 Hey guys, it's MJ the student's act tree and this is going to be another audio lecture on business objectives, which is subject CT2 and this is still chapter 1 part 2 So like I said, it's business objectives. We're just going to jump straight into the material and the first thing I want you guys to consider is what is the objective of a business and This is quite a It's quite a fun question to just think about, you know, go through all the various things, you know What why do we form a business? What is its purpose and We could come to the answer that the objective of a business is to increase the value of the shares so a business's goal is to become worth more and The next question that follows up from that is how can this be achieved? Now in the short term this can be achieved by making more money. So the more money business is making You know, its value will go up shareholders Would like to see that more money being made But in the long term The value of a company goes up when it starts Contributing more to society starts making better products. It starts becoming more, you know just better for for the whole economic environment and This now leads us to to what our business is and we spoke about what businesses are In the previous lecture, but another way to think of businesses is that they are a collection of economic projects and they all have They all have the following components. They have the inputs inputs being capital and effort So remember in last lecture we spoke about the shoe factory So the capital would be buying the shoe factory the effort would be running the factory and actually making the shoes Then there is the time the time process You know, you don't just buy a factory and then suddenly you've got shoes It takes a process and it's going to take a few days a couple of weeks Before the shoe is completed and then you can sell the shoe and this is where we talk about the outputs You get money and you get value. So with a shoe, you can sell the shoe You get money for what people paid for it, but there's also the value and this is a more wishy-washy thing in the sense that You can't really quantify it. It's not very scientific But there's a value had in somebody having shoes, you know protects their feet, but it's very difficult to put a number on that value and this is unfortunate because it means a Lot of the time people when people come to business they now focus on capital as the input and Outputs as the money and they don't tend to think of the effort or the value Just because those things are hard to to measure up now Where actuaries come in or where actuaries can help a lot in Businesses and day-to-day is that these things capital effort time money and value They're all uncertain. They're all random variables and Yes, in the beginning they have an expected value and you know this expected value that the share The shares are priced But as time progresses, you know, these expected values can change certain events can happen or Uncertainty can decrease as you get closer to the end goal and thus we can see that the value of the share can change and now what happens in a business is that some shareholders might choose to sell out at this time and you know get a little bit of profit or or you know use their money elsewhere and The great part of the business is that when shareholders buy and sell their shares They shouldn't have an impact on the business so it shouldn't disrupt the business because some of the time or with some of our really big large corporates you have these really wealthy individuals with these wealthy consortiums and they're investing and They don't have the time to you know actually do the actual business or do the effort So they hire professional managers. So what we're doing is we're splitting the input shareholders provide the capital They then hire professional managers who you know contribute the effort and then What happens is the money and the value will then get distributed between them so with some of your bigger businesses what you have is you have your shareholders and they appoint board of directors and Your board of directors will then Choose a whole bunch of general managers and your general managers will hire a bunch of employees. This is a general Corporate governance that a lot of firms adopt and Like I said, there's the pros you're getting guys who are good at managing to manage and you're getting guys who have the Cash to invest to invest okay but now sometimes or Most of the time is there are some cons to this separation of duties and that happens because they are conflicting objectives. I mean you look at our shareholders They want a high return, you know, they there to to chase the profit. So they want to maximize The capital to money ratio they want to put in as little capital as possible and get as much money back You know that that is the perfect situation for the shareholder Whereas if you look at the manager, I mean he's putting in the effort side. So If he's gonna be putting in effort he wants to make or choose the projects that maybe on a little bit more interesting a little bit more fun to do and Maybe require a little bit less effort Because the ratio they're looking at is the effort to value created because at the end of the day They want to feel, you know fulfilled that they've done a meaningful job and that you know, there's there's purpose in their work So they're gonna be looking at the value created They're also concerned about the money, but they're also concerned about the value And that I guess that's what it is the shareholder, you know, he wants to