Business Basics

Engineer:

ä solves problems

ä educated

ä designs and builds things

ä applies math and science

ä brings things to the public at a reasonable cost

ä knows how far to push cost savings

Entrepreneur (Modern Definition):

ä creates something new of value

ä devotes time and effort

ä assumes a manageable amount of risk, with theexpectation of growth

ä secures and allocates skills and resources

Inventor: does not build a company, merely sells patent rights

Small Business Owner: does not get growth, but has much lower risks

Salary-Substitute Firm (Subsistence Business): a small firm that afford their owner(s) a similar level of incometo what they’d earn in a conventional job

Lifestyle Firm: a firm that provide their owner(s) the opportunity to pursue a particular lifestyle and earn a livingwhile doing so

Entrepreneurial Firm: a firm that brings new products and services to market by creating and seizing opportunities

ä Characterized By:

• innovation

• growth

Revenue (Sales Revenue) (Sales) (The Top Line): the total amount of money collected from customers inexchange for goods and or services in a given period of time

ä includes accounts receivable

ä the size of a company is measured by its revenue

ä the growth of a company is measured by its change in revenue

Revenue Can Be In The Form of:

ä currency

ä check

ä credit card

ä PayPal

ä electronic transfer

ä wire transfer

ä purchase order

NOT Revenue:

ä loans

ä money from investors

ä money from selling stock

ä refunds for payments made

ä donations (from unicorns)

ä random money that isn’t from selling stuff

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ä Cash = currency + checking account balances + cash equivalents

ä every business keeps its cash in a bank account

• some businesses keep a small amount of currency and coins around to give change to customers

• cash is cash; it’s not earmarked; it doesn’t make sense to say money from here went there, only $xxcame from that and $xx went to this

Bootstrapping: the process of starting a company with essentially no investment or borrowing; best reserved forcompanies with large profit margins

ä donations almost always indicate that an organization is a nonprofit

Investing: selling stock to raise money in exchange for a percentage of ownership

Borrowing: raising money while retaining ownership with the promise to pay back the money plus interest over aspecified time frame

How to Buy Stuff:

ä pay cash

ä promise to pay cash soon (account receivable)

Sources of Cash:

ä investment - selling stock, etc

ä borrowing - loans, etc

ä operations - selling a product or service

A Company Needs Cash For:

ä wages

ä rent

ä raw materials

ä general utilities:

• power

• heat

• phone

• Internet

ä once a company runs out of cash, it is unable to pay for the above things and will end its operations

ä bankruptcy is a legal action, NOT merely running out of money

• chapter 11 bankruptcy is to try to reform the business and become profitable again, e.g. GM

• chapter 7 bankruptcy is to give some order to liquidation

• the CEO, founders, etc. generally don’t face any personal consequences in bankruptcy, their companyjust dies and VCs, and other investors simply made a bad investment and lose money

ä try to monetize a company to become profitable

Theoretically, A Company Does NOT Need To:

ä be profitable

ä grow

ä sell any products or services

ä advertise

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Profit: the net income of a company (presumably positive)

Loss: when net income < 0Expense: the sacrifice of resources to achieve a business purpose

ä the amount of a loan itself is NOT an expense, but the interest expense (interest) for the loan IS an expense

Payment: giving cash to another party

Account Receivable: the promise that payment will be made soon

Net Income (Bottom Line): the money made from revenue after subtracting the expenses

ä [net income] = [revenue]− [expenses]

ä EPS = [earnings per share] = [Normalized Net Income] =[net income]

[average number of shares over time period]

Deferred Wages (Postponed Wages): when employees are able and willing to work for postponed wages

Asset: a resource to be used in the future, rather than something used up like an expense; land, buildings, majorequipment, etc

ä assets are NOT expenses

Depreciation: the loss of value of an asset over time

ä depreciation IS an expense

ä typically depreciation is estimated to be 130 of the initial cost for a building

Production Volume: number of units made per year

Sales Volume: number of units sold per year

ä P = S×SP− (S×VC+FC) (profit)

• SP = Selling Price per unit VC = Variable Cost per unit FC = Fixed Cost (total)S = number of units Sold P = Profit for the period

• P = 0 at the breakeven point

• SBE =FC

SL−VC(number of units sold at the breakeven point)

Baseline Year: the first year of sales

ä s2 = (1− r2)s1 (rate of growth)

• s1 = year one sales s2 = year two sales r2 = year two rate of growth

ä [CAGR] = rg =

(Sn

S0

) 1yn−y0−1 (compound annual growth rate)

• multiple by 100 to get percent

• use net income for Sn and S0 and the corresponding years for yn and y0

Four Basic Kinds of Financial Statements:

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1. Balance Sheet (statement of financial position or condition): reports on a company’s assets, liabilities,and ownership equity at a given point in time

2. Income Statement (Profit and Loss Statement) (P&L): reports on a company’s income, expenses, andprofits over a period of time. Provides information on the operation of the enterprise. Includes sales and thevarious expenses incurred during the processing state

