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In our “Financial Crisis!” handout we received in class, we ran out of time to cover the last point on Shadow Banks and Why Did It Meltdown?

The subprime mortgaging was the trigger for the crisis, but the cause of the meltdown was the wild demand for mortgage-backed securities that shadow banks offered. As we learnt, shadow banks are banking systems that are unregulated, and that employed high-risk techniques such as short-selling and heavy leveraging (hedge funds).

Since shadow banks were unregulated, the dependency on them increased rapidly despite their existence in the shadows, outside of the regulatory controls governing commercial banking activity. Anyone from any given backgrounds who had loans rejected from regulated banks, could come to these banks to take out a loan. 

The difference between regulated banks and shadow banks is that the former has enough assets that can be liquidated, should a bank run occur. However, shadow banks are not able to deal with bank runs, simply because it does not have deposit insurance. When creditors demanded for all their money back from the bank, these banks had to sell their long-term assets at depressed prices, leaving themselves insolvent[1] and causing serving as the catalyst to the recent economic meltdown.

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[1] http://www.newyorkfed.org/newsevents/speeches/2008/tfg080609.html

The inventory turnover ratio is one of the most important financial ratios.

Inventory Turnover = Sales / Inventory or Total Cost of Goods Sold / Average Inventory

Interpretation: Generally, a high Inventory Turnover Ratio means that the company is efficiently managing and selling its inventory. The faster a company sells, the less funds the company has tied up. If a company has a low inventory turnover ratio, there is a risk they are holding obsolete inventory which is difficult to sell. This may eat in to a company’s profit[1].

The question is, why does it mean that a high Inventory Turnover Ratio shows that a company is efficiently managing its inventory?

1. The lower the inventory, the less the company spends on rent, utilities and storage.
2. Items that turn over more quickly increase responsiveness to change in customer requirements.
3. Stocks are turning over at a high rate, and new products are appearing in stores, rather than just sitting in the warehouse, which means that the company is generating more profit.

Zara and Dell are such companies that maintain a high inventory turnover ratio and a large part of their success has to do with it. The figure (shows the average number of days that stocks are held in the warehouse before they move to retail stores) below shows how Zara has maintained itself to be a company which has one of the fewest “inventory days”.

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[1] http://www.investopedia.com/terms/i/inventoryturnover.asp

We have learnt that there are cultural, social and personal factors that influence consumer buying:

1. Cultural -> Does a certain culture value a product more than other cultures do?
2. Social -> Is this the “hippiest” product in the market right now? Is the individual choosing the product because it makes him/her “cool”?
3. Individual -> Different people have different tastes.

For example, Bob might be eating at The Keg because Westerners love their steak and will bring their friends out to a steakhouse for a meal (culture); Bob could be there because all of his friends say that it is the best steakhouse in the city and he would have a story to tell after having a meal there (social); Bob also personally love to eat-out, and is a big steak fan (individual).

When it comes to the perceiving of products from a consumer’s standpoint (the activity that we did in class), we can come to several hypotheses, and two general ones are:

1. Most customers tend to have a similar general view on the product.
2. Often, customers follow the judgments of the first person who gives a verdict on the product.

From this, we can infer that most (but certainly not all!) customers who come to The Keg are doing it based on cultural, social or individual reasons as listed above, and that with an established reputation, The Keg will be able to gain more consumers, given that no competitors spring up and no catastrophes happen. With this knowledge, companies will be in a better position to market themselves and expand their consumer base!