Writing this blog has been really exciting and challenging. I have faltered on occasions in trying to keep up with a daily blog and I have settled on making sure there is at least something fresh twice a week. More than that is great and recent events have helped me write lots but I do hope that the New Year is actually less eventful.

There is a famous Chinese curse which most people think is a wish; “may you live in interesting times”. If anyone doubted that this was a curse, I think the events of 2008 have paid rest to those doubts. 2008 has seen Lehman Brothers, Woolworths, MFI, and Zoom airlines to name just a few companies go bankrupt and I do not think anyone could have predicted this (other than Woolworths) a year ago.

Of course it is sad and the cost to those thousands of dedicated staff who have given their working lives to these businesses is immeasurable. Schumpeter, a famous economist wrote about the ability of the market to engage in “creative destruction”. His argument was that capitalism has a built in ability to destroy lame companies and from the ashes arises new opportunities and new renewed strength.

There is a Darwinian sense to this. It is not about survival of the fittest, but survival of those that are most readily able to adapt to changes in the environment. On many occasions I have stated that it is this ability to adapt to change that is the key to business success. That is why most companies need to change management at different phases of growth. Each phase can call for different skill sets and experience.

Anyway, back to 2008. I hope it has been an exciting year for you. The highlight for me was launching this blog and launching and co-founding a fund management business. I received a cheque for £79 this week from Google and it was the first bit of money I have obtained from the Blog. So a big thanks to all you readers – and for clicking on those Google ads!

From my limited experience the biggest joy of running an enterprise is when you get the first cheque. It is a sign of validation of your project. When someone values your efforts enough to pay you for them – it is a great feeling!

May I once again, thank you for your support over 2008 and wish you the very best of luck for 2009. I have a feeling the next year is going to be a great year for new opportunities. Only the brave will be starting up – and the money is still out there!

In the midst of the financial meltdown, we were able to raise £11m – for the right team and business the money will always be out there.

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One of the factors for rapidly rising inflation in the earlier part of the year was the rise in the price of oil. As a large component of fertilizers is oil, this also then fed through into increases in the price of food. It is amazing to recall how much circumstances have changed in the last six months. We were really worried about stagflation rather than deflation as we face now. Given the importance of the price of oil, where next?

Oil peaked at $147 a barrel in July. It is now around the $45 a barrel range. This is a drop of two thirds. This will ensure substantially lower inflation over the next few months. There is no doubt that the ‘correction’ in the price of oil has been vey sharp, if indeed you could describe it as a correction.

Many would argue, including Tim Guinness (an energy fund manager, who is a bit of an expert in these matters) that at $147 the price of oil had risen too far and too fast. He thought it would correct itself to trade at the $70 to $80 range and then move upwards gradually. In the long term, I remain convinced that the price of oil has to rise substantially. Oil is running out and demand is increasing.

In the short term though, I would expect the price of oil to remain below $50. Politics plays a big role in this. These thoughts are based on my own analysis – and no doubt experts who are more knowledgeable than me will have better informed views.

As one of the major oil producers, Saudi Arabia has a major influence on the volume of oil produced and hence the price. It is of course easy to assume that the Saudi interests are best served by having as high an oil price as possible. That I think misses the wider point. The marginal cost of a barrel of Saudi oil is around $17. For Canada at the other extreme, it is around $62 a barrel.

The Saudi budget balances when the price of oil is around the $30 range. Saudi Arabia is overwhelming Sunni and they have long been worried by the Iranian Shiite regime. The Iranian sphere of influence has gradually been spreading. The Saudis are worried about the influence Iran is having in Iraq and the success of their proxy Hizbollah in the Lebanon. The Iranian populist (bad use of the phrase – I would have preferred the word demonic) president is popular with the poorer classes in Iran.

The Iranian budget needs the price of oil to be around $70 for all of the planned social spending to be carried out. It is now more important to them to have a high oil price to combat the effects on sanctions brought on by their pursuit of nuclear weapons.

Elections are coming up in Iran early next year and there is every chance that the reformers could win under the former President Khameni who is being nudged out of retirement. A low oil price would hinder the chances of President Ahmedinijad of being re-elected. It is my view that the Saudis would be pleased to see a regime change in Iran. A low (ish) oil price may help them achieve that objective.

I would expect the price of oil to stay low until after the Iranian elections and then rise if Khameni (he has not yet declared himself as a candidate) or another reformer was to win the Presidency.

