/Pricing/Accounting;/U/Blog;

Introduction

I have been working in and around investment markets for 35 years now. A lot has happened over that time. The 1987 crash, the recession Australia had to have, the Asian crisis, the tech boom/tech wreck, the mining boom, the Global Financial Crisis, the Eurozone crisis. Financial deregulation, financial reregulation. The end of the cold war, US domination, the rise of Asia and then China. And so on.  But as someone once observed the more things change the more they stay the same. And this is particularly true in relation to investing. So, what I have done here is put some thought into the nine most important things I have learned over the past 35 years.

# 1 There is always a cycle

Droll as it sounds, the one big thing I have seen over and over in the past 35 years is that investment markets constantly go through cyclical phases of good times and bad. Some are short term, such as those that relate to the 3 to 5 year business cycle. Some are longer, such as the secular swings seen over 10 to 20 year periods in shares. Some get stuck in certain phases for long periods. Debate is endless about what drives cycles, but they continue. But all eventually contain the seeds of their own reversal. Ultimately there is no such thing as new eras, new paradigms and new normal as all things must pass. What’s more share markets often lead economic cycles, so economic data is often of no use in timing turning points in shares.

# 2 The crowd gets it wrong at extremes

What’s more is that these cycles in markets get magnified by bouts of investor irrationality that take them well away from fundamentally justified levels. This is rooted in investor psychology and flows from a range of behavioural biases investors suffer from. These include the tendency to project the current state of the world into the future, the tendency to look for evidence that confirms your views, overconfidence and a lower tolerance for losses than gains. So, while fundamentals may be at the core of cyclical swings in markets, they are often magnified by investor psychology if enough people suffer from the same irrational biases at the same time. From this it follows that what the investor crowd is doing is often not good for you to do too. We often feel safest when investing in an asset when neighbours and friends are doing the same and media commentary is reinforcing the message that it’s the right thing to do. This “safety in numbers” approach is often doomed to failure. Whether its investors piling into Japanese shares at the end of the 1980s, Asian shares into the mid 1990s, IT stocks in the late 1990s, US housing and dodgy credit in the mid 2000s or Bitcoin in 2017.  The problem is that when everyone is bullish and has bought into an asset in euphoria there is no one left to buy but lots of people who can sell on bad news. So, the point of maximum opportunity is when the crowd is pessimistic, and the point of maximum risk is when the crowd is euphoric.

# 3 What you pay for an investment matters a lot

The cheaper you buy an asset the higher its prospective return. Guides to this are price to earnings ratios for share markets (the lower the better – see the next chart) and yields, ie the ratio of dividends, rents or interest payments to the value of the asset (the higher the better). Flowing from this it follows that yesterdays winners are often tomorrows losers – because they became overvalued and over loved and vice versa.  But while this seems obvious, the reality is that many find it easier to buy after shares have had a strong run because confidence is high and sell when they have had a big fall because confidence is low. But the key point is that the more you pay for an asset the lower its potential return and vice versa.

# 4 Getting markets right is not as easy as you think

In hindsight it all looks easy. Looking back, it always looks obvious that a particular boom would go bust when it did. But that’s just Harry hindsight talking! Looking forward no-one has a perfect crystal ball. As JK Galbraith observed “there are two kinds of forecasters: those who don’t know, and those who don’t know they don’t know.” Usually the grander the forecast – calls for “great booms” or “great crashes ahead” – the greater the need for scepticism as such calls invariably get the timing wrong (in which case you lose before it comes right) or are dead wrong. Market prognosticators suffer from the same psychological biases as everyone else. If getting markets right were easy, then the prognosticators would be mega rich and would have stopped doing it long ago. Related to this many get it wrong by letting blind faith – “there is too much debt”, “house prices are too high and are guaranteed to crash”, “the Eurozone will break up” – get in the way of good investment decisions. They may be right one day, but an investor can lose a lot of money in the interim. The problem for ordinary investors is that it’s not getting easier as the world is getting noisier as the flow of information and opinion has turned from a trickle to a flood and the prognosticators have had to get shriller to get heard.

# 5 Investment markets don’t learn

A key lesson from the history of investment markets is that they don’t seem to learn. The same mistakes are repeated over and over as markets lurch from one extreme to another. This is even though after each bust many say it will never happen again and the regulators move in to try and make sure it doesn’t. But it does! Often just somewhere else. Sure, the details change but the pattern doesn’t. As Mark Twain is said to have said: “history doesn’t repeat, but it rhymes.” Sure, individuals learn and the bigger the blow up the longer the learning lasts. But there’s always a fresh stream of newcomers to markets and in time collective memory dims.

