What if you change your mind halfway through a negotiation?
Inconsistent decision making sometimes leads to a crummy result. Here’s a thought-provoking, quantifiable example from real life.
Two of us were preparing to drive from Boston to New York City. We both wanted to go there, and if we didn’t drive together we would have gone separately. We could take his car, a mid-size sedan that gets so-so mileage, or mine, a compact sedan that gets good mileage.
There’s this system we use to determine who takes on the burden of driving without switching up, without putting a driver in an unfamiliar car. (I have to explain it quickly here with a single paragraph and a table, and then I can give you today’s story.) One person drives the whole way, and the other pays a set rate per mile. Any gas, tolls, or tickets paid have to be covered by that set rate. The payer pays on only half the miles, because if we weren’t doing this complicated auction we’d be splitting costs. This also prevents the suboptimal result that we don’t carpool. The table below shows a 100 mile trip, where Person A will drive. His car will incur costs of $50.
Person B pays A half the costs at $0.60/mi, or $30. Person A’s “hassle premium” is therefore $5 ($5 saved over a 50-50 split of costs, where each pays $25).
Whatever profit may be left over for the driver is compensation for their labor. If the rate doesn’t cover half of the baseline expenses ($gas/mile plus depreciation) then the driver is paying more than half and doing all the work besides. So there’s a floor below which a potential driver shouldn’t bid.
Here’s how it worked last time:
He said, “I’ll drive for half the costs at 80 cents per mile.”
That meant, if I agreed, then he’d do all the driving and I’d pay him 80 cents per mile, times all the miles there and back, divided by two (like the table above).
I generally don’t choose to drive in New York if someone else will do it, but I didn’t want to pay 80 cents per mile to get there. So I said, “78 cents.” (There’s a rule that you can only bid in increments of two cents.) I add, “Remember that your car has GPS in case we get lost.” What I’m doing here is bidding his price down while encouraging him to bid again. He could accept my bid, in which case I’d be stuck with driving. But if he wants GPS, he’ll bid lower.
It works. He wants GPS for the drive, so he says, “76 cents.” I’ve saved myself four cents per mile.
I think the price is still too high, though, so I say, “74. Remember your car also has an audio input, so we can listen to podcasts.”
He says, “72.”
We continue like this for a bit. I’m successful at driving down the price of his driving to 64 cents per mile. Then suddenly I think to myself that maybe driving isn’t so bad, and I could use the lunch money. So I change my mind and the kinds of things I’m saying.
I say, “You know, it’s a bit of a hassle to drive around in the city. Sometimes drivers really cut you off. I’ll drive for 62.” Now I’m sincere.
He sees the change that has come over me and knows that I’m bidding now because I actually want to drive, not because I want to lower the price of his driving. And he knows that my floor is lower than his. In this situation, he can bid us all the way down to his floor and, if I really want to drive, the auction will stop when I bid just below his floor and he accepts.
This is just what happened. It was facilitated by more unhelpful commentary from me, in which I reminded him how awful it would be for him to drive. We settled at my driving for half the costs at 48 cents per mile.
The last time we held an auction to New York, the driver didn’t say anything manipulative to let on his true intentions and got $0.58/mile, over 20% more than what I had just won.
So The Moral Is
Before you enter a negotiation, know what you’re aiming for. And don’t try to game it, because in some circumstances, it just drives your price to the floor.
Financial Figuring for Landlords: What’s the Most Important Thing In Rental Real Estate?
People usually say there are three important things: “Location, location, location!” But in rental real estate, it’s mostly just price.
The Economics of Real Estate
In any decision to purchase — any decision to invest — you always look at “what you get and when you get it” vs. “what you pay.” But there are a few things you should keep in mind about real estate as an investment class, regardless of the rents you get.
