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Anger management is the key

[Link: A young Bill O'Reilly demonstrates the grace under pressure that ultimately led to a successful Fox News broadcasting career.]

In praise of dual-class stock structures for public companies

A dual-class stock structure means that a company has two different classes of common stock. Each class of stock has the same economic ownership of the company, yet different voting rights.

In a typical scenario, Class A shares have a single vote per share, whereas Class B shares have 10 votes per share, for any shareholder vote.

Using this mechanism, for example, the Class B shareholders might only own 20% of the company in economic terms but have a clear majority voting position relative to the Class A shareholders.

In short, Class A shareholders have shares labeled with the earlier letter in the alphabet, but Class B shareholders control the company -- in stark contrast to the more normal single-class stock structure which is more classically democratic: "one share, one vote". Since Class B shareholders will typically be some set of founding management or founding investors in the company, in practice the presence of a dual-class stock structure means that the founders control the company and can overrule all other shareholders on a wide range of issues, including if and when to sell the company.

Both public and private companies can have dual-class stock structures, but the controversy around dual-class stock structures is usually confined to public companies, due to the presence of public shareholders. And so I will focus purely on public companies.

I used to be an absolutist against dual-class stock structures -- I used to believe that dual-class stock structures were obviously a bad idea, that the democratic single-class approach of "one share, one vote" was more fair to public investors and more likely to lead to a healthy company in the long run, since total founder control of a public company can allow the founders to overrule normal market forces and the interests of their public shareholders.

And in fact, practically all investor advocates and shareholder activists agree with that stance -- dual-class stock structures are at the top of the list of techniques that entrenched managers can use to foil the normal market discipline of a public stock, and to frustrate outside public shareholders who can easily become disenfranchised even when they have majority ownership of a company... with a long-run outcome similar to the kind of insularity and inbreeding you find in royal families. These days, the New York Times Company has of course become the poster child for entrenched bad management operating against the interests of their public shareholders due to its dual-class stock structure -- how could anyone possibly be in favor of that?

And on the face of it, a dual-class stock structure simply seems unfair -- how can someone own part of something but have a tenth of the rights of someone else who owns the same amount?

After 15 years in the technology industry, though, I have done a complete 180-degree turn on the topic -- with some caveats.

I come not to bury dual-class stock structures, but to praise them.

I now believe that dual-class stock structures are a great idea for a technology company that is in the process of going public, under the following conditions:

• The key leaders of the company -- typically the founders -- who will own the controlling Class B shares, are also major economic shareholders in the company. They own a significant portion of the company and are therefore highly incented to maximize the value of the company over time.
• The key leaders of the company who own the controlling Class B shares have a long-term goal of building a major franchise, and the commitment required to execute against that goal.
• The controlling Class B shareholders have a commitment to treat Class A shareholders fairly and equally in all respects other than voting power.
• All public shareholders understand what they are getting into up front -- no bait and switch.

The key to the whole thing is shared goals -- particularly the shared goal of long-term value creation, particularly the creation of a long-term franchise, the kind of franchise that can require 10 years or longer to build.

With such goals, I now believe the interests of public shareholders will often be better served by ceding voting control to the founders and key leaders of the company.

This is a provocative statement, so let me back it up.

In practice, the world at large, the markets in which companies operate, and Wall Street in particular, throw up all kinds of short- and medium-term noise in the face of every public company, all the time.

And in fact, my sense is that the level of such noise is steadily increasing for about a dozen different reasons, including but not limited to the proliferation of hedge funds, buyout funds, arbitrage funds, corporate raiders, shareholder activists, shareholder representation firms like ISS, sell-side analysts, cable television financial news, financial web sites, Internet message boards, online stock trading, increased consumer interest in stocks and markets, and visibly shortening investor time horizons across the entire landscape.

When you are running a public company, here are some of the things that get routinely thrown at you that have practically nothing to do with building a long-term franchise:

• Stock market booms and busts -- the stock market is bipolar; it doesn't matter what finance academics say about efficient markets, everyone knows greed and fear whipsaw the market around all the time.
• Economic booms and busts -- e.g. this ridiculous credit crisis and real estate fiasco. Modern economies are apparently characterized by one self-inflicted crisis after another. And even when you're not directly affected by a particular crisis, if you're running a public company, you're probably going to be indirectly affected, often for no good reason aside from the universe's desire to inflict collateral damage.
• Hedge funds aggressively short-term buying and shorting stocks for the quick pop, and often spreading malicious and untrue rumors along the way. I'm no Patrick Byrne, but every CEO of a public company regularly contends with just silly rumors all the time that are obviously being spread by someone talking their book, or rather lying their book -- and SEC oversight of such market manipulation is almost completely absent.
• Leveraged buyout funds that make apparently attractive buyout offers financed with massive amounts of debt, and then strip-mine the company for fees and dividends before sending it back out into the public markets weaker than before. These guys are wonderfully skilled at paying themselves; on average, their franchise-building skills are questionable at best.
• Corporate raiders of various stripes. I'll certainly grant that corporate raiders as a category have probably been good for capitalism as compared to the clubby Fortune 500 status quo of the 1970's, but when a raider gets his hooks into your public company, he's only in it for the quick pop, and he'll agitate to get it acquired as fast as possible.
• Hostile takeovers -- which may provide a quick payoff to current investors but which definitively bring to an end any opportunity to build a long-term franchise.
• The intense quarterly earnings guessing game that you end up playing even if you don't want to -- even if you refuse to issue guidance, and perhaps especially if you refuse to issue guidance, in which case Wall Street just goes ahead and sets expectations for you without consulting you. The vertiginous stock drop that follows "missing your numbers" can actually damage your company -- you wouldn't believe how many customers check Yahoo Finance before each sales call.
• Financial journalists -- who can be outstanding writers with journalism degrees from the best schools, and in many cases know almost nothing about the companies they are covering or the products those companies make, which does not keep them from writing all kinds of nonsense. High-quality business journalism is distinctly the exception, not the rule; every CEO knows it, and the noise from inaccurate bad press can again actually damage your company.
• And then, finally, pure good old fashioned company-specific fluctuations -- sometimes things are going well, sometimes they're going poorly. If you're building a franchise, that's OK, and even to be expected; you just need to power through the rough patch. However, if you're subject to short-term market demands, a rough patch can kill your dreams amazingly quickly.

