MBA Post 2

This section is mainly my work - though I received input from teammates as well.

Firms and Markets Assignment

Section 2: Breaking into the Credit Rating Market

To recap, the main barriers to entry to the credit rating market are firstly, the reputational mechanism that causes firms to rationally seek widely respected firms to rate their debt; secondly, the regulatory barriers to becoming a NRSRO; thirdly, the network externalities that give higher value to the services of firms with greater penetration of the market, which in turn necessitates high initial investments; and fourthly, the possibility of an aggressive and coordinated strategic response by the Big Three. Any successful entry strategy must overcome these formidable barriers and they are few firms that possess the necessary pre-requisites.

We model the entry of Bloomberg L.P. into the credit rating market through an integrated strategy (Baron, 1995) with market (Porter’s generic strategies of cost leadership and differentiation) and non-market components (exploiting political pressure). We use the Bloomberg archetype to illustrate how new entrants may overcome the formidable barriers of the credit rating market. Figure 1 applies systems dynamics to represent our strategy, which should result in S-shaped growth [not shown]:

Breaching the Reputational Great Wall

Bloomberg L.P. enjoys a worldwide reputation for being a reliable information provider. It commands 30.82% of the market data market in 2012, and the Bloomberg terminal commands 57% of its sub-market. It also provides information through Bloomberg News, Television and Businessweek (Lenox, 2013). Thousands of firms thus rely on Bloomberg for vital business intelligence.

To augment its brand name, it can use its vast financial resources to acquire one of the smaller debt raters. Morningstar heads the list, being one of the most respected financial information firms. It has a market cap of only 3 billion (Nov 2014), while Bloomberg’s estimated market cap is 27 billion, with 2013 revenues of 8.3 billion and profits of 2.7 billion (O’Connor, 2013; Elkind, 2013). Assuming the acquisition is successful, Bloomberg Morningstar Debt Rating will be a formidable brand name. In addition, Bloomberg can save on the costs and time of NRSRO registration.

Blitzkrieg for Growth

Even though Bloomberg already enjoys wide recognition, few may initially use its debt ratings, minimising network externalities.

Bloomberg needs to blanket the market quickly by offering heavily discounted or free debt rating services as part of its Bloomberg Professional Services (available through its Terminals). As such, it will be natural to offer a differentiated subscriber-pay model (already employed by Morningstar), where investors pay to obtain ratings, unlike the somewhat discredited issuer-pay model of the Big Three (Appendix B). While both can lead to conflicts of interest, the subscriber-pay model potentially has less such (SEC, 2013) - and in any event, it can be marketed accordingly.

To attain cost leadership, Bloomberg could rely on rating methodologies that leverage its core competencies in information aggregation and analytic technologies, and rely less on analysts. Indeed, Moody’s has identified this approach as a competitive threat (Moody’s, 2013). By reducing labour usage and focusing on upfront capital expenditure, Bloomberg could quickly achieve economies of scale. The Big Three will likely be caught flat-footed as collusion has protected them from cost pressures. Their methodologies have also been severely questioned (e.g. Ekins and Calabria, 2012) and Bloomberg can market a cost-effective and impartial subscriber-based approach.  

Most importantly, proprietary debt ratings provision should greatly differentiate its Terminals, allowing it to capture a greater share of its core market - and given low marginal costs, increase profits dramatically. This can then cross-subside aggressive pricing for the debt rating market, which may entail an overall profit increase.

Getting Help from Uncle Sam

Given their contribution to the financial crisis, the Big Three are vulnerable political targets. Michael Bloomberg is one of the most powerful businessmen in the world, being former Mayor of New York and a possible Presidential candidate. He could use his connections to quietly lobby for regulations that compel the financial sector to consult subscriber-pay ratings, with issuer-pay ratings as an added option. Such regulations should be politically popular, as it can save businesses much money. This will create demand for Bloomberg’s services, allowing it to charge a reasonable price to cover expenses (increasing profits overall), while forcing the Big Three to invest huge amounts to react.

If necessary, Bloomberg can  exploit political sentiment against the Big Three to become a NRSRO. The reputation of Bloomberg L.P. already makes approval practically a certainty, given that far less  established players have obtained it.

