The Flaw of Averages: Why We Underestimate Risk in the Face of Uncertainty

CHAPTER 9

Mindle 3: Combinations of Uncertain Numbers

On a June morning in 2000, Rick Medress, the president of Cineval LLC, and I sat on the veranda of the Georgian Hotel in Santa Monica, California, looking out across Ocean Avenue to the Pacific. In front of us, Medress’s laptop computer displayed the distribution of the profits of a set of films (Figure 9.1).

Figure 9.1 Distribution of film revenues in millions.

Source: Courtesy of Cineval LLC.

Medress had received a degree in Near Eastern languages from Berkeley, did a stint in the Peace Corps, worked overseas, and then got an MBA from UCLA before ending up at a large New York bank. One of his assignments at the bank was to establish a line of credit for the film company that had produced the 1987 hit Dirty Dancing and several less successful films. From this and similar projects, Medress gained expertise in valuing theatrical and television property rights. After working as an entertainment banker for several years, he founded his own valuation firm, Cineval LLC, in the mid-1990s.

In early 2000, Medress attended a simulation seminar of mine in Palo Alto. During lunch he described how he was putting together an investment in film properties and wondered whether it made sense to simulate the uncertainty of the portfolio for the investors. I told him it would be dereliction of fiduciary duty if he did not run a simulation, and ...