Friday, March 8, 2013

Assets, Liabilities & Net Worth

Assets: Anything that you may own, that has some value, and that can be converted into cash.

People, corporations, non-profits and governments can all own assets. Examples of common assets include:
  • Cash and cash equivalents: money/cash, CDs (not compact disks – although they may have value too – but rather certificates of deposit with your bank), positive bank account balances (savings & checking), money market accounts (savings accounts that offer a competitive rate of interest in exchange for larger-than-normal deposits; sometimes referred to as MMDA – "money market demand account"), Treasury bills;
  • Long- and short-term Investments like variable annuities, bonds, the cash value of a life insurance policy (if any), mutual funds, pensions plans, retirement plans (IRA, 410(k), 403(b)), stocks, ETFs, etc.
  • Property, or “real property”, that includes land, and any fixed structure that is permanently attached to it;
  • Personal property – i.e. things that you own that is not real property e.g. boats, collectibles, household furnishings, jewelry, vehicles, etc.

Note that if an asset is acquired by using debt, or leveraging (e.g. a mortgage used for purchasing a house), the use of borrowed funds does not necessarily decrease the value of the asset, but rather the value of the titleholder’s net worth (see below). 

The cash value of assets are often declared by sellers, but almost always finally determined by the market.  Using a residential home as an example; the value is determined by a willing buyer offering an acceptable purchase price to a willing seller… i.e. the asset value is not determined by the owner’s desired asking price, neither a realtor’s speculative estimate sales price, and nor the local municipality’s valuation (for property tax purposes).

Assets are often grouped into two broad categories: liquid assets and illiquid assets:
  • A liquid asset is one that can be converted into cash quickly with little to no effect on the price received, like stocks, or cash under your mattress… or preferably in a bank account.
  • Illiquid assets, on the other hand, are assets that cannot be converted into cash quickly without substantial loss in value.  For example, the more desperate you are to sell your house, the more likely you are to achieve a lower selling price!  Examples of illiquid assets include your residential home, antiques, ownership and/or equity in your own business, etc.

Liabilities: a fancy word for debt.  Really… liabilities include any money (or services) that you may currently owe another party.  Common liabilities include the house you live in (assuming it’s actually owned by a bank), your student loans (or those that you have co-signed as guarantor), and any amounts you owe on your credit cards.

Other forms of liabilities may be less obvious and include, for example, the property taxes that you owe to the local government (municipality) on the house that you live in, which may be owned by a bank (or other mortgage/lien holder).

Sometimes, we call debt by another name, like leveraging.  People sometimes say that a company is highly leveraged, meaning the company uses borrowed money to e.g. pay for the manufacturing of its products.  Mortgages are also called home loans.  The naming convention Credit cards represents dubious terminology for short-term, unsecured debt (generally subject to high interest rates).

Net worth: calculated by subtracting the value of all your liabilities from the total value of all your assets (and not the other way around!).

Essentially, your assets are everything you own, and your liabilities are everything you owe.  A positive net worth indicates that your assets are greater than your liabilities; a negative net worth signifies that your liabilities exceed your assets.

Times are tough for many people, but you simply cannot build any wealth if your net worth is negative. 

Keep in mind that achieving a positive net worth is entirely within everyone’s control and actually quite easy to achieve… it starts with simply refusing to buy anything that you simply can’t afford, or don’t really need, e.g. a larger house, new car, new clothes, etc.

Tuesday, March 5, 2013

#BabyBoomer = #Debt

According to the U.S. Census Bureau, a baby boomer is a person who was born during the demographic post-World War II baby boom between the years 1946 and 1964.  In terms of age, baby boomers are therefore between 49-66 years of age.

The financial crisis of 2008/09 was perhaps one of the most significant negative contributing factors to boomer savings and wealth, sending the economy into a recession.  It was also one of the primary causes of crippled boomers’ retirement accounts.  It forced many pending retirees to stay in the workforce or significantly alter their retirement lifestyle plans.  

One of because… Controllable, contributing factors included out of control spending (unaffordable homes, college tuition fees for children, etc.) and a lack of planning, saving and investing.  Both spurred by the ridiculous notion that the government would somehow take care of us in our old age.

And now, the 60+ boomer generation who are receiving Social Security checks, are receiving these checks alongside notices from bill collectors.  Boomers are the first generation in American history to be entering retirement saddled with all types of debt, not limited to unpaid balances on credit cards.

Last year, public policy organization Demos published a report entitled The Plastic Safety Net. Their findings showed that Millennials (the generation born after 1980) carried an average credit card debt of $2,982.  But for those 65 and over – who arguably should know better – the average credit card debt was $9,283.  A generation trapped, financing their lives on credit cards.