All of these things can meaningfully interfere with long-term value creation, particularly if you are trying to build a long-term franchise.

The huge advantage of a dual-class stock structure is that it lets the company's core management simply ignore most of this stuff and stay focused on the long-term goal.

What's the ideal situation for a public shareholder with a long-term time horizon? To invest in a company whose leaders are highly motivated to build long-term value -- to grow the value of the company 10x or 100x or 1,000x -- not flip it to the first interested acquirer for a quick pop, or even the fifth, or the tenth. And therefore to invest in a company whose leaders have the ability to pursue building for the long term, versus getting constantly compromised by short-term market noise.

At this point, if you listen closely, you can hear the howls of outrage. They are saying, how can shareholders expect to countenance being effectively powerless?

And of course the answer is alignment of goals.

Investors that have short-term goals, or even medium-term goals, shouldn't invest in public companies with dual-class stock structures. Remember, I'm presuming no bait and switch. You are always free to not invest in any company for any reason, including this reason.

But, if you're an investor with a long-term time horizon, you will, I believe, be best served investing in companies with a similar long-term time horizon.

The best part of taking this position is that I get to roll out the big gun: Warren Buffett similarly advocates dual-class stock structures for precisely this reason, and puts his money where his mouth is -- he famously has been a long-term investor in the Washington Post Company, for example, which has a dual-class stock structure that gives the Graham family total control, and which has been a stellar long-term investment for Berkshire Hathaway.

Now, dual-class stock structures have been customary in the media industry for a long time, but are relatively new to the technology industry. The most prominent example of a public technology company with a dual-class stock structure is of course Google, whose structure puts total voting control of the company in the hands of Larry Page, Sergey Brin, and Eric Schmidt. Corresponding to that, Larry, Sergey, and Eric have made a 20-year commitment to Google, and are clearly pursuing the goal of building a long-term franchise.

As far as I can tell, shareholders haven't exactly been scared off from investing in Google as a result.

If anything -- and I haven't done a statistical analysis of this, but just look at the charts and the stock prices of this decade -- Google may actually be getting a premium in the market due to its dual-class share structure, as investors are able to make a clean bet on long-term value creation, and they know that the core team can just put their heads down and power through any short-term nonsense.

I think Google has changed the rules on this topic -- I think many technology companies, certainly the ones with high potential, that go public over the next decade will have dual-class stock structures, due in part to the Google precedent.

On to some practical questions:

Don't companies with dual-class stock structures risk limiting their access to capital if they are only attracting long-term investors?

Perhaps, but again, Google is a clear counterexample. You can hardly say it's been starved for capital.

More generally, I would say that this question reflects the fact that companies with dual-class stock structures are still subject to market discipline. If the market overall doesn't like the dual-stock structure, it can refuse to provide capital to those companies, and instead provide that capital to companies with shorter-term objectives and more outside shareholder control. But I don't predict that will happen, and I would be willing to bet my own company on that.

Viewed systemically, dual-class stock structures are an alternative governance model that can compete in the open market for capital with other governance models. Capital will flow appropriately. All is good.

How would you apply this to the drama unfolding around Microsoft and Yahoo?

Well, clearly, if Jerry Yang and David Filo had dual-class-powered voting control of Yahoo, the whole situation there would be playing out very differently.

Microsoft would have been forced to negotiate a purely friendly deal from the very start, and at a price that would have caught Jerry and David's attention from the start. Hostile threats would have been meaningless. Had a deal gone down, it would have been on Jerry and David's terms, and the premium might have been even higher than a normal process would generate, since Jerry and David would have had the perfect walkaway option: we're not selling, and there is no appeal -- pay up or shut up. And the company could have been entirely focused on current operations the whole time -- no distraction.

But what about the outside shareholders? Several of Yahoo's largest outside shareholders -- including one who owns 16% of the company, four times the amount Jerry himself owns -- are in the national press tonight saying, we are furious Yahoo didn't sell for $34/share when Microsoft was already offering $33/share.