maximize returns or build an empire It's all about the money and and all that returns Whereas the manager might want more of a luxurious working lifestyle and just he'd be happy with stable returns and This is where we're coming into this whole agency theory and information Asymmetries, I mean and you get it also with other parties. So with lenders People who lend money to the company They're more focused on short-term goals on, you know, the security of the company because they want to get their money back Also with say employees they Employees are an interesting one. I mean Let me let me give you guys a quick little example So like say today I went to I went to the gym and I bought a smoothie from the the smoothie bar Now the person selling the smoothie is receiving a fixed salary in in most of the cases which means If they sell one smoothie or they sell a hundred smoothies, they're going to get paid the same So if they do a really good job and they make a perfect smoothie and they're really nice to the employee To the customers and they really create like a real nice vibe going What's happening to them? They're creating more work for themselves because more people are going to come by smoothies and they're going to do more work more effort So what I've normally found with the smoothie people is they're not the friendliest They take a long time when they make the smoothies and I actually once even got smoothie that had you know shredded plastic in it But there was a once off once of occasion But the whole idea is that they're more interested in they're getting their fixed salary They have to look they don't want to work terribly because then you know, they could always get fired But I mean, especially in South Africa. We've got such strict labor laws that it is quite difficult to get fired So once you get a job, you're actually quite comfortable and you can slack off like that because the law is in your favor and Because you're getting paid a fixed salary if you sell one smoothie or a hundred you'd rather sell the one smoothie and This is where the subject tries to To look at this problem and say well, how can we fix it? You know, this this actuarial topic is how do we avoid this conflict of interest and how do we motivate and I mean the one one case which a lot of smoothie places do is they might have a manager so managers there He's monitoring them making sure everybody's working making sure everybody's being nice to the customers But this introduces another cost, you know, the whole agency costs because now you have to pay that manager And he also might have conflicts of interest and stuff like that It would be much simpler to just align the incentives, you know, tell the tell the smoothie guys Say for every smoothie you sell you get a Piece of that price. So if you're selling it for say ten dollars, well, that's sorry That's a very expensive smoothie But if you're selling something for ten dollars You get to take two dollars and this would incentive us the smoothie maker With the shareholders to maximize the amount of smoothie salt so that they get a higher salary and the shareholders get a higher salary So this this is this whole You know When incentives are not aligned and this is also one of the reasons why I don't like Investing with asset managers. So, you know, there's these big financial companies They're like invest your money with us or give your money to us. We'll invest it And we'll pay you a return and what they say is We've aligned the incentives by if we get over a certain like if we get 20% or more then our fees increase and You know, when you first think of that you're like, okay, well, that's great Our incentives are aligned the more money they make or the more money they make for me The more money they receive therefore, let me give my money to them because they're gonna chase the highest returns But there's a big problem with that thinking because when it comes to investing and business and all that type of stuff there is the risk dimension and There's kind of that, you know Basic rule that the more risk you take the higher the potential reward Now if I go with my money and I give it to one of these asset managers They are incentivized to take higher risks because if let's say they risk in this really Risky business and it succeeds. Well, I'm happy. I get lots of money They're happy because they fee increased, but I'm more well-off in them because I've got a lot more but what happens if They invest that all my money in this really risky business and that business tanks will then, you know, business fails What they lose is they just miss out on their fees Which is a very small amount compared to all my capital that I've invested that has diminished so what we see is These this agency theory problem exists in quite a lot of economic activity Whether it regards to risk or with regards to you know selling and efforts and all of this type of stuff And so I guess to just land this whole lecture on business objectives We should maybe redefine the business objective as maximizing shareholders wealth But within external constraints and what exactly those constraints are well That's what the rest of this subject is going to be exploring. So this is just very much of an introduction To all the corporate governments agency theory and all the weird and wonderful things that can go wrong In the mechanics of the business. So, yeah, I hope you guys enjoyed it Click like ask questions in the comment section share with your friends and subscribe I will be making more videos like this Thanks guys and job as always study hard. Cheers