I also fear that if Nethanyu wins the election in Israel and the current regime is re-elected in Iran, Israel will order pre-emptive strikes against Iranian nuclear sites (as they did against Iraq in the 1980s).

As investors or entrepreneurs, you need to prepare for these scenarios and realize how these events may have an impact on your business.

Let us hope that the second scenario does not come to pass.

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Part 2!

In my last business angel blog, I wrote about the danger of deflation and how it links in with interest rates. The pressing issue for governments and for businesses at the moment is to get the economy spending again.

The struggle businesses are facing is very real. Many of the companies I have invested in are in a dire position and I fear that sadly some of them will not survive. What we need is a dose of inflation to get people to get buying again.

One of the effects of bringing down interest rates is that your currency will tend to weaken at the same time as well. An interest rate attached to a currency tells you as an investor what rate of return you will get for holding deposits in that currency. Assuming that you view the risks attached to certain group of countries as the same (big assumption) you will no doubt invest in the currency that gives you the best return.

As interest rates drop in the UK for example, it means that international investors may decide to sell their holdings of the pound and hold the dollar instead or the Euro where they may get a better rate of interest. As with most things, the value of a floating currency (most developed economies have floating currencies – China is a strange anomaly in that the currency there is ‘pegged’ which I always think is a euphemism for fixed!) will rise or fall depending on demand and supply.

The pound has dropped significantly in value over the last few months. Just before I went to the US it was around the $2 mark – now it is around $1.44. One of the reasons for the fall is that interest rates in the UK were expected to fall rapidly – the market tends to be efficient in predicting which way things will go. And indeed the return an international investor will get from holding sterling has dropped from 5% in October to 2% now – a very large drop.

A falling currency makes imports more expensive and exports cheaper. Foreign holidays will be less attractive although with a bit of luck the UK will attract a lot more tourists especially from Europe and the USA. Welcome!

This could give the country a much needed export boost. Sadly, the markets we would be exporting to (Europe is our biggest trading block) are experiencing sharp slowdowns of their own. The fall in currency may allow us to keep export volumes constant which given the conditions would be a great result.

The other ‘hidden cost’ of a falling currency is that it increases inflation. Over the last five or six years, the UK has benefited from very low inflation for a variety of reasons. One of them was the strong currency which made imports a lot cheaper. Given the threat of deflation at the moment, imported inflation may turn out to be a good thing!

What does all of this mean for the business community?

1. Because of low interest rates (I expect them to bottom out at 0.75% by the end of 2009) many capital projects will become viable. If you have a capital project that will generate revenues two to three years out – it is a great time to get going (if you can get the funding)
2. Because of the low value of the pound, export markets could be more promising than they have been of late. Look to export to markets which are still experiencing growth (India and Brazil look good)
3. Manage your working capital more tightly. If that means factoring – do it. Low interest rates are a great opportunity. You should not be in business if you cannot generate a return of at least 10% (or five times the current base rate!). You might be better off agreeing to pay more to your suppliers – but with extended credit terms.
4. Manager your stock. It can be the biggest cash-killer for a business. A business I am involved in sells goods at trade shows. Last week I was able to get stock on a sale or return basis. Deals are there to be done.
5. Try to get a pot of government money! They are spending big at the moment and try and get a piece of that if you can

As always, I hope this helps

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Back After  A Break

Regular readers of business angel blog will realise that I have gone from writing a blog a day to about three in the last 10 days. I have been taking my own advice and have given myself a well deserved break in Egypt over the last week.

It was very relaxing and I spent an average of about three hours a day in the sea looking at the most marvellous coral and sea life. Wonderful and well recommended.

Since I have got back, events have been a little bit hectic to say the least and I am in the process of launching a new business which will go to market on the 2nd of February – so my apologies for not writing more regular posts and I hope that you bear with me as I write with perhaps less frequency than I have done in the past.

I would rather stick to the quality of the blogs than to quickly churn out lots of blogs for the sake of sticking to a daily post. I hope this is something you agree with.

I am also happy to bring to your attention a recent comment that has just been posted on this blog about my blog explaining WACC. As you can see the contributor feels that I am wrong. I am happy to defend my argument that by increasing the debt level in a business, you can bring down the WACC of a company and therefore increase the profits earned.

I do feel the reader takes an unnecessarily harsh tone. I do like robust debate but lets keep out the making someone feel stupid tone or advise people to go back to school. The purpose of business angel blog is to hopefully illuminate and explain some of the terminology and concepts which are helpful in running a business. The group’s knowledge will always be better and more diverse than the knowledge that I have as an individual.