The obvious answer: in the alternate scenario with a dual-stock structure and founder control, those outside shareholders would not have invested in Yahoo in the first place, unless they believed Yahoo had a valid plan for long-term value creation and building a franchise.

If, in that alternate scenario, investors didn't believe Yahoo had a valid plan for long-term value creation, then that's another matter. There would be no excuse for that. But that would be a very different problem that would apply regardless of stock structure.

In point of fact, many of Yahoo's largest shareholders today are also, or have been in the past, major Google shareholders. Clearly Google's dual-class structure didn't scare them or their peers off at any point I could see -- instead, Google shareholders seem delighted to be aligned with a core team that has the control to execute a long-term plan.

And here's the kicker: it's not like outside shareholders in Yahoo, even though they own over 70% economic and voting control in the company, can just make the company do whatever they want -- as you can see from all their frustration in the press tonight. Sure, the outside shareholders as a group will ultimately get whatever they want, up to and including a sale to Microsoft, but they may have to put up a significant fight to do so, and that fight may require a significant amount of time and effort, with significant opportunity cost. And along the way, the process has been and will be characterized by confusion, ambiguity, and uncertainty. The whole thing is clearly a massive distraction to any form of long-term value creation to the point where even Microsoft believes Yahoo is risking damaging its long-term prospects by reacting to Microsoft's hostile public bid. So it's hard for me to see how a single-class share structure is nirvana for anyone in a situation like this.

So what about the New York Times Company?

Well, it is true that the New York Times Company and similar failing newspaper companies -- most of them, except for the Washington Post Company with its superior diversification -- with dual-class stock structures are not exactly good investments today, since their entrenched management teams can fight off shareholder activists and hostile takeovers indefinitely while riding their declining franchises straight into the ground.

But on the other hand, it's not like you couldn't have seen it coming. Every investor in any declining dual-stock media company today knew they were buying into that stock structure and did it with their eyes open. And any investor still holding stock in such a company has been aware of the Internet for 15 years and has been able to track the performance of the company's management team in dealing with the Internet over that entire time. Certainly it's possible to be delusional about your investment and think that recovery is right around the corner, but you can't blame the stock structure for that delusion.

And remember, the New York Times Company had its dual-class stock structure for decades, and for much of that time, ordinary investors would have done very well to own its shares. It just so happens that the wrenching technology shift that is causing so much trouble coincided with a generation of managers who are unprepared to deal with it. That's life.

So I think the fate of the dual-stock media companies has a lot more to do with the "media company" part of it and a lot less to do with the "dual-stock" part of it. The only investors mad about the dual-stock part -- well, the non-delusional ones -- are the ones who want the short-term stock pop from a sale to Rupert Murdoch. And those are not the investors you want if you are trying to build a franchise.

What's your recommendation to technology companies that are going public?

Strongly consider implementing a dual-class stock structure, but only under the following conditions:

• The founders are committed to run the company for the long term and want to build a real franchise.
• The founders are also major economic owners of the company.
• The founders have an absolute commitment to treat all other shareholders fairly, and to consider themselves entirely in the same boat economically.
• All public shareholders starting with the IPO know exactly what they are getting into -- no bait and switch.

Under these conditions, a dual-class stock structure is not only an outstanding idea -- I think, for our industry, it may be the future.

Examining Microsoft's and Yahoo's unspoken concerns

In this post, I discuss what I believe are some unspoken concerns that weigh on the decisions both Microsoft and Yahoo are making during this very exciting takeover battle.

Quick status update, largely derived from the excellent Wall Street Journal and its role as official public go-between:

• Various forms of backchannel communication and price negotiation have been happening between the Microsoft and Yahoo teams this week -- including via the press.
• Microsoft and Yahoo still disagree on price -- Microsoft is at about $33/share and Yahoo is holding out for about $36/share, maybe more -- and probably other issues, some of which I discuss in this post.
• Microsoft is threatening to launch its first truly hostile volley tomorrow unless the Yahoo board agrees to whatever deal is on the table now.
• Yahoo is still working hard to convince its institutional investors -- who control the company's ultimate destiny -- that it can thrive standalone. Most notably, Yahoo is apparently close to an ad pact with Google that could significantly boost Yahoo's independent revenue and margins.

Now, reading a lot of the press coverage, you would think that the current standoff is all about Yahoo's desire to stay independent, plus price. I think that misses the unspoken and quite complex issues that are likely bedeviling the boards of both companies as they wargame the various scenarios that could play out from here.

First, I think there is a very big and very real nonobvious concern that is a major roadblock to Yahoo accepting a Microsoft offer at almost any price:

A deal could be negotiated and announced and then fail to close.

The consequences of this scenario to Yahoo would be devastating, and it very well might happen.

Big mergers and acquisitions, particularly among public companies, particularly among public companies that have large shares of their respective markets, can take a year or more between the day the deal is signed and announced, to the day the deal is actually executed and closed.

During that year plus, all kinds of things can happen that could cause the deal to fall apart.

