Financial Cat Scans

Cost, Price, and The Space Between

I sing my heart out to the wide open spaces
Pet Townshend

This month, we’ll study the difference between cost and price, why it matters, and how knowing how both behave in tandem is the key to success.

I know from our analytics that most of you are in the business of working out costs and prices. For many, it is hard to separate the two, especially if you work in or with the government. Today’s analysis directs itself to commercial operations. In a future newsletter, we’ll look at how to adapt this framework to the public sector.

All too often in business, someone comes up with a seemingly great idea and gets fellow workers excited about it. It gets pushed into production. Producers then wait to see what the market will bear for it, often falling short of projections.

What if you could change the paradigm?

Suppose you could see market openings and limits and test sample specifications and sales targets before you commit resources to a configuration. That would improve your chances of success.

You’ll have to work to enable this vision, but you will find it worthwhile.

When we at Hypernomics look at a market, we begin with Demand. As shown below as the red plane, that means finding the ordered pairs for Quantity and Price. We create a series of price bins (either equally spaced or binned by geometric or Fibonacci methods) and determine the ordered pairs (as the purple hexagons) representing each bin’s average price and total Quantity. Then we run a regression curve through them, which represents Aggregate Market Demand.

To the left of that curve, we find the Demand Frontier, a regression through the outermost points on the Demand Plane. This curve shows the limit of the products this market can absorb over time. As markets mature, the Aggregate Market Demand and Demand Frontier slopes often approximate one another.

If we examine the points closely, we’ll notice a price gap. Using its midpoint, we would find the 1) Quantity limit the market will support at that price (the vertical red line coming down from the Demand Frontier) and our 2) Target Price (the horizontal red line originating from the Demand Frontier).

To support that price, we’ll need to offer our customers something they like, here as Features A and B, which show up as the green Value Space at left, with the target Price as the horizontal red plane. We’ll need to figure out the Value Surface that the combinations of Features A and B command (the points for which we excluded from this view, for clarity). As seen on the left, there are Cost Surfaces for one or 500 units below the Value Surface. If we further bound our potential offering with Constraints (the vertical orange planes), we now have a region restricted on all sides. Conceptually, this expanse is not different than a like delimited region, such as your head.

Now, if you suspected that you had a deviated septum, your ear, nose, and throat doctor might order a CT scan, in which the doctor would develop section cut views of your head.

We can do the same thing in markets, using Financial CAT scans. Thus, after carefully setting up a 4D arrangement and taking cuts in both the Sections A and B directions, we can predict the 1) maximum Quantity Sold (reducing the 4D problem to one in 3D). Then we selected 2) the Price (dropping the remainder of undetermined dimensions to 2), 3) Feature A (the distance of the black plane from the origin, reducing the problem to 1 dimension), and 4) Feature B (the Vertical Profit Line, the final dimension). The per-unit profit line on the left times the number of units on the Demand Plane gives the projected profit.

In the process, we reduced a 4D problem to a single objective of maximum potential profit.

To complete the analysis, we’d examine all open price points and all viable combinations of the Features considering risk as well, searching for the best potential configuration.

Watch this video to see the analytical steps in action:

Announcing The Hypernomics YouTube Channel

It is the obvious which is so difficult to see most of the time.
Isaac Asimov, I, Robot

Here’s a question with a seemingly obvious answer:  How many stocks are part of the S&P 500?  If you guessed 500, you’d be close, as there are 504 companies listed there today.

You likely know that not all S&P companies have issued the same number of shares, nor do all share price match.  Too obvious?  Not really.

Consider what you were undoubtedly told if you ever took an economics class.  According to Paul Samuelson (Economics, 9th Ed., p. 63), “the equilibrium price, i.e., the only price that can last…must be at the intersection point of supply and demand curves.”  Samuelson would have you believe markets have but one equilibrium point.

But we know that is nonsense:  504 stocks in the S&P 500 form 504 quantity and price pairs.  While they are viable, all, in the language of Hypernomics, enjoy sustainable disequilibrium as their stock prices exceed their costs.

What’s really going on?  It turns out the value of products goes up as producers add features customers like.  At the same time, as prices go up, quantities sold fall.  To see this phenomenon, one must employ Hypernomics.

To find out how this works with as many as 8 dimensions, go to our new Hypernomics YouTube channel here:

#hypernomics #marketanalysis #prices #demand

Assumptions vs. Observations: The A380

Assumptions are what we don’t know we are making.
Douglas Adams

Launched in 2000, the Airbus ceased its A380 (A) production in December 2021, as the 251st unit rolled off the line.  That’s lots of big jets. But, their 20-year goal was 1250.  How did it go so wrong?

