inflation Risk with a WIN Campaign

SME can meet the challenge of inflation head on by implementing a Whip Inflation Now (WIN) program that engages the numerous risks inflation poses. In deference to our former President Gerald Ford, business managers can initiate WIN Programs and actions to temper the impact of inflation and to seize opportunities that rapidly changing market conditions create. Small businesses must be extra vigilant and proactive in managing all classes of business risks.

Some small businesses will cave into the demands of their large accounts to cut prices to prevent them from going to a lower cost provider. This is very dangerous for small businesses and can result in “death by a thousand cuts.” Managers should not wait for their largest account to approach them seeking price concessions. Now is the perfect time to go on the offensive and alter the value proposition that only your firm can uniquely deliver to key accounts. Remember your largest accounts are experiencing the negative effects of inflation as well. Go to them and propose a WIN Campaign.

A company’s WIN Campaign can offer a joint marketing program using advanced web enabled technologies. Your WIN Campaign can implement an expanded training and support program tied to a business development program or supply chain rationalization. You may suggest a partnership to develop a new product or put in place a customer loyalty program. Your job is to create a unique value proposition that adds value to your product and convey it to your customer so they cannot commoditize your product. Together you and your clients can WIN the fight against inflation and turn it into a business development initiative. Your clients will appreciate the fact that you are thinking about their business success.

Another common knee jerk reaction to fight rising business costs is to reduce expenses by cutting expenditures on areas that do not support the mission critical functions of the business. Capital is allocated to maintain funding to support sales, production and product delivery. This is coupled with a lean administrative management structure and this model is seen as a recipe for economic survival. Being good stewards of corporate capital is essential during these times. Capital leakage is always a threat to business profitability and needs to be even more diligently managed during times of economic duress. But this strategy is a subsistence survival strategy. It is based on investing the barest minimum of capital to address fluctuating market conditions. This strategy may limit small businesses ability to literally capitalize on opportunities that changing market conditions present.

Cutting expenses for marketing is usually another budget casualty when businesses look to cut costs. This will reduce your current expense line for this quarter and will certainly help bottom line profitability; but skipping this year’s trade show will not help you to locate that new customer who is looking for a supplier because his current provider is struggling with product quality issues. Cutting this expense won’t provide you with the critical insights you need to stay competitive and ahead of new market entrants that are attending trade shows. Who by the way are also aggressively courting your largest account to get just a tiny slice of your business to demonstrate their “superior value proposition.”

Employee benefits and training is another area that is often the focus of budgetary cutbacks. Many SME need to closely consider the gains they will realize by cutting back on benefits offered to its employees. Cutting benefits could increase employee turnover. Training and hiring new employees are an expensive proposition for SME. The loss of key employees can potentially devastate a small business. Expertise, intellectual capital and critical business intelligence leaves the organization when a key employee walks out the door. This is doubly true if some key employees leave the firm and walk some major client relationships out the door with them.

SME can also try to employ risk transfer strategies. Insurance purchases may help in some areas but to fight inflation small businesses can use financial instruments (capital permitting) to hedge against rising prices. The purchase of TIPs, FX forward contracts, commodity or energy futures can help to offset the negative effects of key inflation business threats. As the price of oil rose this summer a modest equity position in oil or other energy company would have helped to offset the increase in energy expenses.

Thankfully adverse economic conditions will force SME to take an honest look at their product lines and business model. Economic adversity provides an opportunity for management to make hard decisions concerning product lines. This is an ideal time to focus and fund the development of products that offer the greatest potential for long term profitability and sustainable growth.

Inflation is a significant problem for small businesses but it is a problem that can be managed. Changing economic conditions alter the landscape for all businesses that accelerate and starkly reveal market inefficiencies. These inefficiencies create market anomalies and opportunities that astute small business owners and managers can capitalize on through an intentional practice of a risk management and opportunity discovery program.

Sum2’s objective is to assist clients to implement corporate sound practices that enhance profitability and sustainable growth. Sum2’s offers a wide stable of risk management apps for SME. The Macroeconomic Risk Assessment App helps managers review macroeconomic and event risks to better manage its potential effect on their business. Sum2 offers a Macroeconomic Risk App and can be downloaded from Google Play or by visiting http://www.sum2.com or by calling us at 973.287.7535.

risk: #sme, #inflation, #macroeconomic, #supplychain #office365, #mobileoffice, #metasme, #smeiot #eventrisk, #marketrisk, #WIN, #sum2

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July 21, 2014 Posted by | banking, customer risk, economics, inflation, SME | , , , , , , , , , | Leave a comment

Big Data for a Small World: SMEIoT

smeiotIoT

The world is a great big database and algorithmic wizards and mad data scientists are burning the midnight oil to mine the perplexing infinities of ubiquitous data points.  Their goal is to put data to use to facilitate better governance, initiate pinpoint marketing campaigns, pursue revelatory academic research and improve the quality of service public agencies deliver to protect and serve communities. The convergence of Big Data, Cloud Computing and the Internet of Things (IoT) make this possible.