The majority of costs for a rental property are related to the property as an asset. They’re things that even brilliant management can do very little about once the property has been purchased. They all scale with purchase price:
- interest
- real estate taxes
- insurance premiums
- base depreciation
Let’s take a typical property as an example. The purchase price was $250,000. Twenty percent was put down at time of sale, so the interest payment at 4% is about $8,000/year, or $667/mo. Real estate taxes might be, say, as high as 2% of asset value per year, or $417/mo. Insurance for replacement value might run you, say, $170/mo. Base depreciation as a residential property, per the 2012 IRS tables, might be $5,000/yr, or another $417/mo.
Now here you might object, saying that depreciation is not cash out the door, so it shouldn’t count. But it does represent a real long-term expense, namely, what you’ll need to keep putting into the place to keep it from falling apart. Pricier properties generally need bigger budgets.
Add up all those expenses and you find that $1,671/mo of expenses have nothing to do with how well you manage the building as a rental property. They’re just tied to the purchase price.
So you can see that if you buy the wrong property, a management strategy to reduce utility costs, avoid lawsuits, and get the best tenants will matter comparatively little at the beginning. It can take long time for this cost avoidance to show itself on an income statement.
The moral is “shop around before you buy.”
Where does all your time go?
It’s winter in Boston and it’s dark by 5p. When it’s night already and you didn’t get much done, you can feel like the day just escaped you. Here’s a trick to keep a sharper look-out on your time: keep a time log. All you need is a small, reporter-style notebook and a pen. Here’s how it works.
Your First Time Log
Just for a couple days, every time you switch from one activity to another, jot down the time and a short description of what you were doing. Then, when you have a couple of days’ worth of data, look at where you spent your time.
Oftentimes, the simple act of paying attention to what you’re doing is enough to help you use your time more effectively. But sometimes when you look back over a day’s work, you’ll see surprising things. When I first tried this, I was amazed at how much time went to helping coworkers figure things out. I had previously thought of these drop-in tasks as interruptions, but when I realized how much time it took, and how important it was, I started thinking about it as my major job responsibility.
That’s a good example of where time tracking can eliminate a stressful perception about “wasted time” that really isn’t. It can also shed light on the timesinks. Email, for instance, is crazy-inefficient compared to high-bandwidth phone calls or face-to-face meetings. If you find yourself spending a long time in a general bucket, like “email” or “errands,” try to rephrase it in terms of what you’re actually accomplishing. If the email is related to that new product launch, then that time spent emailing counts as “product launch” time. If you thought about “product launch” as your goal, would your first action be to check email?
To summarize your activities, you might take a clean sheet of paper and write down in one column “activities,” and then in another column write down “blocks of time.” You can get very sophisticated with this, and in fact, it’s the essence of cost accounting for professional attorneys and hourly contractors.
A few tips
- There’s no need to be very precise, just put down times to the nearest quarter hour.
- Try to make the activity descriptions useful for your review. For instance, if you split your time among three projects, better to write down “project A” or “project B” rather than, “typing report”
- If you’re focused just on time management while at work, leave out out-of-work activities.
I’m curious to hear whether you find out anything surprising. Drop me a note, or leave your comments below!
Hiring Employees, Bosses, and Customers: Part Two of Three, Bosses
Previously I talked about hiring employees and gave an overview of a process that I’ve used to good effect in the past. The perspective there was straightforward: you’re a supervisor or a hiring supervisor and you’re bringing on someone to be a direct report, either for yourself or someone else.
Hiring bosses involves two perspectives, and depending on which best describes your situation you’ll look at it differently.
When you’re choosing who to work for
I think this must be rather frequently overlooked, especially by inexperienced employees. Having a job offer with compensation and responsibilities that match your goals doesn’t mean you should rush to take the job. Your relationship with your boss is going to be critical, and you want to know a little bit about him or her before you sign on. Even if you have to take the job, you should prepare yourself for what’s coming.
There are three things I’d suggest you think about:
- A lot of bosses got to be supervisors and managers by doing good work as individual contributors (sales, engineering, operations, etc.). This leaves them woefully unprepared to manage people. I think Warren Buffet said it, but I can’t find the source just now: it’s as if the final career step for an award-winning cellist was to become the business manager for Carnegie Hall. If your boss-to-be has never been coached, you’ll have to suck it up for a while even if you have the conversational grace to coach them yourself.
