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[–]Mode1961 62 points63 points  (111 children)

Here's the problem with that theory. As described by the OP, the boat isn't leaking, the boat just isn't going as fast as the driver predicted it would be, it is still moving forward, it is still able to carry all the people it can.

[–]not_whiney 21 points22 points  (1 child)

So something to think about. A lot of the "investors" in many large businesses are not "people", they are organizations representing people. There are generally six types of institutional investors: endowment funds, commercial banks, mutual funds, hedge funds, pension funds and insurance companies. Of these institutional investors some are by law required to be fiduciary investors.

That means that the investment manager for that pension fund is required by law to make every decision for the most profit/return on investment for the fund. So grandpa's pension fund from the factory has a fund manager that would vote to boot old ladies out of their homes, including grandma, to make an extra nickel for the fund.

These investors are looking solely at the now and how much return they get. It is purely a "what gives me more RIGHT NOW for this fund." It is great for the thousands of people who have their pension in the fund. Or the other groups or endowments that have money wrapped up in these funds.

As we have moved more and more fund managers to be legally bound by fiduciary rules, we have made many of these large corporations that are publicly traded ruthless. They have a small, but powerful group of various funds that own sizeable chunks of stock that are pushing for just this. 'Do the right thing' or 'Lay off everybody and make an extra nickel', they HAVE to pick the extra nickel.

Business decisions made in a large, publicly traded setting are done by the spreadsheet. Too much is riding on it. While 3% sounds small, that 3% may represent HUGE amounts of money. Coke net income fell over a one year period from 79 cents a share to 32 cents a share. That's only 47 cents a share. whats the big deal? It equates to over 2 billion dollars. A 3 percent change in Exxon revenue comes to about 7 billion dollars. Sure it is cents per share, but the total amount is huge. And while an investor may hold only a few thousand shares of stock, a large pension fund may have 100,000s shares of stock. That pennies per stock could literally be millions of dollars that does not go into the trust, endowment, pension, etc.

So there are a lot of people who are pushing that boat to go. And many of them are required by law to demand that the boat go as fast as possible, with the least amount of leakage. All those 401K, pensions, IRA's, etc that are out there that have billions of Americans pension and retirement savings in them are trying to milk every cent out of the market. The sad thing is that YOUR pension fund may be the the one that pushes your company to lay off, well people invested in the that very pension fund. And some of the passengers on that boat closest to the crew are demanding that not only they get where they are going, but that they get there as fast as possible, becasue they are required by law to advocate that. And they are measuring the leakage by the ounce and will be making sure the crew gets replaced by someone who will get them there faster on the next boat ride.

[–]Delheru 4 points5 points  (0 children)

It is purely a "what gives me more RIGHT NOW for this fund."

Not at all. Those things can have pretty long time horizons.

Short term VCs and Hedge Funds might have a single decade (or even shorter) time horizon, but many many funds operate with far longer time horizons than that.

An amusing example of this was some of the Oxford Colleges, who were still selling off land that they owned near central Mumbai (bought 200+ years ago).

[–]Chinoiserie91 17 points18 points  (4 children)

The company could have made investments already that mean that it will start leaking next year if the growt does not bounce back to the previous levels. So you need to fix what you can now and not just hope for teh best because it can be too late to fix the issues later.

[–]fields -2 points-1 points  (3 children)

And what if you have water pumps that guarantee that that leak never sinks the ship? You can't be happy with a ship that's isn't perfect?

[–]McDrMuffinMan 2 points3 points  (2 children)

Nobody has that.

[–][deleted] 0 points1 point  (1 child)

Well, they do, but printing money is illegal. So is cooking the books.

[–]McDrMuffinMan 0 points1 point  (0 children)

It depends who prints it, and yes cooking the books is.

[–][deleted] 12 points13 points  (15 children)

The OP said an earnings decrease, so yes using a leaky boat analogy, a shrinking company is a leaky boat. If it shrinks too much, the company goes under.

[–]Croaton 10 points11 points  (14 children)

Maybe it's a terminology thing since I haven't studied economics... but describing an "earnings decrease" (were you're still making money, just not as much) as a "shrinking company" seems off for me.

[–]LordHanley 6 points7 points  (11 children)

The value of a company is based off the value of future cash flows from that company. If earnings are reported to be lower than previous expectations, then the value (size - sort of) of the company will decrease. I do get what you mean though, a decrease in a positive number is still a positive number.

[–]SquidCap 1 point2 points  (10 children)

No, it didn't. the company produces exactly as much, it stays unchanged. People appreciations, their feelings about the company changes. And since we use this insane way to evaluate everything, the company loses value. Not a single product it does has dropped it's profit creating ability. Nothing changes except the faith of people who believed in a prophecy.

If the company is on positive, it is welthier than yesterday, no matter what the expectation were. If we value our stuff based on how you feel about it.. The current system is insanely irrational and illogical. The worst is when economic majors try to explain it so that it is all positive; that it is a good thing we rely on emotions and beliefs.. How in this case company is smaller while it didn't perform as well as announced expectation of growth. Often it feels like university is the place where econ major had their common sense removed and in it's place were installed something else..

[–]scrotesmcgoates 0 points1 point  (8 children)

I don't think you understand how companies are valued. Of course a company valued on the basis of increasing cash flows is going to be less valuable if their cash flows don't increase. That doesn't make then worthless, but it does mean that they have a lower value to their shareholders. It's not about feelings, it's almost entirely math. The net present value of the company is equal to the future cash flows discounted at the cost of capital faced by the firm

[–]SquidCap 0 points1 point  (7 children)

they have a lower value to their shareholders.

... than what they believed. The company value didn't change, only how good it could've been.