# 6 Compound interest is like magic

This one goes way back to my good friend Dr Don Stammer. One dollar invested in Australian cash in 1900 would today be worth $240 and if it had been invested in bonds it would be worth $950, but if it was allocated to Australian shares it would be worth $593,169. Although the average annual return on Australian shares (11.8% pa) is just double that on Australian bonds (5.9% pa) over the last 119 years, the magic of compounding higher returns leads to a substantially higher balance over long periods. Yes, there were lots of rough periods along the way for shares as highlighted by arrows on the chart, but the impact of compounding at a higher long-term return is huge over long periods of time. The same applies to other growth-related assets such as property.

# 7 It pays to be optimistic

The well-known advocate of value investing Benjamin Graham observed that “To be an investor you must be a believer in a better tomorrow.” If you don’t believe the bank will look after your deposits, that most borrowers will pay their debts, that most companies will grow their profits, that properties will earn rents, etc then you should not invest. Since 1900 the Australian share market has had a positive return in roughly eight years out of ten and for the US share market it’s roughly seven years out of 10. So getting too hung up worrying about the next two or three years in 10 that the market will fall risks missing out on the seven or eight years out of 10 when it rises.

# 8 Keep it simple stupid

Investing should be simple, but we have a knack for overcomplicating it. And it’s getting worse with more options, more information, more apps and platforms, more opportunities for gearing and more rules & regulations around investing. But when we overcomplicate investments we can’t see the wood for the trees. You spend too much time on second order issues like this share versus that share or this fund manager versus that fund manager, so you end up ignoring the key driver of your portfolio’s performance – which is its high-level asset allocation across shares, bonds, property, etc. Or you have investments you don’t understand or get too highly geared. So, it’s best to keep it simple, don’t fret the small stuff, keep the gearing manageable and don’t invest in products you don’t understand.

# 9 You need to know yourself to succeed at investing

We all suffer from the psychological weaknesses referred to earlier. But smart investors are aware of them and seek to manage them. One way to do this is to take a long-term approach to investing. But this is also about knowing what you want to do. If you want to take a day to day role in managing your investments then regular trading and/or a self managed super fund (SMSF) may work, but you need to recognise that will require a lot of effort to get right and will need a rigorous process. If you don’t have the time and would rather do other things like sailing, working at your day job, or having fun with the kids then it may be best to use managed funds. It’s also about knowing how you would react if your investment suddenly dropped 20% in value. If your reaction were to be to want to get out then you will either have to find a way to avoid that as you would just be selling low and locking in a loss or if you can’t then you may have to consider an investment strategy offering greater stability over time (which would probably mean accepting lower returns).

So what does all this mean for investors?

All of this underpins what I call the Nine Keys to Successful Investing which are:

1.  Make the most of the power of compound interest. This is one of the best ways to build wealth and this means making sure you have the right asset mix.

2. Don’t get thrown off by the cycle. The trouble is that cycles can throw investors out of a well thought out investment strategy. But they also create opportunities.

3.  Invest for the long term. Given the difficulty in getting market and stock moves right in the short-term, for most it’s best to get a long-term plan that suits your level of wealth, age, tolerance of volatility, etc, and stick to it.

4.  Diversify. Don’t put all your eggs in one basket. But also, don’t over diversify as this will just complicate for no benefit.

5. Turn down the noise. After having worked out a strategy thats right for you, it’s important to turn down the noise on the information flow and prognosticating babble now surrounding investment markets and stay focussed. In the digital world we now live in this is getting harder.

6.  Buy low, sell high. The cheaper you buy an asset, the higher its prospective return will likely be and vice versa.

7. Beware the crowd at extremes. Don’t get sucked into the euphoria or doom and gloom around an asset.

8.  Focus on investments that you understand and that offer sustainable cash flow. If it looks dodgy, hard to understand or has to be based on odd valuation measures or lots of debt to stack up then it’s best to stay away.

9. Seek advice. Given the psychological traps we are all susceptible too and the fact that investing is not easy, a good approach is to seek advice.

We live in a climate of constant business innovation. The exponential rise of technology creates an environment where there is a premium on finding new and better ways of doing things. Even age-old conventional wisdom about our profession is being put to the test. When you can find articles speculating that blockchain-based technologies have the ability to replace double-entry accounting, a system in place since the Renaissance, nothing is off limits.

However, there is a big difference between talking about innovation and implementing at your practice. Most accounting professionals want to be forward-thinking and provide services their customers will value for years to come. Figuring out how to do that in a way that isn’t overly risky or time-consuming is another concern entirely. Fact is, no firm can overhaul itself overnight, nor can it close up shop and throw all its resources at innovating its operations and services. The size and resources of your firm will go a long way in dictating what prudent, effective approaches to innovation might look like. Everyone can stand to innovate, but there’s no one-size-fits-all approach for how to do that.