3. Statement of Retained Earnings: explains the changes in a company’s retained earnings over the reportingperiod

4. Statement of Cash Flows: reports on a company’s cash flow activities, particularly its operating, investingand financing activities

ä includes purchase and selling of assets

Start-Ups

Corporation: a legal entity chartered by the state government which is authorized to issue stock and conductbusiness in such a manner as described in the charter

ä Inc. or incorporated implies a corporation with stock

ä Ltd. or limited is the same as incorporated but used in different countries

ä a corporation has a certain number of shares it is authorized to issue and can keep issuing up to this limit

• you have to pay a fee per share for authorization and can always pay to authorize more later, so youdon’t need to ask for ∞ or similar

• there is NO ownership associated with stock that has been authorized but not yet issued

• the founders typically buy some of the stock initially and don’t sell it, instead they keep issuing morestock

• the founders don’t have to pay for their initial stock in the company, they just get it issued to themselves

In A Pre-IPO Business, Investors Can Sell Stock By:

ä selling to another investor (very unlikely)

ä selling to another company in an acquisition - most common

ä selling on a stock exchange in an Initial Public Offering (IPO)

Dilution: as more shares are sold to outside investors, each founder then owns less and less as a percentage ofthe corporation

Burn Rate: the expenses in a pre-revenue company

Staged Funding: an investor giving a startup company only enough money to operate for a year to year and a halfat a time

Round of Funding: an installment of staged funding

ä prevents too much money from being risked at any time

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ä ensures that the company stays on the right path (in the eyes of the investor)

ä typically, an investor wants to see some sort of liquidity event within 5 years of investing

ä how much is a lot of money? at least a million dollars, probably more

Down Money Round: a funding round where stock is sold for less per share than the last round

ä only preferred stock gets a new conversion price

ä screws over common stock holders such as the founders

Unvested Shares: shares that have no value at all and will vanish if the company is acquired or if the employeeleaves for another company

Cliff: a period to wait before vesting starts, but after the period, the time of the cliff counts towards vesting

ä [money raised] = [number of shares sold]× [value per share]

ä [shares outstanding; post money] = [shares outstanding; pre money]× [number of shares sold]

ä [ownership fraction] =[number of vested shares owned]

[total number of shares outstanding]

Pre-Money Valuation: the value of the business before the investor pumps any cash into the business

Post-Money Valuation: the sum of the pre-money valuation plus the total cash paid by the investor for more sharesof stock in the company

ä [post-money valuation] = [pre-money valuation]+ [money raised]

ä [pre-money value per share] =[pre-money value]

[pre-money number of shares outstanding]

ä [post-money value per share] =[post-money value]

[post-money number of shares outstanding]

ä [post money value per share] = [pre-money value per share]

Angel Investor: a semi/non-professional investor using their personal money; usually a really rich person

Venture Capitalist (VC): a professional investor using money from their firm

Common Stock: regular stock

ä founders and employees get common stock

ä most stock bought on stock exchanges are common stock

ä MUST give friends, family, and fools common stock

ä try to give angel investors common stock

Preferred Stock: stock with special provisions determined by a term sheet created in the process of being issued

ä angel investors may or may not demand preferred stock

ä venture capitalists will require preferred stock

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Dividend: a percent of amount invested similar to loan interest may be paid, usually reserved for preferred stock

ä only gets paid in liquidation, but accrues over time

Pari Passu: treating all preferred shareholders equally

Pro Rata: the option to or act of purchasing shares to maintain the same percentage of ownership

ä you have to pay for Pro Rata shares

Sideways Deal: a non-spectacular liquidation where the company is sold at a modest price

Participating Preferred Stock: a type of preferred stock where the holder gets their original investment backPLUS the amount from converting their shares to common; designed to protect investors in a sideways deal

Preferred Stock Converts to Common in the Event of:

ä initial public offering (IPO)

ä sale of the company

ä at the option of the holder

Liquidation: the sale of the company or substantially all of the company’s assets

Liquidation Preference:

1. Debtors

2. preferred shareholders

3. common shareholders

Structural Anti-Dilution: provisions to prevent the value of an investment of an investor from decreasing oversubsequent funding rounds

ä structural anti-dilution is always included in preferred stock

Redemption Rights: some predetermined terms where the company must repurchase the concerned stock aftera certain date if the shareholder wants to cash out

ä the company founders should try to avoid including redemption terms

ä if unavoidable, try to put the redemption date 5 to 7 years into the future and spread out the payments over2 to 3 years

ä redemption of preferred stock is rare because the company usually doesn’t have enough cash to pay themback

Right of First Refusal (Preemptive Rights): the right given to preferred shareholders to share in future offeringsto maintain their ownership percentage

Stock Split: if the share price is too high for an IPO, for example, you can issue enough shares to reduce the priceto the desired amount

Reverse Split: to raise the stock price, shares can be consolidated to increase their value

ä the whole point of an IPO is to raise as much money as possible and is why “good” underwriters like GoldmanSachs get lots of money to set up a good IPO

