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Investment in a start-up is not a child’s play

In fraud, General, Risk, Uncategorized on September 24, 2019 at 3:25 am

80% -90% of Start-up businesses fail in the first few years of operations. Given this data, investment in a start-up is not a child’s play. Being a Ph.D. in risk management and having studied large institutions where the failure rate is far lesser, I was always intrigued about how angel investors calculate the risk of start-ups to make an investment decision. At the same time, it would be equally difficult for start-ups to convince the investors for their potential and ability to perform.

Recently I visited the University of Southampton for my research and met an interesting lady who was an angel investor with enormous funds to invest particularly in Ghana. My questions became specific as I heard the word ‘Ghana’. Why an angel investor wants to invest in Ghana only? What motivates her to take such a decision. Very soon, the lady revealed the reasons: one by one setting a story. She taught me investment risk in a unique way, which I cannot forget lifetime.

The lady had seven children, five dogs and two visiting foxes living with her in a beautiful house at London along with her husband, who was a medical practitioner. She said, “if you are a mom/dad, it is easy to understand what an investment in a start-up means. Consider your child as your angel investment and marriage of child as an exit for the investment. Investment in Ghana was not a new idea as for a parent from Ghana just wanted the child alike”.

Similar to a promoter-based company, when you invest in your child, it is full of optimism while if it is for others (start-ups), many times, investors are not that optimistic. The concerns are raised about principal risk, return risk, valuation risk, and many others. A company may not fail to deliver the promised product or fail. The returns will be variable in frequency, time, and amount. The main difference between the two situations is about trust why people tend to trust their own child than others.

Most often, start-up makes a mistake in demonstrating why investors can trust them and those who can demonstrate, most often receive the investment. To maintain that trust, they are required to answer some what if questions of angel investors which deals with risk management.

What is new about start-up: is it a product or a service? What is the start-up target market for the product? What if you don’t find a market for your product?

How will you make your product/service profitable? Show your business plan. What are the business objectives? What if you will face issues related to higher expenses, delays in projects, labor problems, license issues, stiff competition, and testing of the product.

What if you require funds over its existing cash resources to develop market capabilities?

How is management planning to execute the business for viability and success? What if you find that management is not enough experienced and expert in dealing with it?

 How you will manage fraud, and what are the controls? What if you find that the company’s management team is involved in fraud?

Further, I met another start-up business CEO who received large funding from angel investor by just showing how he can prepare the best British tea. Angel investor asked the start-up CEO how you will address the need of the British being Indian? He argued that he knows British culture, and taste better than British and can offer a British Tea. If he likes it, he will give him funding, if not, it’s okay. Eventually, he got the funding.

Investment in start-ups requires a fair understanding of the risk management and particularly two major aspects: how to develop trust and ability to answer what if questions. Remember, trust is developed first for the team; the product comes next. It is well said,

The first-rate team with a second-rate idea will always outperform a second-rate team with a first-rate idea.”
― Brian Cohen

 

Governance @ Distance

In board members, corporate governance, Finance, fraud, General, Management, Uncategorized on April 5, 2019 at 1:12 pm

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Transparency, higher commitment, and independence are buzz words for good corporate governance. The role of independent directors plays an important role in Corporate governance to keep an eye on the board activities to flag off non-promoter group issues. However, the challenge is neither the independent directors get appropriate compulsory training to understand their roles and responsibilities in an organisation nor the appropriate data promptly to act upon effectively. Board has a limited duration to understand and reflect on issues. Sometimes the independent directors are from different industries and are not able to understand the context and indulge in granularities, though, diversity of thoughts may add significant value. Governance at distance is often seen where the board chairman leads the discussion and independent directors often distant from reality less engaged in a discussion.

According to recent Board Practice Report by Deloitte Centre for Board Effectiveness and Society for Corporate Governance, almost 80% of board members think that their primary focus is on company strategy, 42% attributes risk oversight as important and 29% focuses on board selection. To sum up, strategy formulation, risk oversight and board selection are three important roles of board. In this blog, I will talk about the issues related to the first two.