The Big Four begin to disrupt

Before “disruption” became a buzzword across all industries, it was largely the purview of upstart companies looking to take on the big boys. In fact, Clayton Christensen, the author and professor who originally coined the term “disruptive innovation,” defined it as actions taken by emerging businesses to challenge industry players.



How things have changed. No longer willing to wait for a challenger to disrupt an industry, huge players now attempt to preempt that disruption by making it happen themselves. Perhaps no sector illustrates this change more than the accounting profession. The Big Four firms are leading the way in investigating what the future of accounting may look like, and they have dumped massive amounts of money into the effort.

In a 2018 article for Forbes, Peter Bendor-Samuel examined the way Big Four firms are challenging established patterns in both IT and advisory services. “The leader in the disruption is Deloitte, the most mature and largest of the consulting and services practices,” he wrote. “Over the past two years, the firm went through a significant exercise in globalizing its practices, creating an ‘As One’ Deloitte marketplace rather than having regional fiefdoms. In the digital space, Deloitte built out formidable capability, ranging from some of the leading talent in digital transformation to offshore talent factories to support that. Building digital capability included creating innovative new service offerings, where the firm often sells services on a sole-source basis through Deloitte’s incredible network.”

With huge teams solely dedicated to figuring out every avenue for potential innovation, it’s hard for even larger firms to mount a challenge in the IT creation space. What they can do is follow what the Big Four are doing. What starts at the top usually becomes pervasive over time. When a Deloitte or EY begins adopting a practice in a widespread manner, it’s time to take notice.

Innovation on a smaller scale

A small firm typically does not have the investment dollars to be able to build out an innovation team full of developers and other tech professionals. In most cases, it’s not a great idea to devote your energy to developing in-house IT solutions, unless that is a business you want to go into. But there’s more than one way to innovate and the impetus to do so should be universal across firms of all sizes.

One of the most fruitful routes for innovation starts with an investigation of the services you provide and how you provide them. These two avenues are closely intertwined. Rather than trying to create your own software solutions, you can look at which products to adopt to increase your operational efficiency. When you can achieve what you’re already doing faster and with less hassle, you can begin thinking about additional services to provide. The less time you have to spend on data entry, for example, the more time that can be spent providing essential advisory services to your clients.

In general, when you have a limited budget, you don’t have the latitude to gamble on possibly game-changing but relatively far-off solutions. You need innovation that can work today, which is a lot different from innovation that might work years down the road. A great way to find that is to look at software that your peers are using. Take part in online forums to ask questions, get involved in networking groups with firms of similar sizes, and when you have downtime in the summer, take advantage of it and attend conferences where you can hear from other practitioners about their experiences and ask vendors questions face-to-face in the exhibit hall.

Companies situated in between small firms and the Big Four can adopt a middle ground. Medium-size firms may be able to focus small teams on testing the viability of innovative options for their practice. As such, you can dip your toes in the water before committing to sweeping change. It’s a great way to ensure that the way you choose to innovate internally will be actionable. Hiring consultants outside of your firm that focus on artificial intelligence, machine learning, and blockchain technology can also help guide you to success, as well as lead you away from pitfalls they have experienced in the past.

No matter your firm’s size, testing these products yourself internally with your own books and transactions is always a great way to learn. When you see how your transactions flow, you also get more familiar with the customer support and training options that these technology companies provide. It will allow you to experience it yourself so you can better educate your customers on the pros and cons of an application so you know it’s the right fit.

The mindset of innovation

Firms of all types and sizes benefit from approaching innovation with an open mind and willingness to adapt. In the 21st century, businesses that stick their heads in the sand lose — just ask Blockbuster, Toys “R” Us, RadioShack, and any number of former giants that have tumbled in the face of changing times. It’s very hard to grow, especially when clients have more options than ever before, when you rely on outdated technology and service offerings.

Innovation looks different in varying corners of our profession, but everyone should be looking to innovate. It is not just for the largest firms. Understanding how and when to innovate can separate you from a crowded field and lay out a path for continued success.

Jason describes this time as his wilderness years. He deliberately went off the beaten track, trying things out and abandoning them when they didn’t work. A lot of the time, he got his ideas and inspiration while out on long meditative walks in the woods behind his home in Greenville, South Carolina.   

These strategy walks still play a big part in Jason’s life. “I walk two to three hours every other day. Some days it’s nine or ten miles, thinking and planning,” he says. His business partner, Julie, sometimes joins him on his walks. That’s when they figure out where to go next for their two businesses. Together they manage a successful CPA firm and Thriveal, an online CPA community. 

