We start our journey with the concept of “Noise” because noise creates difficult problems with the objective and rigorous understanding of firm valuation and value creation.
The problem manifests in the Noise/Insight Ratio Model. Statistically “noise” is unexplained variability within a data sample which degrades the quality and usefulness of any insight (signal) and the data itself.
While the insight may be present, it can be obscured by the noise from random data and produces “unstructured text.” Unstructured Text (Data) is random and without a predefined format. Simply put, the text or data is meaningless. The goal is to see the signal (Insight). At the least, Noise hides the needed insight. At worst Noise facilitates misinformation, confusion and any judgement made upon such “unstructured text.”
TPV uses the Noise/Insight Ratio concept in the processes of analyzing company value by defining Noise as any distraction from objectively evaluating company value or running the business at an optimum level. We will explore internal and external noise and how those distractions may impede company performance and, as a result, firm value. At this point, it is easiest to think of noise as a key source of confusion and misinformation.
As practitioners, a business owner will ask “what is my company worth?” and may have a desired price in mind. However, that desired price may not be based on an objective assessment of the going concern value of the company. The owner’s objectivity can be compromised by misinformation, disinformation, rumor, hearsay, and myth that reaches the owner by media, family, friends and unvetted claims of company value. These are examples of forms unstructured text take.
All such distractions are noise and increase the noise/insight ratio. Noise increases exponentially, while insight may not increase at all, or by small arithmetic increments. As the numerator of the ratio increases and the denominator remains the same, the insight, or signal one is searching for becomes ever harder to see, understand, and appreciate.
The owner must endeavor to block out all noise like Odysseus in the epic Greek Poem, The Odyssey, by Homer, on his sea voyage home from the Trojan War. Odysseus had himself tied to the ship’s mast and his men’s ears filled with wax so as not to hear the siren’s song that would cause Odysseus and his crew to stop at an island, spelling doom for all.
Likewise, the business owner must block off the noise that masks the insights needed to find, appreciate, understand, and reveal the sources of company value creation. This requires discipline not to fall victim to all the noise that surrounds the process.
Avoid distractions. Do not believe everything you hear. Distinguish between good and bad or relevant and irrelevant data.