Crushing Collusive Competitiors

As argued above, there is likely tacit collusion between the three major players. As such, some kind of coordinated response by the three players is very possible – i.e. a reduction of prices that can hinder Bloomberg’s ability to capture market share. Yet Bloomberg has little to fear from any price war. It possesses reliable profits from its core markets and being privately owned, can endure many quarters of lower overall profits. Theoretically, it can also launch a ‘nuclear strike’ to devastate the undiversified Fitch and Moody by offering free debt ratings to all its Bloomberg Terminal subscribers. And as mentioned, Bloomberg will likely enjoy increased profits from its core market that can be ammunition in any price war.

As such, especially when combined with a successful political strategy, Bloomberg has the bargaining power to divide and conquer, striking up partnerships with one of the 2 smaller players, perhaps through a cross-branded rating (which eliminates the need  for the Morningstar acquisition), while lowering prices aggressively to completely eliminate the other - allowing a Bloomberg Moody or Bloomberg Fitch to become the biggest player. If well executed, Bloomberg can devastate one of S&P’s core businesses, weakening this rival which competes with it in the business information market and strengthening its dominant position in its core market. This allows it to plow even more money into the credit rating market to attack S&P.

Our discussion indicates the possibility of defeating the Big Three, but only with an unusual combination of political, reputational, ‘distributional’ and financial power. No challenger has succeeded – for now.

References

Baron, D. (1995). Integrated strategy: market and non-market components. California Management

Review. 37(2), 47-65.

Elkind, P. (2013). The trouble at Bloomberg. Fortune Magazine. Retrieved

from http://fortune.com/2013/12/05/the-trouble-at-bloomberg/

Ekins, E. & Calabria, M. (2012). Regulation, Market Structure, and Role of the Credit Rating Agencies.

Policy Analysis, 704. Retrieved from http://www.cato.org/sites/cato.org/files/pubs/pdf/PA704.pdf.

Faux, Zeke. (2011). ‘Credit Rating Fees Rise Faster Than Inflation as Governments

Downgraded’. Retrieved from http://www.bloomberg.com/news/2011-11-15/credit-rating-fees-rise-faster-than-inflation-as-governments-fret-expenses.html

Fimalac. (2014). Fitch Ratings. Retrieved from http://www.fimalac.com/Fitch-ratings-GB.html

Hourigan, Evan. (2004). The Genetic Algorithm, the Evolution of Cooperation, and "Niceness"

in the Iterated Prisoner's Dilemma. Retrieved from http://legacy.jyi.org/volumes/volume11/issue3/articles/hourigan.htmlInstead

Lenox, M.J. (2013). Bloomberg L.P. Competitive Position Analysis. Retrieved

from http://www.slideshare.net/zvezdinnikolay/bloomberg-lp-analysis

Moody’s Corporation. (2013). Annual Report 2013. Retrieved from

https://www.moodys.com/sites/products/ProductAttachments/2013_Annual_Report.pdf

O’Connor, C. (2013). How world’s richest politician, Michael Bloomberg, got 5

billion richer this year. Forbes Magazine. Retrieved from

http://www.forbes.com/sites/clareoconnor/2013/03/11/how-worlds-richest-politician-michael-bloomberg-got-5-billion-richer-this-year/

Shorter, G. & Seitzinger, M.V. (2009). Credit Rating Agencies and Their Regulation. Retrieved from

http://garrettforms.house.gov/uploadedfiles/credit_rating_agencies.pdf

Securities and Exchange Commission. (2013). Annual Report on Nationally

Recognized Statistical Rating Organizations.  Retrieved from http://www.sec.gov/divisions/marketreg/ratingagency/nrsroannrep1213.pdf

2014 MBA Post 1

This year has been incredible. It has also been insanely busy. I guess my main updates have moved to FB - still, I think it is worth keeping this blog alive. To avoid letting 2014 pass without any posts, I am putting up some of my MBA essays. The ad-essays I have written for Oxford and Harvard etc. are probably more interesting BUT are probably too personal to be splashed around. So, here are some last-minute postings:

Part 2: “Personal Entrepreneurship Reflections” (800 words, i.e., 2 pages)

In this part you should describe your personal reflections on entrepreneurship. This is a short essay on what entrepreneurship means to you, and how it relates to your own life ambitions. In this essay you should incorporate several of the concepts that were covered during the lectures, and critically discuss how they relate to your own entrepreneurial ambitions. You are welcome to challenge or deepen some of the theories that were discussed in class, and you might want to explain how these concepts relate to your own personal experiences and ambitions.