Youthful energy poured into creative play

Jason’s boundless ideas and energy were evident early on. He was the kid that got into trouble at school for talking too much, and at home for having fights with his brother. At college he was in rock bands and is into progressive rock. He likes creative things that are a little quirky, so he often gets asked how he got into accounting. It turns out that Jason chose accounting because his father was an accountant. He saw it as a reasonable way to make to make a living. “Accounting doesn’t stifle me”, Jason says, “but that’s because I’ve figured how to do accounting in a creative way. It’s led to running an accounting firm differently, and to starting Thriveal.”

The copycat years

Jason’s early career was with a larger accounting firm. And when he took over running his father’s accounting firm, Blumer CPAs, he copied the things he’d seen the large firm do. Then he woke up one day and thought, why the heck am I copying them? I don’t want to be like them at all. Luckily, he was in a situation where he was free to make his own decisions and free to make mistakes.  “Even though he probably didn’t agree with some of the things I did, my father was really good at saying, ‘You run this business the way you want to’.” says Jason.

The wilderness years

Jason started trying out all sorts of things – some worked, some didn’t. In retrospect, he admits he could have saved some heartache, and money, if he’d gone to his father for advice. But he reflects, “I kinda needed that – to be let loose to run it my own way; to play around and see what I could do.”

“Running a business is a creative process. It’s like playing chess – you’re assessing the risks, moving pieces at the right time, creating pieces when you realise you don’t have the right ones,” he explains.

Over several years, Jason experimented with new business models. It was a journey of exploration, and he was having fun. He offered innovative packaged services, value pricing and started using Facebook, Twitter and LinkedIn for marketing. Over time, the business grew.  His wife, Jennifer, stepped in to help out in the office and began building her expertise in social media.

By 2010, Jason felt he was close to figuring out how to do the things that he wanted to. He and his partner, Julie, set out to become an online or virtual firm. Back then, moving all their clients and business processes online wasn’t easy. It took a good five years before they could finally close the office and work largely from home. 

Seeking like-minded people for support

Around the same time as the firm moved online, Jason started writing a blog, sharing his thoughts about how to run a non-traditional accounting firm. He was keen to forge collaborative relationships with other forward-thinking CPAs. So the Thriveal CPA network got started and has grown into a vibrant online community.

Jason uses Thriveal to foster innovation and creativity. “I think accounting firm owners forget that they’re entrepreneurs. They need to try pricing and presenting themselves in new ways,” says Jason.

Thriveal’s activities now include podcasts, community calls, Yammer communities, two-day learning gatherings and Future Firm Groups for larger growing firms. CPAs take part in online meetings designed to encourage their professional and business growth.

Now, Jason and Julie are kept extremely busy running both enterprises. There’s continual cross-fertilisation between their two businesses. What they learn in the accounting firm, they share in the Thriveal community. And the fresh ideas that come from the community, they apply in their CPA business.

Currently, Blumer CPAs biggest accounting niche is in creative design and development agencies. They’re keen to add law firms and fitness businesses like crossfit and yoga studios to the list. Work on their branding, messaging, and some structured marketing campaigns are all in the pipeline. They have big plans for the future, so that could mean a lot more walking! 

In simple terms, Cash Flow Forecasting involves the creating of a listing when a person or firm would spend money in the future. Business Dictionary explains it as an “estimate of the timing and amounts of cash inflows and outflows over a specific period”. 

In a business world that is very competitive, running out of cash can be very catastrophic to a firm, particularly small enterprises, and start-ups. 

Why? Simply because Cash Flow is what makes businesses live. Often, when firms run out of cash, insolvency sets in. If these companies cannot get loans to rejuvenate their operations, that is the sad end to the business. 

Firstly, it is essential to note that technology has transformed the role of the accountant. Accountants who limit themselves to traditional compliance are shortchanging themselves. 

The area of Cash Flow is one where many businesses are hugely suffering. In a recent survey taken by Xero, it was discovered that only about 48% of small business in the UK were cash Flow positive at any given time. 
Moreover, you do not need stats to tell you that agitation over Cash flow is a variable that is common among most business owners. 

Accountants can take advantage of the existing technology around. Before the current technological advancements, creating a cash flow forecast was boring, monotonous and time-consuming. And even after completion, the data accumulated could become outdated almost immediately. 

The key to offering cash flow advisory is AI. Yes, I mean Artificial Intelligence. Fluidly is a program that uses machine learning to do heavy data lifting for the accountant. Using this program, you can quickly provide actionable insights that would help you decide and advise your clients on what to do next.

The portfolio view of Fluidly would not only show you a real-time list of all your clients. It would also give you an overview of financial numbers to help you identify which of your clients have cash flow problems. 

Yeah, Credit Control. Having an excellent credit control system is essential to solving cash flow problems when they pop up. Fluidly helps with this by sending email reminders about new expenses that may rise and recommending apps that would speed up the payment process.