Assumptions are what we don’t know we are making – Douglas Adams

Launched in 2000, the Airbus ceased its A380 (A) production in December 2021, as the 251st unit rolled off the line.  That’s lots of big jets. But, their 20-year goal was 1250. How did it go so wrong?

Many pundits claim they knew it wouldn’t make its target.  Most appeared when the program floundered late in its lifespan.  What would it take to predict its future in advance?

Projects often use 1) business case analyses and 2) customer polls to “verify it pencils out.”  That works if 1) analysts conceive those cases fairly and 2) buyers convert at or above a target sales figure.

What if we don’t have to rely on those techniques?

To forecast the next 20 years, study the last 20.  As B reveals (summing all model types to base versions), the airliner market had a poorly correlated (Adj R^2 0.458) yet statistically significant (P-Value 0.035) Demand Frontier over that period.  Airbus’s target was nearly ten standard deviations past it.

The A380 took €25B to develop. It didn’t recoup its investment. Take time to model markets in advance. See what a market did to bound what it will do. You may not like the answers, but it beats losing billions.

#A380 #demandfrontier #hypernomics

Market And Demand Formation

Tesla is here to stay and keep fighting for the electric car revolution.
Elon Musk

How do markets form?  What happens when they do?  Let’s look.

The modern mass-produced electric car market began in 2009.  As Figure A displays, there was a sole entrant then, the Mitsubishi i-MiEV.  By 2012, in Figure B, many more entrants came into play.  Three years later, with Figure C, prices for most models fell, and they attracted more customers.  Producers were able to drop prices because their production lines displayed learning curve effects.  They benefited from lower costs from more efficient workers, standardization, economies of scale, and other factors.

Figure D shows us that by 2018, many new models moved into the market.  Several models (all Teslas, marked with the yellow dots) combined to form the market’s Demand Frontier.  That line is highly correlated (adjusted R2 95.4%, P-value 5.04E-04) and relatively flat, with a slope of -0.36.

In 2019, electric car sales fell about 10% from 2018, despite Tesla’s Model 3 success.  Given the flattish Demand Curve, that suggests buyers would be eager for a high-range vehicle with a price lower than the Model 3.  All competitors priced less than the cheapest Model 3 have less range than it does.

#demand #marketanalysis #marketformation #demandformation #demandplanning #curve

Abiding By Minimums

One bourbon, one scotch, one beer – George Thorogood

In addition to all the great music he made, George Thorogood knew when he wasn’t drinking alone, he could move it on over to his local tavern and abide by their two-drink minimum.

Bar owners found enforcing that requirement necessary to keep them in business when they had entertainment. Who wants free riders when you can find those who will pay?

Hypernomics knows that minimum requirements are just as crucial as those dealing with maximums. Businesses go under if they don’t make enough sales – we’ll have more on that in the future.

Military forces have similar considerations. The United States Air Force found that spreading their aircraft around gave them more flexibility to fly to distal locations. They typically group aircraft into squadrons of 12 or 24 planes. But, when it came to the B-2, they found themselves at a loss.

As its price soared past the $330M/unit limit backing the 132 bombers they wanted, they got 21 B-2s at $1.2B each instead. With so few, they put them all at a single site, Missouri’s Whiteman Air Force Base, losing flexibility and response time in the process.

Too often, as we try to get everything we want, we lose sight of what we need.

#hypernomics #minimum #markets

Hypernomics 1, Funny Math 0

“Everybody funny, now you funny too” – George Thorogood

This is sad.

In December, I showed how the Aerion AS2, A, had a 1 in 40 chance of making its sales goal of 300 supersonic business jets at $120M in 10 years.

They shut down Friday.

Crucially, all 55 aircraft over $80M that sold over the ten years in Figure C were specially modified “green” airliners, based on long-standing Boeing and Airbus models. Each one requires only a few million added dollars in design and modifications, a tiny fraction of the AS-2’s estimated $4 billion development cost.

Aerion said that “in the current financial environment, it has proven hugely challenging to close on …large new capital requirements to finalize the transition of the AS2 into production.” That hints they are pointing to the pandemic as their primary dilemma.

But the low sales for the Concorde (B) reveal a more pervasive problem. Yes, it was worth every penny spent on it, as its buyers confirmed when they bought them. The issue for the Concorde then and the AS2 now is that there are not enough pennies to go around to make the optimistic sales goals each company set.

Demand analysis lets you know that before you spend $1B and find out the hard way.