Microsoft and Yahoo will have to get approval from various US regulatory agencies, including some combination of the Federal Trade Commission and the Department of Justice. This approval process will likely be rigorous, due to both companies' large market shares and because of Microsoft's historical antitrust issues. The US government could disallow the merger entirely, like when Microsoft tried to buy Intuit in the 1990's, or impose conditions on the merger that would render it infeasible, and the deal could collapse.

Microsoft and Yahoo will also, as global companies, presumably need to get approval in other jurisdictions -- certainly the European Union. The EU is currently harsher on these issues, and on Microsoft in particular, than the US government. If the EU refuses to approve the merger, or imposes various adverse conditions on it, the deal could collapse.

Microsoft shareholders could revolt. Opinions among the Microsoft employee ranks, executive team, and shareholder base vary wildly on the pros and cons of this takeover. Microsoft stock has been flat for years. A shareholder revolt could cause all kinds of changes at Microsoft, and the deal could collapse.

The broader economy could cave in and we could enter a serious recession. Some people think that's fairly likely. If that happens, it could significantly change all kinds of assumptions that are built into the business rationale for this takeover, and the deal could collapse.

Microsoft could simply get cold feet for its own reasons. Perhaps during the closing process it discovers new information about Yahoo and decides the deal is a really bad idea. A conspiracy theorist might even say that Microsoft could choose to walk away at the last minute in order to permanently and deliberately cripple Yahoo -- and such a conspiracy theorist could point to a few almost-mergers in Microsoft's history that could justify such a fear. I am not saying that I am such a conspiracy theorist, but in all seriousness I bet there are at least a couple of them on Yahoo's board right now. In such scenarios, the deal could collapse.

Typically, an acquisition target tries to wrap the merger agreement as tightly as possible to prevent any scenario where the deal collapses. For example, one can specify a large breakup fee, which the acquiror would have to pay to the target. In a merger like this, the breakup fee could be in the billions of dollars. And of course litigation is reasonably likely in the wake of a deal collapse, especially if one side believes the other side has explicitly violated a binding contract.

However, none of those protections actually protect Yahoo all that well in the event that the deal collapses because it is disallowed by a government. And further, none of those protections actually do that much to protect Yahoo all that well even if the deal collapses for other reasons. Here's why:

The minute a merger agreement is signed, an enormous amount of focus, time, and effort at the target company is redirected towards the implications of the merger. Legally both companies are supposed to continue to operate as fully independent companies with independent strategies until the merger closes, but in practice, a lot of people in the target company are going to be highly preoccupied -- whether with formal roles in integration planning, or just due to the general distraction and anxiety that would be prompted in the halls at Yahoo at the prospect of actually being merged into Microsoft. It is extraordinarily difficult for a management team at such a time to keep an employee base focused on the standalone business -- in fact, I think it's basically impossible.

So imagine what happens if the deal is signed, a significant percentage of Yahoo's internal bandwidth over the next 12 months refocuses onto the implications of the merger, and the deal collapses. Yahoo would be simultaneously behind in many of the key initiatives it would have normally pursued to be competitive as a standalone company, and highly disorganized, fragmented, and demoralized for the Microsoft-less road ahead.

Suppose the deal collapse triggers a big breakup fee -- suppose $3 billion in breakup fee cash drops into Yahoo's lap. So what? A traumatized corporate victim of merger interruptus is going to have far larger problems than cash, even a large amount of cash, can fix. Same with a lawsuit.

There are other things that Microsoft could do to offset these concerns.

The most obvious thing Microsoft could do is execute a commercial agreement with Yahoo simultaneous with a merger agreement. The commercial agreement would require Microsoft to shut down its own Internet efforts and instead use Yahoo's -- completely independent of the merger. Microsoft Search would shut down and Microsoft would point all of its users at Yahoo Search, and so on for all of the various overlapping product lines. Yahoo would of course share revenue with Microsoft in return.

This would almost completely protect Yahoo from all of the collapsed deal scenarios. Even if the deal collapses, Yahoo still has an enormously valuable commercial contract to be Microsoft's de facto Internet arm -- in essence, that contract is Yahoo's compensation for taking on the risk of the merger going through.

You can also see why Microsoft wouldn't want to agree to this.

Other than that, the Yahoo board may be simply trying to get Microsoft to pay a higher price than even Yahoo thinks their company is worth, in order to offset this risk. There obviously would be a price that would be so good that the merger close risk would be worth taking. I'm not sure what that price is, I'm not sure whether Yahoo's institutional shareholders are willing to hold out for it, and I'm not sure whether Microsoft will be willing to pay it.

But we're probably going to find out.

There is another, related, enormous issue in Microsoft's mind.

That is the issue of timing of the regulatory approval process.

If the entire merger could be approved and closed before the new US president takes office in January 2009, that would be wonderful for Microsoft.

I think that's one of the reasons why Microsoft made their offer when they did -- in January 2008, a full year before the US presidential handover.

I also think that's one of the reasons Microsoft is so frustrated with Yahoo's apparent sluggishness -- dragging this into May at the very earliest for a negotiated deal.

I also think that's one of the reasons why Yahoo has been so apparently sluggish -- Yahoo is probably thinking that the longer this gets dragged out, the less likely the deal could be approved before the US presidential handover, and therefore the less likely Microsoft is going to consider it a clean deal, and the less likely Microsoft is going to want to go through with it.