Therefore please do keep your coming and if I am wrong about something – please forgive me and put me right. The only thing I would ask is that you do so in a tone that is not disrespectful.

The reader is right that as your debt level increases the cost of your equity may increase (although this is actually only true when your debt level goes beyond a certain point). You would not expect a higher return investing in a business which has gone from 10% debt to 30% debt, but you would if the business went from 70% debt to 90% debt. But the critical point the reader has missed is that the flip side of increasing cost is increasing return to the holder of the equity.

If I am the holder of private equity in a business and the debt increases and therefore the cost of my equity increases – that means therefore that my return has increased.

Thank you!

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There has been a lot of sharp and vicious criticism of traders who have been engaged in short selling and I do feel that some of this is unmerited. I would like to use the blog today to stand up for an activity that every one seems to be attacking at the moment.

To go short in a trade means that you have sold shares or commodities that you do not have as you believe they will go down in price. Once they have gone down in price (if they do) you buy them back and hence make a profit. Going long is the opposite; that is you buy shares in something in the expectation that they will go up and then sell them if and when they do go up.

Shorting is very risky and there are two types of shorting. One is to go naked. That means that you sell shares/ assets that you do not have. This is very dangerous as you could be left with huge losses. The other short technique which is more common is to be covered. In this scenario, you would borrow the asset from say a pension fund as cover, sell the shares and then return the shares to the borrower having bought them back you hope for a lower price and hence having made a profit.

The reason why naked is much more risky is that you simply have to come up with the asset you have sold (unless you have an appetite for prison food!). With a covered short – you may be able to negotiate to carry on ‘borrowing’ the stock from the lender.

Hedge funds have in particular been very active in going short on shares recently. Especially on banking shares and so they have been accused of creating alarm and fear as the shares dropped massively in value (HBOS lost 60% in one day)

I don’t buy this for one second. Why is it only OK to profit from things going up? These smart operators did their homework. They realised that the business model for many of these banks were fatally flawed and criticising them is in my mind shooting the messenger. These banks were willing to adopt unhealthy level of risks themselves and yet were squealing when others used risk against them!

These speculators were prepared to take high levels of risks themselves and had things gone wrong – would not have asked the tax payer to bail them out unlike the poor banks that are now being saved by the state. I never thought I would see the day where George W Bush would be preaching to the democrats on the need for government intervention to save the financial system!

Personally, I find the whole thing dull and boring. I like to invest in tangible businesses and feel that wealth has been produced from my activity (as opposed to just money – which is merely a store of wealth). If people wish to indulge in high risk speculation – let them is my motto.

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Greetings from New York

I arrived in New York last night. I so love this place - it really is so full of energy and colour. I met some people for Dinner last night and was walking around Broadway at around 10pm. The thing that really struck me was how many languages I heard in just 10 minutes.

Being the child of immigrants to the United Kingdom, and believing in free markets, I have always held the view that the freedom of movement of labour brings large economic gains.

The US unlike any other country has managed to become a terrific melting pot and an example to many about how integration can work. Within three weeks of this Blog, the incumbent of the White House could be black. The child of a Kenyan farmer (he never knew his father - like Bill Clinton) whose family survived on food stamps and experienced real poverty (again like Bill Clinton).

This is where the US is so different from the UK and I suspect most of Europe. 1992 was the first election in the UK where none of the leaders of the political parties went to Oxford or Cambridge University - almost half of all MP’s went to the same elite private school (In the UK we have a perverse way of describing elite private schools as public schools).

Where is the next European Obama going to come from? Forget Politics, the US has a great track record of giving access to minorities to ‘elitist’ sports. Tiger Woods and the Williams sisters stand out as shining examples.

My point is that the US is living proof that talent exists everywhere and competition is healthy. I think there is a lot wrong with the US - the notable problems being the gun culture (although per capita the Swiss have more guns than the US) and the complex health care situation that leaves tens of millions of working Americans with no health cover.

However, I do believe that competition is healthy providing there is a minimum safety net for individuals. Many Entrepreneurs are that because they are unemployable! (they would admit that themselves). As a society, we must do what we can to ensure people have opportunities. This is the one thing that Americans seem to excel at.

I am in Canada later this week to talk about the EIS scheme and to try and encourage the government there to adopt a similar scheme. I do think it is economically the right thing to do to encourage Angel investing. I also believe it is morally the right thing.