- Noam Wasserman wrote in “The Founder’s Dilemmas” that some people (he was writing specifically about entrepreneurs) go into business for wealth, but others go into it for control. It’s important to get a sense for what your boss is after. Behaviors in different situations can vary dramatically. I’ve seen middle-ranking managers make money-losing decisions because it expanded their influence within the organization. And I’ve seen others forego promotions in order to keep doing what’s best for the company. It’s usually easier to work in groups where one or fewer are motivated primarily by control.
- You’re going to spend a lot of your time doing what your boss says. I’m going to quote Buffett again here, because he’s right on: “I learned to go into business only with people whom I like, trust, and admire.” (“Warren Buffett on Business,” edited by Richard Connors, Wiley, 2010, p. 144). This is important in business partners, and if you can find it in a boss, you’ll learn a lot and enjoy the process.
In all these, try to talk to coworkers and the boss to determine their work history and how things have been going.
When you’re choosing a leader for your organization
The above considerations still apply, but you can be a bit more prescriptive when you’re in control of the hiring process. I like Jack Welch’s “Four E’s and a P” approach (Jack Welch, “Winning”):
- high personal Energy
- the ability to Energize others
- having Edge (making decisions quickly)
- Executing (getting results)
- Passion
When they’re in charge of that group or company you’re hiring for, they’re going to be almost overwhelmed by demands on their time. Many of these will be important and urgent, and they need to be able to go, go, go. In their attitude, they have to be like FDR, chin up and positive, in order to inspire other people that the obstacles they all see can be overcome. And they can’t waste the organization’s time by sitting on decisions that need to be made.
Welch found that some managers that had these things still didn’t get good results. Maybe that’s because they work on the wrong stuff, or because they’re perpetual optimists, or because they’re very quickly making all the wrong calls. So he bundled up all that into the fourth “E,” execution, and looked at candidates’ track records.
“Passion” means they’re personally motivated to take your business and do something more with it than you asked or had imagined. This last is critical, especially for startups, turn-around situations, or other times of crisis.
If you can find all this in a would-be boss, you’re doing good for yourself and for your organization.
Due Diligence Comes Before Joining a Startup
This week a friend of mine was offered a chance to work for an exciting startup in the consumer packaged goods industry (think food and beverages). He wanted to know what he should ask before accepting the offer, which was a below-market salary in exchange for equity ownership in the company. Oftentimes this equity ownership comes in the form of stock options. I’ll write about that later. In this case, he was being asked to join a Limited Liability Company (LLC).
So here’s some of the advice I shared with him:
- As an LLC, there is no stock, there are only units. Properly structured LLC’s have an operating agreement explaining how the units behave, so you might ask to see that.
- LLC’s may be have classes of units, and their distribution may be arbitrary (i.e., unfair) so you need to read the operating agreement to learn whether or how you can be diluted or underprivileged.
- Having experienced a motivation misalignment before, I would try to find out whether the folks running the company are motivated more by wealth or more by control. I’m wealth-motivated, so whatever produces the greatest long-term value is what I want to do. In the past I’ve worked for control motivated folks, and we often disagreed about what to do.
- Business owners acting in their own best interest should only use ownership as a form of currency when the ownership is being over-valued by the employee or deal partner. Options and units can be great examples of this. Give out an “eye-popping” amount to employees (“Oh, that sounds like a lot!”) and hope they don’t realize what it’s actually worth. Be wary. Specifically, for an LLC you want to see that operating agreement to know how many units there are, how many you’ll get, and how new units will be created.
- I’d ask to see financial statements. If the company is a going-concern with a history of profitability, your units are absolutely taxable, and the valuation could be performed by an expert or by me or someone else. Regardless of who values the company, the IRS always retains the right to disagree.
- If they are a going-concern with a history of profitability, or else if the founders have done this successfully before, I’d be highly inclined to find a way to take the ownership. You can live very comfortably on a corporate salary, but you can be “set for life” if you hit it big with a young company that you purchased with your labor when it was worth very little.