Because just like Yahoo is worried about the consequences if the deal falls through -- so is Microsoft, one would imagine, for many of the same reasons. Merger interruptus bites both ways.

What's the big deal with the US presidential handover? The Bush administration is known to be quite friendly to large companies, large mergers, and Microsoft. Any Democratic administration would probably be notably more hostile to this kind of merger than the current regime. And even a McCain administration might have different views from the current government -- who knows? That very uncertainty is the issue.

The most likely outcome of the arrival of a new US administration is that a merger like this certainly won't become more likely to be approved, and will possibly, or probably, become less likely to succeed.

There are a few other implications one can draw from this.

One is that Microsoft probably would have been willing to pay more for a friendly deal early in this process, when there was more time to get the deal closed before January 2009.

Yahoo may have operated against its own best interest in getting the optimum friendly price by delaying so long.

On the other hand, Yahoo may be pushing the timing out so far that Microsoft will become increasingly disincented to proceed.

Or, perhaps this is why Microsoft hasn't yet gone fully hostile -- they don't want to risk prolonging the approval process, and a hostile takeover will certainly take longer than a friendly one.

And, correspondingly, if Microsoft does go hostile, it will be a very real expression of Microsoft's need to do this deal despite considerable risk that a new US administration, particularly a Democratic one, would not permit it to proceed.

More to come!

Don't fool yourself -- they're coming for us

[Link: Watch a robot reassemble itself without human help.]

If Microsoft goes fully hostile on Yahoo

[Revision 1.1; see change log at the end of the post.]

We have seen extensive press coverage of Microsoft's pursuit of Yahoo over the last few months, including notably excellent coverage from Silicon Alley Insider and the Wall Street Journal. However, I have not seen a detailed analysis of how a full hostile takeover might play out -- the kind of analysis that you would be receiving if you were a Microsoft or Yahoo board member.

So I asked a pair of expert corporate attorneys -- Michael Sullivan and Ed Deibert at Howard Rice Nemerovski Canady Falk and Rabkin in San Francisco -- to work up such an analysis. What follows is their take blended with my commentary. (Any factual errors have been caused by my edits to their work. This is complex stuff -- if you are a corporate attorney or investment banker and notice any errors, please email me: pmarcablog (at) gmail (dot) com.)

First, a wrapup of events to date:

Recall that Microsoft has offered to acquire Yahoo for 50% cash and 50% Microsoft stock. Given Microsoft's current trading price of $29.83 -- which is a little lower than when this all started -- the current offer value works out to $29.68 per Yahoo share. (You can track this day by day via Silicon Alley Insider's excellent bid calculator.)

Yahoo stock closed on Friday at $26.80 per share. The difference between that and the Microsoft offer price is $2.88, or about a 9.7% discount to the offer. That discount reflects the stock market's collective estimate of the odds of the deal not happening -- or, alternately, of Microsoft's stock falling further if the deal proceeds, or, alternately, of Microsoft lowering its offer.

At the time of the original offer -- January 31 -- Yahoo stock was trading at $19.18 per share. Microsoft's offer at that time represented a 62% premium. Since then, both the S&P 500 and NASDAQ indices are roughly flat, so it's reasonable to assume that if Microsoft pulls its offer now, Yahoo's stock will revert to approximately $19.18 per share -- perhaps a little higher if shareholders are more encouraged by Yahoo's standalone prospects now versus before, and perhaps a little lower if shareholders are less encouraged.

Three weeks ago, Microsoft set a deadline of last Saturday for the Yahoo board to accept its offer. Yahoo's board did not agree to the deal. In Microsoft's words: "If we have not concluded an agreement within the next three weeks, we will be compelled to take our case directly to your shareholders, including the initiation of a proxy contest to elect an alternative slate of directors for the Yahoo! board." Microsoft has also threatened to lower the offer price, but on the other hand Microsoft has also said in recent days that it might walk away from the deal. Microsoft also insists it will not raise its bid.

External factors are more or less the same as they were when the bid was originally made. There have been no alternate bids for Yahoo from any other companies in any form. Microsoft has signalled weakness in their own Internet business and lowered their 2008 Internet revenue estimates; this may reflect an oncoming recession, may be specific to Microsoft, or may represent a form of posturing in the negotiation.

The possible scenarios from here, in roughly decreasing order of probability, include:

• Hostile Takeover: Microsoft moves forward with a full-fledged hostile takeover -- trying to replace Yahoo's board and/or taking its offer directly to Yahoo's shareholders.
• Higher Offer: Microsoft raises its offer or otherwise modifies its offer terms to make them more attractive -- for example, Microsoft could shift to an all-cash offer -- in an attempt to make the deal happen without going fully hostile.
• Walk Away: Microsoft drops its offer and walks away; Yahoo's stock drops to its pre-offer level of $19.18, give or take. Lots of moves and countermoves could follow: Microsoft could come back later with a lower or higher offer; Yahoo could cut a Google advertising deal to boost its revenue and margins and make itself harder to buy; Microsoft could take its $44 billion and go buy virtually every new Internet company of any consequence founded in the last 10 years; etc.
• Yahoo Caves: Yahoo's board caves and accepts the current Microsoft offer.
• White Knight: Another bidder enters and offers Yahoo a higher price.