#hypernomics #demand #market #aerionAS2

Paying for High Ground

You can observe a lot by just watching – Yogi Berra

My wife, mother-in-law, and I took a cruise on the Danube and Rhine rivers a few years ago and saw several castles along the way. Scaling one with a tour guide, we noticed there were remote towers of the same construction in different directions atop nearby hills. I asked if they were part of the same realm. Sure, the guide said, that’s how they got early warnings back then.

What will someone pay to increase their field of view? Hypernomics provides us insight.

Global Hawk (A) is the most expensive Unmanned Aerial Vehicle (UAV) in the United States inventory. With a flyaway cost of $147M, we’ve managed to buy 42 of them. We’ve also bought 40 of the Global Positioning Satellite (GPS) IIR (B) at $156M apiece. What a coincidence!

Or is it?

We plot quantities and prices for UAVs and civilian satellites in C. While UAVs surveil or attack, satellites not belonging solely to the military survey the weather (GOES and NOAA) or offer positions (GPS) or communications (Starlink). Note UAVs and satellites abide by the same Demand Frontier. Our readiness to buy them goes to a point along that curve and stops there. I wonder where watchtowers lie.

#hypernomics #markets #innovation #sales #demand

Cost in Space

The impossible happens all the time – Will Robinson, Lost In Space 2018 TV series

Want to be an astronaut? If you’d like to do that for NASA, it’s nearly impossible. Need to swing the odds in your favor? Now you can.

Hypernomics says, if you can’t beat the game, change it.

Several firms are doing just that right now. Virgin Galactic (A) has booked 600 people to take 2 to 3-hour rides that will, for a few minutes, surpass the Karman Line, 100 km above sea level, which defines the boundary of Space. That goes for $250K/person.

Perhaps you’d like to go higher and longer. For about $28M/person, you can book a ride up to the ISS for a week or so with Space Adventures (B), return flight included. The same company has secured two unnamed travelers to a lunar orbit mission (C) for $167M. As D reveals, these missions lie on the same Demand line.

E reveals the Apollo 10 lunar orbit was costly, about $1B/seat in today’s dollars. As the industry got smarter, costs fell. Note in E that 3 seats in the Soyuz capsule fell on virtually the same Demand line as that for commercial Space in D, as will the 6 places aboard the Space Dragon from SpaceX (E’s slope is almost unchanged from D, the intercept went up by 3.3%).

#hypernomics #markets #innovation #sales #demand

Triple Limited Demand

And he writhed inside at what seemed the cruelty and unfairness of the demand – C.L. Lewis.

Many products sink due to scarce sales. Uninspected, market boundaries seem murky.

Hypernomics can project at least three demand limits before entry, reducing the chance of overreach.

Pilatus makes the PC-12. It’s the best-selling business aircraft model (1st limit). Part of its appeal is that, by some measures (not shown), it sells for less than what it could command. The relatively low price boosts sales and shapes the statistically significant (P-value 1.5%) Outer Demand Frontier, a saturation limit the market collectively creates.

In 1981 car buyers revealed a Product Demand Curve (P-value 2.00E-05), a term applied to all models (2nd limit). If a given model were popular enough (as the Porsche 911C and BMW 528i), it would eventually find itself limited by the Upper Demand Frontier (P-value 0.01%), as it helps form a communal price limitation.

If a Product Demand (Price) Curve is steeper (more negative) than its related Unit (Recurring) Cost Curve, they may eventually intersect. If cost >= price, a line stops, as it is no longer be profitable, as was the case for the Ford Model T (3rd limit).

#hypernomics #markets #innovation #sales #demand

Problem? What Problem?

A mathematical problem should be difficult to entice us, yet not completely inaccessible. It should be a guidepost on the mazy paths to hidden truths. – David Hilbert

In a space-limited outdoor diner we visited a while ago, we observed the seating arrangement in A. They had two tables for two and ten for four. Seven of the four-place tables had parties of two. So, I wondered – is the setup they had the best for the crowd they faced?

A report I found (see below) noted that restaurant parties of two outnumber four-person parties by over two to one. On average, there should be more tables set up for couples than for larger groups.

But the average condition may not be the usual one. Or the one they faced.

What to do?

Suppose the four left-most tables were modular. The establishment could separate them into eight two-place setups. Then they could seat all seven of their two-person parties and put a two-top in storage. Their capacity would go down by two (at least temporarily), but, in the case shown, occupancy could go up by 30%, as we see in B.

Restaurants make money through occupancy, not capacity. It’s important to know what problem you need to solve.

#sales #demand #restaurants #business #success #management #problemsolving