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ä [# of common shares] =[original money invested]

[conversion price](preferred to common shares conversion; simple case)

ä NCP = OCP×(

NOPIOP

)(full ratchet conversion to common shares)

• NCP = New Conversion Price OCP = Old Conversion PriceNOP = New Offering Price IOP = Inital Offering Price

ä NCP = OCP

(OB+

( MIOCP

)OB+SI

)(weighted average conversion to common shares)

• NCP = New Conversion Price OCP = Old Conversion PriceMI = Money Invested SI = number of Shares Issued in the new roundOB = total number of Outstanding shares, including common, Before this round

Investments

Good Investments:

ä good rate of return

ä market viability

ä liquidity

ä solid profit margin

ä low volatility

ä effecting positive change

ä good job creation

ä technology and innovation

ä the best measure of pre-revenue start-up health is the amount of cash on hand

Return: the amount earned when investing money

ä Fn = P0 (1+ r)n (total value of investment after n years)

• Fn = total value of investment after n years P0 = initial investmentr = annual rate of return n = number of years investment is held

ä [public valuation] = [# of shares]× [stock price]

private valuation is a value negotiated between the CEO and the investor(s):

ä portfolio fit

ä sales revenue (past year)

ä net income (past year +)

ä market share (probably last year)

ä growth rate (past few years)

ä last post money valuation

ä projected return on investment

• how much return

• time to liquidity

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ä value of physical property

ä value of intellectual property

• patents

• trade secrets

• brand name

• trademarks

• copyrights

ä net sales 5 years from now

Patents

ä Patents Must Be:

• useful (but not really)

• novel

• not previously produced

• not obvious to an expert in the field

ä patents last 20 years

• pharmaceutical companies often try to get extensions for 6−12 months with limited success

Statuary Bar: you have one year to patent something after public disclosure or you lose the right

ä keep a nice neat notebook and don’t erase, take out, or scribble over anything, just simply cross stuff out

ä really should make a prototype

ä you can’t patent something that someone else invented first

ä must use courts to defend patents

ä products sold can be reversed engineered

ä licensing a patent is probably the best option upon discovering someone infringing

ä suing for patent infringement is like the lottery, low chance of success and long process, but huge payoff ifon the off chance you win

• suing should be a last resort and you should realize you are seriously burning bridges by doing so

ä Joseph Swan SOLD light bulb patents to Thomas Edison

ä Antonio Meucci, NOT Alexander Graham Bell invented the telephone

Pricing

ä pricing is a type of information

ä enhanced price comparison keeps prices similar

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• can be easily compared today with the internet

• in the past prices were compared with newspapers, telephone, etc

ä similar or identical items create intense pricing between competing sellers

ä one of a kind or unique products are hard to price

ä TRUST may influence consumers’ choices in addition to prices

• trust/reliability is huge, you have to know you won’t get screwed

• warranty, return policy, shipping time factor into quality and are closely tied to trust and brand/image

ä it isn’t even a natural law that you must sell products for more than they cost to make

Branding

ä brands are an information signal

ä brands are an indicator of quality or lack there of

ä there may or may not be an actual difference between products but people will probably pay regardless

ä registered patents and trademarks protect brands under law

ä trademarks are free ™

ä registered trademarks require a small fee ®

Imperfect Information

Gresham’s Law (Lemon Problem): low quality goods drive high quality goods out of the market

ä it may be difficult or impossible to assess the quality of competing products

• lack of information encourages Gresham’s law

Entrepreneurial Opportunity Recognition

Kirznerian: equilibrating activity; includes securities trading

Schumpeterian: disequlibriating activity which requires new information, innovation, creation and is rare; includesentrepreneurial activity

ä Industries With Better Opportunities:

• closer ties to science

• more technological advances

• more patents

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ä Changes Represent Better Opportunities:

• political changes

• regulatory changes (either way)

• population growth

• immigration

• other random changes that could be good

Skills for Success:

ä intelligence

ä education

ä innovative

ä creative

ä risk takers that work to manage risk

ä development people are more likely to be en-trepreneurial than research people

ä don’t rely on only public information

ä get private information from your social networkand access to a wide range of diverse people

Good Opportunities:

ä create real value

ä large gross margin

ä large market

ä sales revenue now or soon

• not true in some industries like pharmaceuti-cals

ä price insensitivity

• avoid businesses where price is a key deci-sion factor because it will seriously constrainrevenue

Strategy

ä strategy originates from warfare

ä consult war manuals for business strategy

• “Art of War” , etc are good

ä Porter’s Five Forces are rather static

ä should be coupled with a Resource-Based Evaluation (RBV) to account for the resources a firm bring to anindustry

Switching Costs: any impediment to a customer’s changing of suppliers

ä learning/training costs

ä paperwork/time

ä incompatibilities with existing products and infrastructure

Andy Grove’s 10x Rule: due to switching costs, there must be order of magnitude improvements in costs, efficien-cies, and benefits to the customer (Andy Grove is the former CEO of Intel)