- If they’re a loosey-goosey operation, they may flinch at showing you their underwear drawer: they may not have an operating agreement or financials. If that’s the case, I’d be highly inclined to take all or most of the compensation in cash at market rates, rather than equity. Remember that most startups fail, and if it’s not your baby, you need to make a living from it.
So that’s some food for thought beyond the global picture, which is “what is the business, does it make sense to me, etc.” Keep an eye out for your own interests, and you’ll make a good decision.
For further reading, I suggest
- Noam Wasserman’s “The Founder’s Dilemmas”
Financial Figuring for Landlords: Working Capital
What will you do if that old roof floods your top floor apartment, or if a cast iron drain pipe cracks just as you’re paying for bedbug extermination? What if the jobs cost $10,000? Do you call up your regular contractor and cut a check without batting an eyelash, or is this is a crisis necessitating soul searching, an emergency loan, or perhaps even a brave attempt at “deferred maintenance”? If you couldn’t afford a $10,000 emergency repair, you’d be in good company. Most small time property owners have a shortage of operating cash. But you can do better.
For large, established companies, there’s a test used to evaluate their ability to survive a “disaster” scenario. It’s called “the acid test.” The phrase comes from bygone days when gold was authenticated by dropping acid onto it. Gold won’t react, so if it’s “good as gold,” the acid has no effect. For businesses, “passing the acid test” usually means having enough liquid cash to cover more than an entire year’s expenses. That’s a heavy burden for a rental property, but if you manage that way, you can have some measure of peace of mind.
You can calculate the “acid test ratio” for your property by adding all your cash accounts for the business and dividing by all your liabilities for the next year. Your liabilities include the total of all interest, all insurance premiums, all real estate taxes, and all expected repairs. Suppose you have $12,000 set aside in the property’s rainy day fund. Suppose each month you pay $800 in interest, $300 in insurance, $300 in taxes, and $200 in repairs. All those expenses, times 12 months in a year, means you have liabilities of $19,200. Your $12,000 in cash divided by your $19,200 in liabilities means you have an “acid test ratio” of 0.625. A typical publicly traded manufacturing company has an acid test ratio of 1.25 to 1.5, more than double.
Now I’ve spoken with landlords about this, and most express shock and dismay that they should have to keep so much cash set aside. With monthly income guaranteed by leases, you might reasonably use another test, called “the quick ratio,” which lets you count receivables as “cash” because you’ll get them quickly. We can calculate this using the example above. If your tenants are obliged to pay $1,000/mo for the remaining nine months on their lease, you get to add another $9,000 in “cash.” Now $12,000 cash plus $9,000 receivables = $21,000. Divide this by $19,200 and your quick ratio is greater than one, just where you want to be. But be honest and don’t count month-to-month’s at face value. And if you’re dealing with tenants who might be headed for eviction or non-renewal, don’t count a full year of their lease at face value, either.
However much money you choose to set aside, the moral here is that large, established businesses set aside a lot of money for rainy days. As a small business, perhaps with limited credit, it’s important for you to do so, as well, and to keep that money allocated separately as a rainy day fund. You’ll be able to weather any storm if you do.
Hiring Employees, Bosses, and Customers: Part One of Three, Employees
A wise person once said, “You must judge people, because the wrong man can kill you.” Hyperbole aside, the meaning is well met. You really want to get to know someone before you enter a relationship with them, be it as their supervisor, their subordinate, or sometimes even their provider.
In each of these scenarios you want to view the process as a sharply narrowing funnel, where subsequent stages are reached only if the lower-cost, earlier stages check out. Today I’m going to look at hiring employees, and later I’ll share some thoughts about picking the right boss and customers (yes, sometimes you get to choose).
Employees
Hiring employees is easy if you go about it right, but it can go horribly wrong and consume a lot of time if you put the cart before the horse. Here are the steps I recommend:
- Say in your job posting what you’re actually looking for.