Throughout history, humanity has progressed thanks to those lone pioneers—the visionary, the prophet, the maverick scientist and the courageous scholar who defy received conventions to revolutionize our way of looking at and dealing with the world. The world did not spontaneously throw ‘common sense’ out of the window and come to the conclusion that time and space are relative and that energy and mass are equivalent—it was one Albert Einstein who changed our paradigm. A brutal world did not suddenly decide by a mass election that effective political action can be non-violent – it was one Gandhi who showed the way and, like Jesus before him, gave up his life to change the world.

It may seem too much to put Steve Jobs, Henry Ford or Larry Page in the same category as Gandhi, Einstein, Darwin or Jesus Christ. Yet, the greatest entrepreneurs share much with the pioneers of science and spirituality. I believe their defining essence is their drive to upset the established order of things. They impose their unusual way of seeing to do the 'impossible', bringing down the ‘impregnable’ economic castles built by lemmings. They find new ways of production (Ford), bring wonderful new products to the market (the Steves), sell cheap and direct (Dell) or build a new kind of firm that organizes the information of the world (Page and Brin). A flame of Schumpeterian creative destruction is lit, and the way we consume or produce or distribute is changed forever.

The second characteristic of entrepreneurs is a desire to make an impact beyond the financial. Obviously there are some barracudas who are in the game solely for financial gain. Yet, given our self-rationalizing and altruistic tendencies, it is plausible (though I have no hard research data) that the majority of entrepreneurs set up shop with something more in mind. Of course, business must still be about business to some extent – but in the founders’ minds, some element of the business will transcend business. It is plausible that at least some legalized marijuana dealers believe that they are delivering something socially valuable. And for the greatest companies, they usually have “cultures of purpose” which strongly motivates their staff (Deloitte, 2013). Apple, with its fanatical zest to build the best products in the world, or Tesla, with its focus on ‘accelerating the advent of sustainable transport’, are archetypes. So where do these cultures come from? Most of the time, their founding leaders first inspired them – and they could do this because they sincerely believe in making a wider ‘social’ impact beyond gold and gain. As such, I do not believe in any binary distinction between ‘social’ enterprises and ‘for-profit’ enterprises. All enterprises are ‘social’ to some degree (the lowest degree will be that they make their goods and services socially valuable solely to make profits) but they differ in their commitment to making an impact beyond economic gain for their owners. As such, visionary entrepreneurs are actually quite similar to other celebrated revolutionaries.

Finally, to light a fire to change the world takes great courage and resilience. It takes courage to lead a Salt March; it takes courage to build a company. Jack Ma apparently had encountered countless failures. He failed twice at the entrance examination for a local college.  He applied and got rejected by 30 companies. At Kentucky Fried Chicken, 24 people applied. 23 got jobs but not him. (George, 2014; Stone & D’Onfro, 2014). But he persevered to build up Ali Baba. The inspiring stories of Steve Jobs and Henry Ford are well known. Given the high failure rates of startups, it is true almost by definition that successful entrepreneurs need to have the tenacity to go through hell and high water.

To sum up, entrepreneurs are the ones with the grit and heart to change the world. Of course, they need skill and luck as well – but if the base conditions are there, these others will usually come. I have already described my passion to build a new kind of educational enterprise in my previous essay. I think I have the heart, probably the grit, but not yet the skill. I am, however, determined to build my skills and later, the team to incarnate my vision. Given what I have argued earlier, I see no purpose in categorising it as a social or for-profit organization. It is what it is, but let us get on with the task to change the world.   

Bibliography

Deloitte. (2013). Culture of purpose: A business imperative. 2014 core beliefs

& culture survey. Retrieved from http://www.deloitte.com/assets/Dcom-UnitedStates/Local%20Assets/Documents/us_leadership_2013corebeliefs&culturesurvey_051613.pdf

George, Bill. (2014). New York Times DealBook: Jack Ma on Alibaba,

Entrepreneurs and the Role of Handstands. Retrieved from http://www.billgeorge.org/page/new-york-times-dealbook-jack-ma-on-alibaba-entrepreneurs-and-the-role-of-handstands

Stone,  M., & D’Onfro, J. (2014). The Inspiring Life Story Of Alibaba Founder

Jack Ma, Now The Richest Man In China. Retrieved from http://www.businessinsider.com/the-inspiring-life-story-of-alibaba-founder-jack-ma-2014-10?op=1&IR=T#ixzz3Jt76J0HC