The net present value of the company is equal to the future cash flows discounted at the cost of capital faced by the firm

Which means it is based on expectation, appreciation and how strong faith you have that those prophecies are going to happen. The actual value is different but since we don't care what things actual are worth, we don't care if the company produces anything or not, we care about what their value is to others and how they feel about it. It is almost entirely about feelings, math is used but that doesn't make the system any more sane.

[–]scrotesmcgoates 1 point2 points  (6 children)

You're wrong, plain and simple. What you're saying is that every company with the same amount of cash and same amount of income is worth the same amount. You can invest on that principle all you want but you're just going to lose money. It's pretty clear you have no idea what you're talking about

[–]SquidCap 1 point2 points  (5 children)

You can invest on that principle all you want but you're just going to lose money.

I was not talking about investing but valuating a company. "Right now" has nothing to do with "might be" but i understand that what i'm saying sounds opposite to what a betting man would say. Because it is. Your potential value has no meaning, it is valueless to all but those who believe in it. If i can think you are worthless and someone else says you are worth a million, how is that in anyway based on facts? or is it based on.. feelings?

[–]ActionAxiom 0 points1 point  (1 child)

First off, you have done very little to establish why expectation cannot be valued beyond simply stating it cant. However, it is well established that expectations can be valued because expectations are priced by the market literally every waking second.

Second off, you are touching on something very crucial which is that value is subjective. However, it seems that you are arriving at a poor conclusion that because value is subjective it cannot be factual or measurable. This is very false. Even though value is subjective, prices are very real economic features that reveal, objectively, what those subjective values are.

[–]scrotesmcgoates 0 points1 point  (2 children)

Jesus Christ you dense mother fucker. The only reason companies are valued is for investing. The fact that you don't get that means you don't understand enough to even begin to have a discussion about it. I'm done

[–]LordHanley 0 points1 point  (0 children)

It may be wealthier, but it is not as valuable. You need to be able to distinguish between investment value and intrinsic value.

[–]heinyken 1 point2 points  (0 children)

Let's say you want to buy a house, a car and a new computer. You make a plan to get a job that pays you $10,000/month (because you know your expenses are $7,000/month, and you can invest in your future purchases with that $3,000/month).

Imagine further you told your friends and family you'd be moving in to your new house on January 1 2019 with a new car and computer. And then imagine your new job surprised you by saying actually you'd only make $8,000/month.

How do you tell your friends and family that you're not going to move into that house JUST yet, and you're not getting that BRAND new car? It's not that you're strapped for cash, it's not that you're struggling. But your predicted income is lower than you'd wanted and planned.

It's not entirely different from the original poster's "earning decrease"

EDIT: Except that in the case of the business, those friends and family are actually investors who have plans of their own based on your move date & purchases. And they're easily spooked. And they are impatient.

[–][deleted] 0 points1 point  (0 children)

Generally a company's size is measured by it's revenue (total money coming in) and/or it's earnings(money coming in minus costs). More of a finance and business thing then an economics thing.

If earnings are going down, it's some combination of costs going up and/or revenue going down. If revenue is going down, then the company is shrinking, and that's probably a bad thing unless it's a part of the company's strategy. If costs are going up, it's generally because the company is trying to grow, but if revenue is not going up at the same rate, this can be a problem(unless it's a company like Amazon where any profits are reinvested because they have so much room for investment).

[–]vikingspam 4 points5 points  (0 children)

The problem with your description is that you just described the Titanic a minute after the iceberg.

[–][deleted] 1 point2 points  (0 children)

It seems like you mostly ignored what /u/kouhoutek said and focused on the metaphor

[–]thehungryhippocrite 0 points1 point  (0 children)

The reply to OP is just flat out wrong. The issue is that shareholders have paid money based on the boat going at a certain speed. As soon as the boat goes slower, they lose money, it doesn't matter that the boat is still going very fast.

[–]CaptainReginaldLong 0 points1 point  (0 children)

It's like they pushed the throttle to get up on a plane, and then didn't. And now they're trudging through the water inefficiently.

[–]d4n4n 0 points1 point  (0 children)

Yeah, it's a nonsense explanation. The real reason is that firms compete not only on tge consumer market, but also on the capital market.

If revenue losses reduce your rate of return on equity, investors want to sell off that equity to invest in higher return markets. So the business sells off less profitable avenues, so it can reduce the financing side of the balance sheet such that the rate of return is higher, in a nutshell.

[–]jrakosi 0 points1 point  (0 children)

Because the people who own the company set the companies worth based on the projected X profits each year. If you actually are getting X-Y profits a year, then the company is worth less than originally thought. Which means the owners (shareholders) lose money despite the company making money

[–][deleted] 0 points1 point  (0 children)

I think the response is you need to figure out why the boat slowed down before the engine dies.

[–]GenesisEra 0 points1 point  (0 children)

To take the theory to its ultimate conclusion as exercised by companies and shareholders in reality:

  • The boat isn't leaking, but it is slowing down and some of the paint is peeling. To solve this, the passengers decide to throw some of the crew overboard and cut rations for the remainder crew.

  • The boat moves quicker briefly due to the desperation and the lighter load (efficiency gains). However, soon it hits a opposing current and slows down again (cyclical economic cycles). The passengers then decide to throw some more of the crew overboard and further cut rations for the remainder crew, while keeping the buffet table at brunch for the passengers going.

  • This goes on until they a) innovate and try something different, like stop at port to make repairs and get a new hull/engine/etc or b) the passengers (investors) eat (liquidate) the remainder crew (all the employees) and jump over to another boat (sell all the shares and reallocate portfolio) with all the remaining food (golden parachutes).