Let's assume the Hostile Takeover scenario, which seems to me to be the most likely given Microsoft's strategy and explicit public statements. What happens then?

There are two primary hostile takeover tactics:

• A tender offer, which we can equivalently call an exchange offer since the offer includes Microsoft stock that would be exchanged for Yahoo stock. This would be an offer by Microsoft to acquire Yahoo shares from existing Yahoo shareholders directly. Note that this hasn't happened yet; Microsoft's offer up until now has been made to Yahoo the company -- in a tender offer, the offer would be made directly to Yahoo's shareholders.
• A proxy fight by Microsoft to take control of Yahoo's board of directors -- to put in place a new Yahoo board that would accept Microsoft's current offer.

These two tactics could be used alone or in tandem.

In the case of a tender offer: if shareholders owning more than 50% of Yahoo's shares agree to the offer, Microsoft gains control of Yahoo directly.

(Actually, Microsoft probably wouldn't need to own a full 50% of Yahoo's shares -- it could own, say, 40% and then have effective control, because only one-sixth of Yahoo's remaining shareholders would have to vote with Microsoft on any issue in order for Microsoft to exercise control.)

Yahoo's best defense against a tender offer is its poison pill. The poison pill works like this: if Microsoft acquires more than 15% of Yahoo without Yahoo board approval, the poison pill kicks in and issues a flood of new Yahoo stock into the market in such a way that Yahoo becomes much more difficult and expensive to buy. Poison pills have been used as defensive mechanisms by public companies against hostile takeovers for years, and the dilution they cause is so huge that no poison pill of this type has ever been triggered.

Rather than trigger the poison pill, Microsoft would most likely condition its tender offer on Yahoo's board cancelling its poison pill. If the Yahoo board refused to cancel the poison pill, Microsoft could sue in a Delaware court to force a cancellation of the pill. (Any and all litigation to force Yahoo to come to terms will be in Delaware, since that is where Yahoo is incorporated.)

Delaware courts give some deference to target boards in resisting hostile takeovers, especially in the early stages of a takeover fight, but in many cases the courts have been unwilling to allow targets to "just say no" in the face of a well-financed offer at a significant premium -- which is the situation Yahoo is facing. It's impossible to predict what a court will do, but Delaware courts are more likely to force a poison pill to be cancelled when a target board has had plenty of time to drum up alternatives to the hostile offer, and where the hostile offer is well-financed and represents a significant premium to the company. This gets even more likely if the bidder has raised its price during the process, which hasn't happened here -- yet.

In the case of a proxy fight, which Microsoft has overtly threatened: Microsoft would nominate an alternate slate of directors for election to the Yahoo board in place of the current directors. If Yahoo shareholders favor the Microsoft bid, they can vote for Microsoft's alternate directors, who -- if elected to Yahoo's board -- would approve the Microsoft bid.

A proxy fight may have special appeal for Microsoft for a couple of reasons.

First, it could work in one fell swoop.

Many public companies have a "staggered" board, where some directors are up for election or reelection each year, but the entire board is never up for reelection in a single year.

Yahoo, however, has its entire board standing for reelection each year.

In retrospect, this was not a good idea -- whoever set this up at Yahoo made a serious mistake. In a proxy fight with a staggered board, target management can lose a proxy fight and still control two-thirds of the board. In Yahoo's case, if Microsoft wins one proxy fight, it takes out the entire Yahoo board.

It would be practically impossible for Yahoo to change to a staggered board now -- in fact, trying to do so would immediately give Microsoft its opportunity to nominate its slate of directors.

Second, Yahoo can't block a proxy fight via a poison pill or any other mechanism. They can delay it -- a bit -- but they cannot block it.

Microsoft gets control of Yahoo if it puts up a slate of directors for election and they win at Yahoo's 2008 annual meeting. All that is needed for Microsoft's slate to win is to get more votes at the meeting than Yahoo's incumbent directors. Since not all Yahoo shareholders will bother to vote, Microsoft doesn't need a majority of all shares to win -- it just needs more votes.

As it turns out, Microsoft has leaked to the press the fact that it has already assembled a slate of directors who have agreed to run against Yahoo's board in the event Microsoft moves forward with a proxy fight. The Microsoft slate includes several former CEO's, COO's, and CFO's -- individuals certainly qualified to sit on a corporate board.

If Microsoft wins the proxy fight, then its acquisition of Yahoo is probably a foregone conclusion. Microsoft's slate of directors would be expected to vote to cancel the Yahoo poison pill, allowing Microsoft to make its tender offer for Yahoo's shares. However, the new Microsoft-installed board would still have to exercise its fiduciary duties and carefully assess whether the Microsoft offer is in the best interests of Yahoo shareholders -- if the new board acted rashly to rubber-stamp the Microsoft takeover, it could theoretically be sued by pro-Yahoo shareholders, although that lawsuit would be an uphill battle. Further, Yahoo's poison pill would throw some procedural hurdles Microsoft's way: the pill says that for a 180-day period following a successful hostile proxy fight, the new board can only cancel the pill if it follows certain procedures, including getting an independent financial advisor to opine that cancelling the pill is in the shareholder's best interests. All this would do is slow down Microsoft's takeover -- it would still happen.