- For instance, if you really won’t consider someone without a certain degree, don’t pretend to be more open-minded than you are. Say so. Just be careful that you don’t overspecify (this applies especially to corporate HR departments using bots to screen 25,000 resumes to zero).
- The goal here is to have a large number of people self-select out of the process, before you even know about it.
- Caveat: If you have more than 15 employees, it is illegal to inquire about the following:
- Race, gender, religion, family status, disabilities, and
- Ethnic background, and
- Country of origin (ask if they’re authorized to work in the US instead), per http://www.dol.gov/oasam/regs/statutes/2000e-16.htm
- Sexual orientation, per http://en.wikipedia.org/wiki/Employment_Non-Discrimination_Act
- Military service, per http://fhp.osd.mil/pdfs/userra.pdf
- Marital status, per http://www.unmarriedamerica.org/ms-statutes.htm
- Age, depending on whether they’re a contractor or not:
- If you treat everyone equally, you can ask about height, weight, club membership, or being a minor, per http://www.dol.gov/compliance/guide/childlbr.htm
- Caveat: If you have more than 50 employees and government contracts greater than $50,000, you also need an affirmative action plan.
- For most professional jobs, take both resumes and cover letters.
- Read them in small batches so you get into the mindset.
- Fill out a score sheet of your own design with each one.
- If they scored too low to be viable, make a note and put their materials aside.
- Use the telephone.
- Use email to invite high scorers to a low-key phone call. “Would you be available for a chat sometime Friday afternoon?”
- Beforehand, create a prompt sheet to remind you which key areas you want to hit upon.
- When the time comes, call them from a quiet place. “Hi, this is So-and-So from Acme Co. calling for What’s-Your-Name.”
- Small talk goes a long way towards getting the conversation going smoothly. Prepare to talk about something banal, like the weather, just to get them going. Ask them how their day’s been going so far.
- If the interview starts out shakey, try to keep them talking for at least 15 minutes. Especially with inexperienced hires, sometimes people need a lot of time to get their best foot forward.
- Ask open-ended questions from your prompt sheet, trying to fit them naturally into a conversation, rather than announcing stiffly that you “will now proceed to question three.”
- If your phone call reveals problems, make a note and put their materials aside.
- If their job is very technical, have a technical person speak with them a second time.
- Give up to an hour, if need be. Have the technical person use their own prompt sheet to hit all the key areas.
- If the technical call reveals problems, make a note and put their materials aside.
- Assuming the phone calls went well, arrange an on-site.
- These are hugely expensive. You’ll spend a couple of hours with them, give them a tour, and interrupt their day, yours, and your coworkers’. Do this only if you expect it will work out.
- Use the time on-site to test what they’re going to be doing. Ask them to prepare a presentation in advance, or draft something in CAD the day-of, or talk about accounting. Ask them to do anything within reason that will give you an idea of whether they’ll work well.
- Debrief with the team soon afterwards. Invite all employees who met the interviewee to the same debrief, regardless of their position in the company.
- As the hiring supervisor or HR person who brought them in, you’re probably still in favor of their getting an offer. Tell the group if this is no longer the case, and why.
- Assuming you’re still in favor, you must play Devil’s Advocate to ferret out the reasons why this person won’t work for the rest of the team.
- Communicate quickly.
- The best folks don’t wait around. If you want to give an offer, don’t wait, give an offer.
- If you’ve decided they’re not a fit, wait a day to give it due consideration and then say so in so many words. Don’t offer suggestions for improvement unless they ask.
- Keep records.
- If, heavens forbid, your hiring practices are called into question, you want to be able to pull up a document indicating that you’ve done nothing immoral or illegal.
- Review how many folks you screened at each step, and whether there were any expensive surprises toward the end of the process. Try to avoid those by rewriting the prompt sheets for next time.
You can adapt this process to suit your own business. And remember that the goal in this rigor is ultimately to save yourself time by weeding out candidates who won’t do and by getting quickly and fairly to the next great addition to your team.