Porter’s Five Forces:

1. Power of Buyers:

Increases:

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ä concentration of buyers

ä customers could produce product themselves

ä product is not important to customer

ä customer knows how much the product costs to make

ä switching is cheap and easy

Decreases:

ä purchase decision moved away from price

ä cut out intermediaries (sell direct)

ä increase incentives

ä improve customer service

ä increase brand loyalty

2. Power of Suppliers:

Increases:

ä market is dominated by a few large suppliers

ä there are no substitutes for the particular input

ä the switching costs from one supplier to another are higher

ä the business is not important to the supplier (low volume)

ä threat of forward integration - vertically integrating - you have the materials, so just finish the product

Decreases:

ä buy the supplier

ä buy some stock in the supplier corporation

ä supply chain management

ä build knowledge of supplier costs and methods

3. Threat of New Entrants:

Increases:

ä low barriers to entry

ä patents expire

ä abundant necessary materials and resources such as smart engineers, etc

ä small initial investment and fixed costs

Decreases:

ä patents and IP

ä create economies of scale

ä tie up suppliers

ä tie up distributors

ä create a strong brand name

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ä increase switching costs

ä alliances with linked products/services

4. Threat of Substitute Products: your product either has substitutes or currently isn’t important (emergingtech, etc)

Increases:

ä low brand loyalty

ä weak customer relationships

ä low switching costs

ä price to performance ratios favor competition

ä market trends away from you

Decreases:

ä increase switching costs

ä customer surveys to learn preferences

ä enter substitute market yourself

ä accentuate differences and advantages over substitutes

5. Rivalry Among Firms in the Industry:

Increases:

ä large marketing campaigns

ä small profits

ä small profit margins

ä intense brand competition (mac vs pc, pepsi vs coke, etc)

ä multiple, comparably sized competitors

ä competitors have similar strategies

ä little product differentiation, so price competition becomes large

ä low market growth rates

ä barriers for exit are high

Decreases:

ä avoid price competition

ä communicate with competitors

ä focus on different market segments

ä reduce industry capacity

ä buy out competition

ä differentiate your product

Business Narratives

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Complete: completely describes entire process

ä go-to approach

Incomplete: doesn’t describe entire process

ä only good if the product isn’t completely developed, partners are responsible for certain portions, or some-thing NEEDS to be kept secret

Detail Level:

ä Overview: overview with all details omitted

• only acceptable if brevity is of key importance

ä Overview with Embellishments: overview with only key details of interest

• only acceptable for describing the product to a potential new hire, etc.

ä Detailed: describe business in great detail

• best approach

• make the most of your one chance to PROVE your business is a sound investment

• don’t hold anything back

• unsuccessful if lots of questions

• questions should only be of a clarifying nature

• some investors feel the need to ask questions just because and hopefully will have to resort to thingsalready answered

Tools:

ä Block Diagram:

• major task or group of tasks grouped into each block

• details not shown

• relatively clean and simple

• arrows show order

ä Flowchart:

• each node contains only one detail

• all details included

• large and complex

• can be color coded and or shape coded

ä Content:

• Customer Usage: entire cycle of product use by customer

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– purchase

– training or learning

– repairs or assistance

– disposal

– VALUE

• Manufacture and Distribution: how the product is made

– materials

– workmanship and manufacturing

– facilities and machines needed

– distribution

• Function: how the product works

– include all of the technical engineering details

– tell the complete story

– DO NOT DUMB DOWN

• Product Development:

– time and money needed to go from idea to sellable product

– specific, measurable milestones

– date and functions to be achieved or tasks completed

· fail to meet milestones and you’re fucked

· make the milestones too easy, and nobody will be interested

Marketing

ä who are the customers?

ä how do we appeal to them?

Market Segmentation: the process of studying an industry and determining the different potential target marketsin that industry

ä Proctor & Gamble - where marketing is done right

Niche Market: a place within a market segment that represents a narrow group of customers with similar interests

Position: how a firm is situated relative to its competitors; the part of a market or of a segment of the market thefirm is claiming as its own

ä focus on how your product benefits the target customers, NOT the features and real fact based engineerstyle benefits

ä people are STUPID, tell them how you benefit them

Brand: the set of attributes – positive or negative – that people associate with a company

ä cost based pricing is a bad idea

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The Four P’s of Marketing:

ä product

ä price

ä promotion

ä distribution (place)

Product Characteristics:

ä quality level

ä features

ä design

ä brand name

ä packaging

Value-Based Pricing: pricing based on what consumers are willing to pay

Promotion: activities a firm takes to communicate the merits of its product to its target market and persuadepeople to buy it

ä advertising

• raise customer awareness of product

• explain comparative benefits

• create associations between a product and a certain lifestyle

ä public relations

• press releases

• news conferences

• media coverage

• articles in industry press

• community involvement

Guerrilla Marketing: marketing activities that are non-traditional, grassroots, and captivating

SKU: Stock Keeping Unit

Early Adopters:

ä adventure/pioneer

ä advantages over others

ä productivity

ä rapidly obsolete

ä high price

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ä should avoid products missing vital features

ä should be able to see significant improvements

ä should wait for reviews

ä forced to upgrade

ä unreliable, doesn’t work well

Sales

Direct Sales: company sells directly to the consumer, who pays the retail price

Indirect Sales: company sells to a retailer, who pays the wholesale price; then the retailer sells to the consumerfor the retail price

ä direct sales allows better feedback and control over customer relations

Sales Milestones:

ä how many units

ä how much money per unit

ä when to be reached

Consequences of Missing Milestones:

ä not enough revenue to keep business going

ä investors will/might refuse to invest more

In Startups:

ä EVERYBODY does sales

ä not enough money to hire dedicated sales force

In High-Tech Sales:

ä sales person must understand the technology

• includes formal training

ä customer should understand technology

• specs

• demos

• WHITE PAPERS⇒ written by engineers

Selling to a Business:

ä have more money

ä genuine need for high tech products and services

ä selling to a GROUP of people

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Initiator: identify need for product/solution - start buying process

ä usually a lower level technical person - can’t make purchase themselves (authority)

Influencer: steer the decision to a particular product

ä pre-existing mindset is common

ä higher level/more experience

ä help or hurt you, get them on your side

Decider: have authority to make the purchase decision

ä typically executives

ä clueless with technology

ä limited time

ä few (maybe one) chance to impress so don’t screw upward

ä know who this person is

Purchaser: takes care of all of the details

ä delivery and installation

ä can shut down a sale with poor execution

User: lower level technical types that actually use the product

ä feedback is important, especially INITIAL/EARLY

ä do they need training, manuals, tech support, etc?

ä trial periods/single user turn into multiple users

Gatekeeper: prevent you (sales) from talking to customers

ä get through or go around

• what golf courses are for

• @cornell.edu etc, is better than @gmail.com, etc

Hunter: aggressive, not afraid of rejection, but don’t be an asshole

ä find and investigate NEW sales leads

ä get appointments with potential customers

ä deliver presentations

ä negotiate new business

Farmer: long term, repeat sales

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ä establish and nurture long-term relationships

ä provide expert advice

ä network within existing companies to find new leads

ä negotiate with existing companies to get more business

ä contact lists

Structure: online and/or brick and mortar stores

ä sales people get commission for less efficient physical store purchases

Skills: engineer vs not, competent vs smoothly

ä training - must be minimally trainable

Compensation: stock options are typically over a 5 year period, but sales is too short term, so they get commis-sions (without a cap)

ä also receive a salary

ä may unfortunately be the highest paid in the company (don’t tell the engineers)

Forecasting

ä y = a+bx (linear regression model)

• y = estimate of the dependent variable x = independent variable valuea = y-intercept b =slope of line

• a = y−bx (coefficient a of linear regression; y-intercept)

– in Excel, use the command =intercept()

• b =∑xiyi− (∑xi ∑yi)

n

∑x2i −

(∑xi)2

n

(coefficient b of linear regression; slope of line)

– in Excel, use the command =slope()

ä1f

d fdt

= b(1− f ) (Fisher-Pry model)

• 1f

d fdt

= the relative rate of adoption b = proportionality constant (1− f ) = the proportion of

the market still using the old technology

• f =1

1+ae−bt (Fisher-Pry model solution)

• ln(

f1− f

)=− lna+bt (Fisher-Pry model linear regression)

– − lna = intercept bt = slope

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–f

1− f=

1a

ebt ⇒ ln(

f1− f

)= ln

(1a

ebt)

(derive linear regression from Fisher-Pry solution)

1. plug data of adoption percentages ( f ) into ln(

f1− f

)to get new values f ∗

2. do a linear regression on the values (t, f ∗) to get slope b and intercept a

3. use the slope b and a year t to get a value of adoption percentage f from the equation f =1

1+ae−bt

Ethics

ä you are a trained professional with specialized knowledge and others depend on you to do what is right

ä Ask:

• who’s affected?

• what are the costs and benefits?

• what are the rules?

• can I foresee a future ethical problem?

ä sometimes people are afraid of a good design making a previous design look bad, even if it really was

ä media and all often blame bad things on ethics rather than failure

• New Orleans: Hurricane Katrina missed it

– federal government made levees failed

– simply shitty levees, don’t blame it on the weather/geography

– many other places build good levees that handle harsher conditions, even in the USA

• BP Offshore Drilling: engineering failure, not really ethics/greed issue

– ignored warning signs that more competent corporations avoid with excellent track records

ä Real Ethics Problems:

• product safety/reliability

• concealing data

• faking data

• misappropriation of proprietary information

• to be a whistleblower

Whistleblower: someone who in the event that management isn’t taking appropriate steps to deal with a seriousissue, contacts outside authorities such as a department of the state or federal government

ä being a whistleblower essentially guarantees that you will be fired and the company will do everything thatthey can to cover up the problem

ä you’re screwing yourself for the good of society at large because of an ethical obligation