The shareholder vote on the Microsoft board slate would happen at Yahoo's 2008 annual shareholder meeting.

Yahoo has bought time by amending its bylaws to delay the deadline for making board nominations for this year's board election, and could buy additional time by delaying the date of its 2008 annual shareholder meeting.

Previously, Yahoo board nominations had to be made by March 14. While searching for an alternate bidder, Yahoo did not want to face a proxy fight starting in March, so it amended its bylaws to require board nominations to be made within a 10 day window after Yahoo announces the date for its 2008 annual shareholder meeting.

Yahoo has not yet announced the date for its 2008 annual meeting. However, under Delaware law, Yahoo has to have its annual meeting by July 12 -- the 13-month anniversary of its last annual meeting -- or Microsoft can sue to force a prompt annual meeting. Microsoft would almost certainly win that lawsuit, and the court would probably force a meeting within 60 to 90 days. So Yahoo can at least delay its annual meeting and therefore the board election process until July, and perhaps as late as October if it is willing to force Microsoft to sue to schedule a meeting.

So this may yet come to remind you of the Democratic presidential primary season -- it may last a while.

Other interesting questions:

How is Yahoo's board legally required to think about the Microsoft offer?

Delaware law requires a board to act in the best interests of the company's shareholders. Yahoo's board is not required to take Microsoft's offer, but a fully-financed offer at a 62% premium -- as this offer is -- puts a tremendous amount of pressure on Yahoo's board to take the offer, even if Microsoft doesn't increase the price. I.e. the Yahoo board is not refusing the current offer lightly.

If the Yahoo board continues to refuse Microsoft's offer without a better offer in hand, it could be dealing with shareholder lawsuits for years to come. These would be lawsuits where lawyers who specialize in such claims accuse the board of breaching its fiduciary duties and costing shareholders money as a result. Odds are Yahoo's directors would not be personally at risk, since Yahoo has various indemnity and insurance arrangements in place that protect directors from personal liability. But still, those lawsuits would be no fun.

What happens if another acquiror -- say News Corp. -- enters the bidding with a higher price?

Suppose another bidder, like News Corp., enters the fray and offers $32/share, versus the current $29.68 Microsoft bid. Yahoo's board would of course be free to take the higher bid from News Corp.

On the other hand, suppose Microsoft then raises its bid to $33/share, and then News Corp. holds its bid at $32/share. Could Yahoo's board still take News Corp.'s bid in preference to Microsoft's? In a word: no. When a board is presented with multiple offers, it can either take the highest objective offer or it can turn down all the offers. It cannot take an offer lower than the highest objective offer.

There is a caveat to this: a target board is allowed some leeway in interpreting an offer that consists of the bidder's stock, in whole or in part. So judging objective value can get complicated.

But the upshot is, even if Yahoo gins up another bidder, it still cannot accept an alternate bid if Microsoft's offering price is objectively the highest of the available offers.

Who are the Yahoo shareholders and how are they thinking about this?

Yahoo's shareholder ownership profile is the key to the ultimate outcome of all of this. If a majority of the shareholders want Yahoo to stay independent, it very well might be able to -- or, if not, not.

Insiders, including cofounders Jerry Yang and David Filo, own just over 10% of Yahoo's stock -- not enough to block Microsoft.

Institutional shareholders -- large professional money managers -- own about 72.4% of Yahoo's stock. These institutions, broadly speaking, fall into two categories: normal investors, and arbitrageurs.

Normal investors may want to back Yahoo management, but yet may still be forced to vote in favor of the Microsoft deal since they may be unwilling or unable to stomach the likely fall in Yahoo's stock price if the deal doesn't happen.

Arbitrageurs, on the other hand, are only in the stock to make money on the spread between Yahoo's current stock price and the ultimate offering price of a consummated deal. These are the people who bought Yahoo stock on the day Microsoft's offer was announced, when Yahoo's stock jumped nearly $10 in a single trading session. They will always support a transaction, by definition -- the last thing they want is to be long-term holders of anyone's stock.

It's not clear what percentage of Yahoo's institutional ownership consists of arbitrageurs vs normal investors.

Finally, individual shareholders own the remaining approximately 17% of Yahoo's shares. What they do is always anybody's guess.

In practice, there is a group of about seven or eight large institutional shareholders who will ultimately decide Yahoo's fate.

Would a dual-class share structure have been a good idea for Yahoo?

Yes.

A dual-class share structure is when a company's founding managers or investors own a different kind of stock that gives them voting control of the company even when they don't own a majority of the total shares.

Dual-class share structures have been common for decades in the media industry -- they are the reason the New York Times is still controlled by the Sulzberger family, even as the value of its business plummets towards zero. But they have not been common in the technology industry, where they have been viewed as hostile to normal investors.

However, I think Google has changed all that -- Google has a dual-class share structure that gives Larry Page, Sergey Brin, and Eric Schmidt de facto total control over the company, and investors certainly haven't avoided Google's stock as a result.

Yahoo does not have a dual-class share structure, and it's too late to put one into place now.