Traditionally the highest levels of compensation are achieved, working during one’s 50s and 60s.  But boomers have entered these supposed golden years during a period that carries with it the burden of being an ever-increasingly difficult time to build, protect, and grow wealth.  

The decade – especially between 50 and 60 – is usually a time when working people manage to increase their investments and retirement plan balances, striving to settle into a financially-secure retirement.

Without any doubt, the financial crisis that brought down the stock and housing market was one major blow to baby boomers' retirement savings.  According to a YEAR report (National Center for Public Policy), nearly 60% of baby boomers provide financial support to adult children.

Many boomers have simply accepted carrying debt into retirement.  A 2012 poll by the large Canadian bank, CIBC, found that 80% of boomers are not anxious about carrying debt, or even the amount of it.  In addition, CIBC found less concern among the respondents of getting their finances in order to be able to pass on an inheritance to the next generation.

Recent reports have focused heavily on the growing amount of student loan and credit card debt students are graduating college with, but will they learn from their elders and work to shed the debt before entering retirement?   

After all, they certainly can’t count on an inheritance from boomer-aged parents and grandparents, to help them pay down the debt. 

As much as sitting is the new smoking cause of disease for the working class, the unsustainable boomer debt epidemic continues unabated, mostly out of control, and unashamedly.  

People keep electing political ‘leaders’ who promise to save the middle class.  The solution actually lies within each and every one of us, individually, to change our ways, to stop allocating blame, and start to take care of our own financial destiny and sustainability.

Monday, March 4, 2013

Say on Pay

What exactly is Shareholder Say on Pay, and why should anyone care?  My intent with this blog post is not to explore legislation.  It is intended to explore the concept of executive pay.

Many years ago – when I was much younger – a bank manager may well have earned an above-average income, compared with most other working adults.  But... not an income that would have been extraordinarily higher than, or much different to - say - the salary of a school principal, or another manager working at any mid- or large-sized company.  Employees of any corporations should be paid market-related wages, commensurate with their responsibilities, within reason.

I am sure that most people wouldn't have much of a problem with people like Bill Gates, or members of The Beatles, becoming fabulously wealthy.  They delivered product genius, user-friendly innovation, creativity and more.  They provided work-related increased productivity tools, or pleasure, by entertaining billions of people.

They should be rewarded at whatever the market is willing to pay for their products. 

And they created employment for tens of thousands of other, regular people!  Bill Gates is currently listed as the 2nd richest man on the planet.  I am - probably much like you - totally okay with that!

But how, why and when did exorbitant executive pay become the norm for CEOs at large corporations?  For example, pharmaceutical company, Novartis, recently offered a six-year, $76MM golden parachute to outgoing Chairman Daniel Vasella.  An egregious reward?  Or, the new Chairman of UBS, Axel Weber, joined UBS for $5.3M earlier this year.

The Wall Street Journal reported that Swiss voters had overwhelmingly backed a say on pay referendum on Sunday.  The country will soon have the strictest rules in Europe on executive pay.  Compared with the high Swiss average annual income of about $73,500, payments such as those mentioned above look more than simply out of whack

And when Switzerland turns against high executive pay, we must know that there may be a problem.

New Swiss rules actually don't seek to limit pay.  It does ban so-called golden handshakes and parachutes.  Company owners will also need to ensure that pay is aligned with performance.  Also worth noting is that the Swiss 13.2% top income tax rate may help to prevent over-compensated executives from fleeing the country, unlike their neighbor, France!

According to Forbes, Brian Moynihan (CEO, Bank of America) earned about $8MM in 2011.  He has been a bank employee for most of his career (previously FleetBoston; acquired by Bank of America).  His management decisions and strategy has served me well, on a personal level.  As a shareholder, my investment in $BAC nearly doubled in 2012 - thank you Brian and Co.!  How much should he be paid, as the manager of a $122B corporation that employs almost 300,000 people?

And then there’s Jamie Dimon (CEO, J.P. Morgan).  According to Forbes, he earned more than $20MM in 2011.  At least his resume includes the co-founding of Citigroup in 1998.  $JPM has a market valuation of almost $200B, and the bank provides employment to almost 300,000 people. Dimon’s salary is only a small fraction of his management responsibilities.

What do you think?  Where is executive pay going?

Origin:  Originally UK company law set a default rule that the remuneration of directors was to be set by the company's general meeting (Companies Act 1862).  Over time however, more and more companies gave the right to directors (the position found in the articles for most modern companies).  Generally, the directors determine the remuneration of directors.

Kinda like the police investigating the police... hmmm?

In the U.S., say on pay proposals went through many iterations, with Dodd-Frank perhaps the most well known.

For those more academically minded, read Edward Hauder’s blog.  He is a Senior Advisor at Exequity LLP.  His blog provides current information on say on pay developments.

Disclosure: Long on $BAC