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ä GM Pontiac too hot for electronics (1987−1988):

• 50PPM of CO is workplace maximum

• Pontiac had over 80PPM

• wasn’t illegal through loophole

• design of 1989 Grand Prix Turbo was outsourced to ASC/McLaren, so GM wasn’t really doing theengineering

• car sold for $30,000 each ($52,800 today)

• no standard or law being violated

• did have a floppy disk with data on it

ä Cornell is badass at automotive research⇒ door latches that stay closed in crash

ä Crystler used shitty rear hatch on minivan⇒ killed 37 people

• Cornell MBA Paul V. Sheridan heads safety team for 1993 minivan

• makes anonymous phone call to national bureau and got fired

• voluntary recall occurred

Ethics Philosophy

Levels of Proper Behavior:

1. Etiquette: depend on culture

ä good manners

ä dress code

ä hygiene

ä eating habits

ä drinking rules

2. Morals:

ä accepted standards of right and wrong

ä more serious than etiquette

ä vary from place to place

3. Ethics: inquiry into the moral judgments people make and the rules and principles upon which such judg-ments are based

Consequentialist: the rightness or wrongness of an act is determined by the act’s consequences

ä good results⇒ good action

ä bad results⇒ bad action

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ä outcome based⇒ what engineers care about

Ethical Egoism: what is right or what one ought to do or what is moral is to act in accordance with one’s ownlong-term self-interest

ä simple, flexible, helps you in a Hedonist fashion

ä doesn’t care about others

ä many things that would generally be considered bad are acceptable

Rational Egoism: an action is rational IF AND ONLY IF it maximizes one’s self-interest (although it is not neces-sarily moral)

Psychological Egoism: humans may be motivated by self interest, but may not necessarily be moral OR rational

Act Utilitarianism: an act is morally right if it maximizes the utility taking everyone affected into account

ä proposed by Jeremy Bentham (1748−1832)

ä considers everyone

ä flexible yet reasonable

ä may be difficult to quantify all benefits and costs to make meaningful comparisons

1. set out alternatives

2. calculate benefit/cost ratios for everyone affected by acts:[Benefits][Costs]

?> 1

3. choose alternative which maximizes total benefit/cost equation

Rule Utilitarianism: an act is moral if it is in conformity with a particular moral rule and the chosen rule maximizesutility over all alternative rules

ä proposed by John Stuart Mill (1806−1873)

ä predictable and easy to use

ä there are always exceptions, which defeats the purpose

ä must universalize whatever course of action that is recommended

ä some extreme actions allowed by Act Utilitarianism aren’t allowed when generalized

Non-Consequentialist: an act is right or wrong because of some factors independent of the act’s consequences;MOTIVES determine morality

Theologism: an act is right if it is the most consistent with God’s will; motives matter

ä solid set of rules

ä taken very serious by some

ä my be widely familiar depending on culture

ä different religions have different rules

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ä non-religious people left out

ä not easily applied to modern business and engineering

The Golden Rule: do unto others as you would have them do unto you

ä easy to apply

ä widely acknowledged and generally considered “fair”

ä doesn’t always give acceptable results

ä ambiguous when different status roles considered

ä swapping pirated software would be allowed

Kant’s Categorical Imperative: an act is morally right only if the maxim of the act is universilizable (can be adoptedby everyone)

1. state maxim (action & motive)

2. imagine a world in which everyone followed that maxim

3. look for resulting contradictions or irrationalities

4. if a contradiction or irrationality arises, then the maxim is not allowed

5. if no contradiction or irrationality, maxim is morally permissible

ä straightforward rules

ä easy and “fair”

ä considers everyone

ä basis of many policies

ä ZERO exceptions

ä lost if two rules contradict each other

Normative Relativism: an act in a particular society is right if a majority of people in that society think it is right

ä clear answers

ä likely to give bad results

ä taking a poll is dumb because people are dumb

Investing

Beta (β): a measure of the volatility of an investment

ä the market’s average is defined as β = 1

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ä if β < 1 then the investment is safer and will likely have lower returns than the market average

ä if β > 1 then the investment is riskier and will likely have higher returns than the market average

Certificate of Deposit (CD): give money to a bank for a specified period of time

ä more interest than a savings account

ä ties up money and large fees to pull out early

ä extremely safe

ä horrible returns

Money Market:

ä extremely safe and liquid

ä very low returns

ä often used by large institutions and government

ä specializes in debt securities that mature in less than one year

Mutual Fund: a professionally managed portfolio of stocks and bonds

ä simple and diverse without needing a large principle to invest

ä mutual funds returns are killed by fees and thus often a weak investment

ä there is no evidence that funds with a high expense ratio perform better than ones with lower fees

• favor funds with lower expense ratios

– 0.2% is really low

– 1.3−1.5% is typical

– 2% is really high

ä a load is a fee for buying or selling your funds

• don’t buy funds with loads

Bond (Debt): a loan to a company

ä like a CD, you lend your money for a specified period of time

ä there is a secondary market to sell bonds, but they should still be considered non-liquid