We have a lot to teach the US but we have a lot to learn from the US as well.

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I was quick to condemn Gordon Brown, the British Prime Minister over his handling of the credit crunch crisis in a recent business angel blog. I argued that the one thing businesses crave is certainty. I must say a well done to the British Authorities for their swift action this week.They have identified the root cause of the problem with the credit crunch in Britain, which is that the banks have stopped trusting each other in terms of making loans available to each other. Please have a look at one of the very first blogs I wrote - the credit crunch explained.

I am particularly pleased that Britain managed to achieve cross party support for the measures taken rather than the very divisive nature of the $700bn bail-out in the US last week. I think it is worth looking at the British solution and compare it to the US solution and hopefully I can explain why I am positive about the British solution.

On both sides of the Atlantic, Banks are sitting on assets which are worthless. These are so called ‘toxic’ assets. The banks are in a terrible mess because they cannot borrow money as their assets are worthless. The US bail-out involves the US taxpayer ‘buying’ these assets off the banks. The idea is that this will then enable the banks to cleanse their balance sheets and get going again. I think this is a very bad deal for the US tax payer. They have effectively been asked to buy ‘crap’. Hopefully, the money will get paid back to the taxpayer at a good interest rate.

The UK solution offers two key things. Firstly, rather than offering to buy specific assets from banks which are worthless - the UK government will be buying shares in banks at a hefty discount. This gives us (the taxpayer) a potential upside if the banks do recover (which I think they will). More importantly, what has really impressed me has been the solution which drives at the heart of the problem.

The UK Treasury has said that they will guarantee moneys lend between banks up to £250bn. This is a bold step and imaginative. It should see the money markets opening up and banks lending to each other again. We will find out very quickly if it has worked once we look at the lending spread. That is the difference between the interest base rate (which went down by 0.5% as well) and the rate at which banks will lend to each other. This rate has traditionally been wafer thin at about 0.15% but has recently been as high as 6%.

In life it is very easy to be critical. I think though that if you are going to criticize - you should also be generous with your praise. I think the government (helped by the opposition parties as well I must add) has done well.

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Adam Smith (1723-1790)

I have always been curious and fascinated by Darwin and the theory of evolution. Whilst, not universally accepted as an explanation of where man came from, it has always been the most plausible explanation for me. I feel that as nations, we have evolved distinct patterns of behaviour and taste that have given certain nations an advantage in certain business sectors.

The theory of comparative advantage in Economics (espoused by Adam Smith) holds that if each country simply focuses on what it is best at producing, the whole world will be a better place. This is a much loved theory by those of us who believe globalization to be a good thing (which I think it is!). However, if this theory was to have been put to practice by the whole world, the Japanese would still only be selling rice and silk to the rest of the world as those were the only industries they had a comparative advantage in after the Second World War.

However, with the help of central government direction and massive investment, the Japanese (and other far eastern countries following their example), have developed a population with a real passion for electronic gadgets. It is curious how in Britain we look to the East for our technology and the West for our social, political and cultural influences. The fact that the local population are always on the look out for new gadgets and technology allows Japanese companies to innovate and experiment and maintain their lead as they know the local population will purchase the results of this innovation.

The Italians, who have long been considered ultra fashionable, have for the same reason developed the worlds biggest fashion houses. Having a local discernible consumer base helps these companies try out new fashions knowing that if they succeed in Italy, they are likely to succeed in the rest of the world. And if any of you doubt this proposition, I suggest you take a trip to Milan to see this for real.

Because of the empire, the British have had considerable experience in exporting capital which is one of the reasons why London has developed such a sophisticated financial centre and leads the world in services around capital export such as shipping and insurance.

Finally, the fact that there is no speed limit in Germany, explains, why they have been able to develop such powerful automobile companies. The consumer in Germany will value speed in a car as they will be able to put this technology to good use. In theory, why would anyone in the UK need a car that can do more than 70 mph? (The maximum speed limit)

If you remember that great film, Cool Runnings, you will know that the central joke was that a team from the Caribbean would take part in a winter sport! In the same sense, when you are looking at starting or growing a business, you would do well to explore countries or cultures where your product may have a latent advantage.

I invested in a start up called ICUE, ( www.icue.co.uk ) which allows you to download books on to your mobile phone. It seemed like a risky business proposition, but what persuaded me was seeing the market that existed for this type of service in Japan.