The earth is the mother of all relational databases.  It’s six billion inhabitants track many billions of real time digital footprints across the face of the globe each and every day.  Some footprints are readily apparent and easy to see.  Facebook likes, credit card transactions, name and address lists, urgent Tweets and public records sparkle like alluvial diamonds; all easily plucked by data aggregators and sold to product marketers at astonishing profit margins.  Other data points are less apparent, hidden or derived in the incessant hum of the ever listening, ever recording global cybersphere.   These are the digital touch points we knowingly and unknowingly create with our interactions with the world wide web and the machines that live there.

It is estimated that there is over 20 billion smart machines that are fully integrated into our lives.  These machines stay busy creating digital footprints; adding quantitative context to the quality of the human condition.  EZ Passes, RFID tags, cell phone records, location tracking, energy meters, odometers, auto dashboard idiot lights, self diagnostic fault tolerant machines, industrial process controls, seismographic, air and water quality apparatuses and the streaming CBOT digital blips flash the milliseconds of a day in the life of John Q. Public.  Most sentient beings pay little notice, failing to consider that someone somewhere is planting the imprints of our daily lives in mammoth disk farms.  The webmasters, data engineers and information scientists are collecting, collating, aggregating, scoring and analyzing these rich gardens of data to harvest an accurate psychographic portrait of modernity.

The IoT is the term coined to describe the new digital landscape we inhabit.  The ubiquitous nature of the internet, the continued rationalization of the digital economy into the fabric of society and the absolute dependency of daily life upon it, require deep consideration how it impacts civil liberties, governance, cultural vibrancy and economic well being.

The IoT is the next step in the development of the digital economy. By 2025 it is estimated that IoT will drive $6 Trillion in global economic activity.  This anoints data and information as the loam of the modern global economy; no less significant than the arrival of discrete manufacturing at the dawn of industrial capitalism.

The time may come when a case may be made that user generated data is a commodity and should be considered a public domain natural resource; but today it is the province of digirati  shamans entrusted to interpret the Rosetta Stones, gleaning deep understanding of the current reality while deriving high probability predictive futures.  IoT is one of the prevailing drivers of global social development.


SME

There is another critical economic and socio-political driver of the global economy.  Small Mid-Sized Enterprises (SME) are the cornerstone of job creation in developed economies.  They form the bedrock of subsistence and economic activity in lesser developed countries (LDC).  They are the dynamic element of capitalism.  SME led by courageous risk takers are the spearhead of capital formation initiatives.  Politicians, bureaucrats and business pundits extol their entrepreneurial zeal and hope to channel their youthful energy in service to local and national political aspirations.  The establishment of SME is a critical macroeconomic indicator of a country’s economic health and the wellspring of social wealth creation.

The World Bank/ IFC estimates that over 130 million registered SME inhabit the global economy. The definition of an SME varies by country. Generally an SME and MSME (Micro Small Mid Sized Enterprises)  are defined by two measures, number of employees or annual sales.  Micro enterprises are defined as employing less than 9 employees, small up to 100 employees and medium sized enterprises anywhere from 200 to 500 employees.  Defining SMEs by sales scale in a similar fashion.

Every year millions of startup businesses replace the millions that have closed.  The world’s largest economy United States boasts over 30 million SME and every year over one million  small businesses close.  The EU and OECD countries report similar statistics of the preponderance of SME and numbers of business closures.

The SME is a dynamic non homogeneous business segment.  It is highly diverse in character, culture and business model heavily colored by local influence and custom. SME is overly sensitive to macroeconomic risk factors and market cyclicality.  Risk is magnified in the SME franchise due to high concentration of risk factors.  Over reliance on a limited set of key clients or suppliers, product obsolescence, competitive pressures, force majeure events, key employee risk, change management and credit channel dependencies are glaring risk factors magnified by business scale and market geographics.