In the current business environment, the markets are turbulent more than ever. World over, not only regulators, every stakeholder such as partners, and creditor are accusing board if anything goes wrong in governance. Social media and newspapers have abundant stories of poor risk governance. A board strategy cannot be the same in normal, turbulent and crisis situations. Strategic change has become important for companies. Punjab National Bank (PNB) in India has recently faced one of the biggest frauds in history, and within a short period, the company’s board needs to change the strategy of the company to address the crisis. Not only the fraud affected the PNB strategy, but it also impacted the strategy of other banks in India and the global market. The strategies perfectly working in normal market conditions may not work in crisis situation. Are companies’ board trained and prepared to handle how to change the company’s strategy in normal, volatile and crisis situations?

Post-2008 crisis, the role of the board in enterprise-wide risk oversight has become challenging. No specific training is provided to the board to refresh their knowledge on the subject. Many companies still don’t know what are their key risks and issues in the management of risks. Surprisingly, directors don’t know their roles and responsibility in risk oversight. Understanding the inter-connectivity of risk is the next big challenge, and a very few companies are able to link risk management with strategy and compensation system. How the board of directors perform their duty in overseeing the executive decisions and how compensation structures and practices drive an executive’s risk-taking. Many such questions need to be answered.

Let us understand the logic of why the understanding of risk is paramount for the board for effective corporate governance. Shareholders want a higher return for higher risk and vice-a-versa. One of the roles of the board is to define the risk appetite (the amount and extent of risk the company is willing to take as promised to shareholders) in the company. The informal approach of risk management will bring several surprises in the organization and may hinder the fulfillment of organisational objectives. To deal with the situation, the board needs to effectively oversee the organisation key risks holistically and disclose them to shareholder at appropriate times so that value at risk can be calculated. The only quantification of risk exposure will not suffice; the quality of risk-taking directly impacts the profitability of a company. Quality of risk profile also needs a significant attention. Balancing the risk while adding value to the organisation is only possible when risk management is well understood by board, implemented in a formal way and linked to the organisational strategy.

I strongly believe that the board should get a refresher course or a certificate course to carry out their duties effectively. Governance at a distance is not working. Categorization of risks in market risks, operational risk, and strategic risk has become bizarre and mundane.  Helicopter view of risk for oversight has become unacceptable as stakeholders want to understand what were the key risks of the organisation last year, whether risks are increasing or decreasing and the reasons behind them. Higher interaction and participation of the board by probing questions will certainly enhance the current state of governance. Higher engagement of the board is the key to good governance.

Do you walk the talk or talk the walk? What is right for you?

In General on January 24, 2017 at 3:08 am

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Fig: Walk your talk, but not in opposite direction

When you talk the walk, you follow a famous scientist Gene Woolsey, Known as Dr Robert. E.D, Woolsey (late eminent professor from Colorado), described how it is effective and warned for its consequences. He defined: “a pencil is crutch, a calculator is a wheel chair, a computer is an ambulance” instead of using your brain to analyse the issues. In practice when you talk about your walk, you define your own ways and discuss what would be your future course of actions. You as a leader, put forward your vision, business context and ideas for future. It is not the market who is defining you, it is you who is defining the market. The question arises when a problem is analysed what should be first few steps and how it relates to talk the walk and walk the talk.

There is no short cut to problem solving for a leader without understanding what the problem is and how it is originated. If the problem in a state/city such as Delhi or Beijing is pollution, why this is so, how long this problem persists? Follow up is with pondering about alternative and choosing the most appropriate one for implementation. Reliability of leadership is evaluated on the basis of how a leader walks the talk ‘whatever a leader speaks should be reflected in his/her actions’. If leader talks about action but does not implement them, he/she can be easily admonished for not walking the talk.

 Another saying is if you are going to ‘talk the talk’ which we usually see in elections, public expects ‘walk the walk’. The actions should speak louder than work and the practices the leader preach.

What do you do?

          You talk the walk (Innovation, new actions and vision to resolve problem)

          You walk the talk (Keep value of your words and promises of taking actions)

          You talk the talk (Speak to build the confidence of public and series of actions)

          You walk the walk (Work, work and work without speaking what you have done)