For further reading, I recommend:
- Endurance, Shackleton’s Incredible Voyage by Alfred Lansing. A short section describes how Shackleton could size someone up after a few minutes, and the rest of the traumatic voyage proves that some people like Shackleton are superlatively good judges of character. For the rest of us, let’s use the funnel process.
- Winning by Jack Welch, for the “four E’s and a P” metric used to evaluate future leaders.
Miracle on 1st Street SE
Imagine that you are the proud manager of the only company that provides food to the people who live in a large area around your plant. Your CFO comes to you for the quarterly update and for the first time in a long time it’s good news. He shows you the graph below:
“We haven’t made money in ten years. If we do nothing, we’ll be on forecast 1, still losing money, but the bleeding is slowing down. We’re going to get through it. We’re lucky that the cost savings and price increases we put in place over the last ten years have set us on that path, because sales and operations are demanding even lower prices and bigger budgets. If we were going to give them what they wanted, we’d be on forecast 2 and still hemorrhaging cash.”
You think about it for a second and ask your CFO, “What does our balance sheet look like?”
He pulls out a copy of the balance sheet and hands it across your desk:
“Oh, hmm, ” you say. “I see our shareholders are in the red by about $15 trillion. God love ’em, they do support us. Let’s give sales and operations what they’re asking for.”
Your CFO should be shocked, but by now he’s totally resigned to your insane management of the company. “Okay,” he says, “I’ll call up our overseas competitors and get additional funds.”
You reassure your CFO, saying, “Don’t worry, they know we’re the only company providing food here. If they need us to pay off the debt, they’ll let us know, and we’ll just raise prices. Our customers will have to pay it. But let’s try to avoid that, okay? Also, call some emergency meetings with sales and operations. Make them work through the holidays to make sure we get onto forecast 2.”
You might think you’d be insane to run a company this way, but oddly enough, this is exactly what we’re doing to ourselves in the United States. See, for instance,
Positivity
Today I was at a management meeting to solve some specific problems, and at the end of the meeting, as often happens, we allowed for some off-topic suggestions and comments. (People should have a chance to say what’s on their mind.) One of the managers recommended that we devote some time during our “all hands” meeting to let attendees get up to a microphone and share something that they’ve learned recently, maybe just for a minute, just quickly, and then they’d sit back down. Call it a “Member Minute.” I thought that was a great idea. I’m often coming across random tidbits that I’d like to share with folks, and I think I could contribute something in less than a minute to the general audience.
Another manager also liked the idea, and they supported it by saying so and then launching into their latest gripe. They said that there was a “major problem” negatively affecting them, and “get this” there was no solution yet, and they wanted everyone else in the business to know about it. Fortunately the manager who suggested the “Member Minute” thanked the griper for their support and then emphasized their vision for the sharing of positive messages.
As problem fixers, we often want to focus on the problem, and among a friendly audience, sometimes we want to vent a little. There can be a place for venting to a group, and there absolutely is a need to talk about problems. But negativity is ultimately an organization killer: no one wants to hang around a sourpuss, and not only that, even if people don’t shut down or leave, your group’s ability to perform towards a positive outcome will be greatly diminished.
Ever been in the grocery store looking for something? Ever notice how much faster you can find it if you think about what you’re looking for, if you envision its color or its shape or a word on the box? And if they change the branding, notice how you can’t find it? The same can be said about your work. Envision a positive outcome and all your abilities converge towards it. Envision a quagmire and that’s where you end up wallowing.
As managers, we can coach or remove team members that are a drag to work with. For everyone else, especially in volunteer organizations, we need to check ourselves and others:
- Recognize that habitual negativity is career-threatening and organization killing.
- End a gripe with a suggested solution and always always (even if there is no suggested solution) offer to take suggestions or advice from others.
- Try to “break frames” and get people thinking differently with jokes or humor. (More on this later; never use sarcasm.)
- Watch your tone and use words that are even-handed or fair-minded. If the situation is more gray than black-and-white, this leaves people open to possibilities and makes it easier for them to help you.
It’s true, your attitude determines your altitude. Aim high.