In the United States, during the banking crisis the Federal Reserve was criticized for pursuing policies that favored large banking and capital market participants while largely ignoring SME. To mitigate contagion risk, The Federal Reserve  quickly acted to pump liquidity into the banking sector to buttress the capital structure of SIFI (Systemically Important Financial Institutions). It was thought that a collateral benefit would be the stimulation of SME lending.  This never occurred as SBA backed loans nosedived. Former Treasury Secretary Timothy Geithner implemented the TARP and TALF programs to further strengthen the capital base of distressed banks as former Fed Chairman  Ben Bernanke pursued Quantitative Easing to transfer troubled mortgage backed securities onto Uncle Sams balance sheet to relieve financial institutions  of these troubled assets. Some may argue that President Obama’s The American Recovery and Reinvestment Act of 2009 (ARRA)  helped the SME sector.  The $800 billion stimulus was one third tax cuts, one third cash infusion to local governments and one third capital expenditures aimed at shovel ready infrastructure improvement projects.  The scale of the ARRA was miniscule as compared to support rendered to banks and did little to halt the deteriorating macroeconomic conditions of the collapsing housing market, ballooning unemployment and rising energy prices severely stressing SME.

The EU offered no better.  As the PIGS (Portugal, Ireland, Greece, Spain) economies collapsed the European Central Bank forced draconian austerity measures on national government expenditures undermining key SME market sensitivities.  On both sides of the Atlantic, the perception of a bifurcated central banking policy that favored TBTF Wall Street over the needs of  an atomized SME segment flourished.  The wedge between the speculative economy of Wall Street and the real economy on Main Street remains a festering wound.

In contrast to the approach of western central bankers, Asian Tigers, particularly Singapore have created a highly  supportive environment for the incubation and development of SME. Banks offer comprehensive portfolios of financial products and SME advisory services. Government legislative programs highlight incubation initiatives linked to specific industry sectors. Developed economies have much to learn from these SME friendly market leaders.

The pressing issues concerning net neutrality, ecommerce tax policies, climate change and the recognition of Bitcoin as a valid commercial specie are critical developments that goes to the heart of a healthy global SME community.  These emerging market events are benevolent business drivers for SME and concern grows that legislative initiatives are being drafted to codify advantages for politically connected larger enterprises.

Many view this as a manifestation of a broken political system, rife with protections of large well financed politically connected institutions. Undermining these entrenched corporate interests is the ascending digital paradigm promising to dramatically alter business as usual politics. Witness the role of social media in the Arab Spring, Barack Obama’s 2008 election or the decapitalization of the print media industry as clear signals of the the passing away of the old order of things.  Social networking technologies and the democratization of information breaks down the ossified monopolies of knowledge access. These archaic ramparts are being gleefully overthrown by open collaborative initiatives levelling the playing field for all market participants.

SMEIoT

This is where SMEIoT neatly converges.  To effectively serve an efficient market, transparency and a contextual understanding of its innate dynamics are critical preconditions to market participation.  The incubation of SME and the underwriting of capital formation initiatives from a myriad of providers will occur as information standards provide a level of transparency that optimally aligns risk and investment capital. SMEIoT will provide the insights to the sector for SME to grow and prosper while industry service providers engage SME within the context of a cooperative economic non-exploitative relationship.

This series will examine SME and how IoT will serve to transform and incubate the sector.  We’ll examine the typology of the SME ecosystem, its risk characteristics and features.  We’ll propose a metadata framework to model SME descriptors, attributes, risk factors and a scoring methodology.  We’ll propose an SME portal, review the mission of Big Data and its indispensable role to create cooperative economic frameworks within the SME ecosystem. Lastly we’ll review groundbreaking work social scientists, legal scholars and digital frontier activists are proposing to address best governance practices and ethical considerations of Big Data collection, the protection of privacy rights,  informed consent, proprietary content and standards of accountability.

SMEIoT coalesces at the intersection of social science, commerce and technology.  History has aligned SMEIot building blocks to create the conditions for this exciting convergence.  Wide participation of government agencies, academicians, business leaders, scientists and ethicists will be required to make pursuit of  this science serve the greatest good.

 

This is the first in a series of articles on Big Data and SMEIoT . It originally appeared in Daftblogger eJournal. Next piece in series is scheduled to appear on Daftblogger eJournal within the next two weeks.

#smeiot #metasme #sum2llc #sme #office365 #mobileoffice #TARP #capitalformation #IoT #internetofthings #OECD #TBTF #Bitcoin #psychographics #smeportals #bigdata #informedconsent

July 9, 2014 Posted by | banking, Bernanke, commerce, commercial, credit crisis, economics, ethics, Internet of Things, IoT, politics, risk management, SME, SMEIOT, Sum2, sustainability, TALF, TARP, Treasury | , , , , , , , , , , , , , , , , | Leave a comment