ä you receive the interest at the rate called the coupon every year

• broken up into two payments, one every 6 months

• typical coupons are 5−6%

ä junk bonds can carry a large risk, but most bonds are a safe investment

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Callable Bonds: a riskier variant where the company can pay you back sooner than planned and then get a newbond at a lower rate

ä often offer higher coupon rates

Zero-Coupon Bond (Strips): bonds where you don’t get coupon payments, but get all of the interest with theprinciple at the end

ä often sold at a significant discount

ä really bad if you want to sell early (which shouldn’t happen)

Stock (Equity): a share of ownership in a company

Buying on Margin: borrowing money from a broker to purchase stock

ä you have to pay interest on the loan

ä you can use this leverage to make more money, but also end up losing more than you invested

ä best for short term investments

ä you may be required to add more money to your account or sell at a loss

Investment Strategies

Ladders: good strategy for building a portfolio with balancing liquidity and long term gains

1. buy a short term investment (bond, CD, etc)

2. make progressively longer term investments of the same category

3. when the first investment matures, put it in an investment longer term than your current longest term one

4. as the other investments mature, put them in the same class and term investments as the first reinvestment

5. you will have an investment mature on a regular basis such as every year while reaping the investments oflong term investments

Barbells: good strategy for balancing short and long term investments

1. split money between buying several long term funds (≥ 10 years) and short term (< 2 years)

Bullets: good strategy for when you know you’ll need the money at a certain date such as a college fund, etc

1. make a long term investment that will mature at the date you will need the money for something like college,retirement, etc

2. in regular intervals make increasingly short term investments that will all mature at the same date that themoney will be needed

Short Selling: instead of the conventional buy low sell high approach to stocks,

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Five Basic Features of Market Design

1. information flows smoothly

2. people can be trusted to live up to their promises

3. competition is fostered

4. property rights are protected but not overprotected

5. side effects on third parties are curtailed

History of Capitalism

Financial Capitalism:

ä Leonardo Pisano Bigollo (AKA Fibonacci) realized Roman numerals suck

• from Pisa, Italy

• wrote Liber Abaci in 1202

– about arithmetic and the abacus

ä banking started in Italy

ä Florence ruled by Signoria, a group of 9 people

• 8 were heads of labor unions

Trading: buy and sell financial securities

ä need lots of money to invest and make serious money

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ä smart people make money off dumb people

English East India Company:

ä 225 men invested a total of $18,000,000

ä 4 ships

ä went to Java Island of Bantum, Indonesia

ä sanctioned by Queen Elizabeth I

ä Good to Sell:

• scarcity

• portable

• no substitutes

• for sale

• demand

ä Risk:

• piracy

• disease

• shipwreck

• unfavorable price/demand

ä Reduce Risk:

• don’t tie investments tovoyage

• sell stock on exchange

• government enforcedmonopoly

Industrial Revolution:

1. around 1780 James Watt made the first efficient, practical steam engine

ä patents for hydropower for looms and spinning mills ended

2. cotton gin was invented by a Yale graduate

3. Bessemer furnace allowed for the mass production of iron and steel

Capitalists Control Wage Costs:

ä low skill requirements

ä destroy unions

ä use advanced technology to reduce labor

ä child labor

ä housing as part of wage

Workers Improve Standard of Living:

ä long hours

ä unionize

ä improve skills

ä buy company

ä start own company (usually already rich)

ä England used wool (from sheep) to make clothing

Fulling: fuller’s earth (aluminum silicate) and water beat into the wool to clean and make tighter weaves

ä fulling mills using water power helped increase production

• 25 times more efficient than fulling by hand

ä firewood became scarce and thus expensive, so coal was mined for fuel and heating

ä in 1347−1350 30%−60% of Europe died due to the Bubonic plague

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• Professor Malcom Casad~~~~ died in 2009 from the Bubonic plague

• created a huge labor shortage

– wages went up and living standards increased

ä Martin Luther published 95 Theses in 1517

• 130 years reformation

ä Max Weber (1864−1920) faked shitloads of data

ä Protestant work ethic, Puritans developed capital

Good Things in Europe:

ä property rights - patents, land, etc

ä “no” slavery

ä limits on state power

ä mobility of merchants

ä church and state separation

ä limited state role in commerce

ä society respects commerce as a vector of upwardmobility

For Markets to Function:

ä information flows smoothly

ä competition fostered

ä property rights protected

ä people can be trusted to fulfill promises

ä side effects on third parties curtailed (don’t screwpeople over)

• pollution is a 3rd party issue

ä international differences in contract laws canmake business agreements difficult

ä non-delivery is a problem

Competition:

ä try harder

ä be different

ä lower prices

Market Transaction:

ä voluntary

ä either party can opt out

ä agrees to terms

Non-Markets:

ä house work

ä government work

ä inside firm work - accounttransfers, internal transfers,etc

ä intermediaries (middle men) are necessary but not major part

ä venture capitalists are important because:

• small group to go to (a few hundred firms) saves time

• expert and experienced, give advice

• large amounts of money pooled

ä PROBLEM: people can copy and free ride off another’s paying for expertise

ä if you refuse to pay for advice, everyone is worse off

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• examples: computers, interior design colors, golf balls gray when water logged

Futures: a contract to sell a product in the future at a price fixed today

ä good for agriculture

Dutch Auction: start price high and lower until everything is sold

ä many variations, but everyone pays the same rate

ä [shares recieved] =[# shares bid]

[# total shares bid]× [# shares to be issued] (Dutch auction; Pro Rata)

Ownership

ä asset owner has rights to any residual returns

ä shared ownership doesn’t work well

ä secure property rights are critical

ä creates motivating incentives to work hard and make things work well

ä large firms dominate on efficiency/optimization and economies of scale

• gives more negotiating power with suppliers

ä small firms are flexible, less bureaucratic, take risks, and innovate

ä free trade helps economies of scale and allows a few international corporations to dominate

ä Examples:

• semiconductor industry requires huge initial investments and thus favors economies of scale

• Ben & Jerry’s went from natural hippies to chemical laden mega corporation

• Scott Olson got froze out of roller blades

• Aptera founders ousted (3 wheel electric car)

• Apple clutches Steve Jobs

Property Rights

ä the state builds a lot of institutions

ä credit markets needed

ä procedures for initial ownership established

ä boundaries physically demarcated

ä judges, lawyers, etc must get things done quickly

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ä patents give legal monopoly so innovation occurs

• downside is it can slow stuff down

ä Napster - better or worse for the music industry

ä Grateful Dead - better off giving music away

ä Silicon Valley has culture of open relationships

• engineers move around and spread knowledge

ä Massachusetts is stricter and enforces post-employment covenants

Externalities

ä beyond monetary cost - time, pollution

ä quotas & regulations can help but are rarely ideal

ä must be enforceable to have meaningful affect

Niche Market: narrow part of a market

Creative Destruction: process where old products are replaced by new technology

ä reduce a patent to practice with detailed drawings, prototypes, etc

The Free Market is Better Than Planned Economies

ä markets gather and disperse information to steer prices better than top-down planning

ä lying is bad for the free market economy

ä restricting prices and screwing up supply/demand is bad for the free market economy

ä any exceptions must be made on non-economic grounds - moral, etc

ä good solutions allow you to continue operations and bad solutions make you stop, but the market decideswhat is good and bad, not reality/best product

State is Important For:

ä rule setting/referee

ä laws and antitrust

ä provide goods and services that markets would otherwise undersupply

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ä education

ä military

ä public services

ä infrastructure

ä create trust for elaborate exchanges

ä international trade regulations

ä welfare

ä healthcare

ä farm subsidies

ä currency/federal reserve

ä pure research funding

ä disaster/emergency relief coordination

ä Arrow-Debreu theory - “Existence of an Equilibrium for a Competitive Economy”

ä prices steer the economy

ä economy is coherently directed by the invisible hand

ä supply up⇒ price down⇒ supply balances

ä US citizens make less in engineering with Ph.D.

ä internationals make money in US with H1B1 visa rather than home country thanks to engineering Ph.D.

ä immigration doesn’t impact middle income American wages, only low and high skill level are compromised

ä immigrants have the most to gain from immigration

ä labor market for engineers is not free because big corporations lobby and prevent it because they don’t wantto pay

ä middle income will be OK, you’re screwed over though (anybody from a 4 year college)

ä engineers create value, entrepreneurship is a way to monetize

ä VCs don’t give out information, you need to be in the know and have an introduction to them

Things That Should Not Be Sold:

ä assassins

ä gun silencers

ä slaves

ä organs

ä endangered animals

ä U235

ä passports

ä forged currency

ä stock insider information

ä harmful drugs

ä shitty stuff

ä firm transactions are subject to hierarchical control rather than free market

ä most economic activity occurs within organizations

ä owners/board of directors monitor managers - i.e. CEO, etc.

ä market system provides checks and balances

ä corporate jets, retreats, etc are inefficient BS perks

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ä products must be good at the right price

ä cost < price

ä long term viability is important

ä people are stupid for Chevy Silverado pickup to be the best selling US car

ä financial markets withhold funding from corporations going in the wrong direction

ä securities ratings have become compromised of late

ä 1990 Clean Air Act created emissions allowances for SO2 to reduce acid rain and were a huge success

ä diesel fuel, unlike oil can be made without SO2 if you use natural gas, but then it contaminates the catalyticconverter

ä smoke plums contain H2O(g) , CO2, trace stuff in good plants

ä smoke plums contain H2O(g) , CO2, SO2 in crappy plants

ä in California electricity crisis, rather than high prices bringing themselves down, fixed retail prices led to superhigh prices

ä no clear winner in energy source problem

• coal - cheap, bad

• nuclear - scary

• natural gas - kinda clean

• wind/solar - good, but unliked and inefficient

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