My advice from all of this is to get you to look at markets where your product is most likely to already have evolved or is cutting edge. If you are in renewable energy - find out what is happening in California. If you are developing a fast food proposition, make a trip to New York. If you are starting a new fashion label, see what people are doing in Milan.

I hope this advice proves useful.

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Given the massive turmoil in the markets over the last few weeks (and days), I have been amazed at how many people have recently asked me what if any, impact the event of the last few weeks will have on entrepreneurs. Here is my humble opinion.

One of the options I studied when I was reading Economics at the University of Leeds was The British Economy in the 1930s. At the time, it simply felt like one of the easiest subjects to read, but I remember some lessons from that course which is sharply relevant to today’s economic circumstances.

The 1930s started with a bang after the Wall Street Crash of 1929. The world was thrown into economic chaos and this gave birth to the scourge of Fascism and Nazism across Europe. What was interesting about Britain in the 1930s was how there were two economies in operation; the real economy and the financial economy. The real economy actually performed very well during the 1930s and we are at the moment witnessing what I would call a decoupling of the real and financial economy again.

I am bullish about the future. I believe that this current crisis has been more severe and quicker than any of us could have anticipated. However, unlike other economic downturns in the past, I think that we will come out of this one quickly and robustly. This is a great time to start a business, but you have to be careful (as always).

The price of oil has come down sharply in the last two months from $147 a barrel to around $92. The Olympics are over and Chinese factories are producing output at full capacity again. House Prices around the world are coming down sharply and as a result people feel ‘poorer’ and less inclined to spend money on discretionary items. These three factors combined will have a big deflationary effect, which will mean that Central Banks around the world will soon be able to cut interest rates. This will help businesses and consumers alike and I think will help get the economy moving again.

There is also ample evidence that people are spending money on well placed products. Retailers such as Greggs (a mass-market fresh bakery chain) and Thorntons (a middle-market chocolate retailer) are doing very well at the moment. Surprisingly, holiday bookings in the UK are also doing very well at the moment, especially holidays which cost more than £800 ($1500). So the lesson here is that if you have a differentiated offering, you will get the consumers. Know your market and speak to them clearly.

Now is a great time to start a business if you are realistic and start small. If you look at any business cycle, most of the great businesses to emerge have always started when the conditions appear to be adverse! In tomorrow’s  business angel blog, I will give some tips on managing a business through the current turmoil.

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One of my favourite modules on my MBA course was Financial Engineering. A more accurate name for this module would have been ‘making profits from thin air’. I am convinced that employees from Enron were required to excel on this course! One of the great techniques I learnt about was boot strapping!

For a variety of reasons, different businesses often get rated on different multiples. A mature business with good management which is listed may for example be trading on a multiple of ten of annual profits. A new entrant which is up and coming on the other hand may have a multiple of twenty (as the growth prospects are better). Bootstrapping occurs when a company with a higher multiple takes over a company with a lower multiple and benefits from the entire new company getting re-rated with the higher multiple.

Company A makes profits of £1m and is rated at 10x profits and therefore has a valuation of £10m.

Company B makes a profit of £0.5m but has a multiple of 20x profits and therefore also has a valuation of £10m.

Both companies are worth £10m each and you would therefore think that if they were merged (ignoring any cost savings and other synergies etc) the new company would be worth £20m.

But if company B was to buy company A, the new company may get rated on the same multiple as company B before the merger. Therefore the new company B will be rated at 20x profits of £1.5m which is £30m.

Bootstrapping has thus ‘created’ £10m of additional value simply through re-rating the prospects. Some of you will no doubt argue that I have simplified this very complicated area. Of course, it is a bit more complicated than this, but the end result is the same.

In the 1980s companies like Hanson trust were able to build themselves into huge empires by acquiring companies which had lowly rated earnings, but then apply a higher multiple. This made Hanson shares expensive - which allowed them to continue to buy other companies. Tomkins also did the same thing before it suffered a severe bout of indigestion having bought RHM (incidentally, my first employer). RHM was simply too big for them to manage effectively.

Start ups are often valued at a multiple of turnover. Hence many start ups do try to buy other companies with turnover. This is especially true in cases where you can buy a company for cheap because it has run into trouble.

This is a brave strategy. The key thing to bear in mind is management ‘bandwidth’ Many companies, especially start ups simply do not have the room to manage another business.

Given the climate we are in though. I would not be surprised if someone did come along to buy many businesses on the cheap with a view to bolting them all on to get a higher multiple.

You heard it here first!

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