If Yahoo did have a dual-class share structure, Yahoo's cofounders would have been much better situated to block Microsoft from attempting a takeover.

You can bet that this is being noticed by the founders of every technology company that might go public from here on out.

What are we learning about hostile takeovers in the technology industry?

We are learning that hostile takeovers have arrived in our industry. This is the second major hostile takeover so far -- the other was Oracle's takeover of Peoplesoft -- but there will be more.

This is significant because historically hostile takeovers practically never happened in technology. Potential hostile acquirors assumed that hostile takeovers wouldn't work because the target company's employees would bail and the target company's business would collapse.

It turns out that as technology companies become larger and more mature, acquirors are becoming increasingly convinced that neither of these assumptions hold. Perhaps employees of large tech companies aren't that bonded to current management, and perhaps many of them would actually prefer to work for a larger, more dominant combined company. And maybe as a consequence, the target's business would do just fine in the wake of a hostile takeover -- in fact, maybe it would do better, due to advantages of combined size and scale.

My bet is that hostile takeovers, particularly of larger and more mature companies, are going to become increasingly common in our industry.

The excitement may be just beginning.

[Change log:

Version 1.1: Cleaned up description of Microsoft's offer terms; tweaked interpretation of Yahoo stock's trading discount; removed paragraph on Yahoo's new employee retention agreement since not particularly relevant to how the hostile takeover might happen. Thanks to commenters!]

Charlie Rose interviews a special guest

For those of us who are fans of Charlie...

[Link: Charlie Rose interviews Charlie Rose.]
[Hat tip: Very Short List.]

Ning news: Series D investment round

We recently filed an SEC-mandated Form D for a new Ning investment round that we were not otherwise going to talk about -- but VentureBeat discovered the filing and so the news is out.

The specifics are:

• We have raised about $60 million net in a private Series D equity round.
• The pre-money valuation was $500 million, making the post-money valuation about $560 million.
• Our friends at Allen & Company helped us orchestrate the round.
• The new investors are large institutions who are not particularly looking for publicity.
• We raised the money to enable us to keep scaling given our accelerating growth (over 230,000 networks on Ning now, growing at over 1,000 per day) and to make sure we have plenty of firepower to survive the oncoming nuclear winter. At current growth rates, we don't need it to get to cash flow positive, but having lived through the last crunch, it's good to be conservative with these things.

Short blogging break

Flu + RSI = blogging break -- back soon!

Why you cannot believe banks' audited financial statements

From the Financial Times:

Rules regarding how banks account for off-balance sheet interests are “irretrievably broken”, a senior group of international rulemakers has warned.

The rules, which have allowed trillions [note the "t" -- not "m" or "b" but "t"] in assets to escape close scrutiny, have come under attack in the wake of the credit crisis as banks have been forced to disclose huge losses on these holdings.

But a report by a high-level group of accountants has warned that completion of the current overhaul of the rules would not be possible in the near future.

“Completing a final standard by mid-2011 will be extremely difficult, perhaps impossible,” says the report seen by the Financial Times and prepared by board members of the US-based Financial Accounting Standards Board and the International Accounting Standards Board.

While the report does not yet represent the official view of the accounting bodies, it is a sign of the turmoil within the industry in grappling with the off-balance sheet issue. [By "grappling", they mean, "Holy s---, are we in trouble now."]

Accounting standard setters are already under pressure for their support of marking assets to current market prices – a practice that has resulted in billions in writedowns and affected banks’ profitability seriously. [That's not the issue with mark-to-market -- the issue with mark-to-market is that it leads to a death spiral by which new downward marks lead to loan calls and fund redemptions which lead to panic selling which leads to new downward marks which leads to... you guessed it, banks' off-balance-sheet entities going kablooey and suddenly showing up at the door like your unwanted uncle.]

The Financial Stability [ha!] Forum, a global body of regulators and central bankers, has asked the IASB and its US counterpart to consider the issue as a matter of urgency. Accounting standard setters are in the throes of discussing how to respond.

However, the report by the high-level group of accountants says the project to overhaul current rules on off-balance sheet interests has lost momentum because of staff turnover and “relative inexperience”.

Remember Enron?

Imagine Enron times a hundred.

This just gives me an excuse, after hyperventilating, to roll out one of my favorite New Yorker cartoons...

Birth of Newspapers, part 1: The very first newspaper

Over the course of the next several months, I will walk through many of the interesting aspects of the creation of several of today's major forms of media -- including newspapers, magazines, television, movies, and books.

My motivation is threefold:

• First, the true history of these forms of media is inevitably more fascinating, more amazing, and often more humorous than you would think.

  The idea of a newspaper, or a movie, or a television show, was not handed down on stone tablets from Mount Olympus and simply carried forward by people who said, "Oh yeah, great idea!"; rather, the forms of media we see today are in all cases the result of a mad and chaotic frenzy of experimentation, uncertainty, and enterpreneurial effort.

• Second, understanding the drama, flux, and change that invariably accompanied the creation of traditional media will help put our current Internet revolution into perspective.

  All early forms of media had lots of people who suffered from doubt, were skeptical, were dismissive, or just didn't get it -- and in fact there were a lot of dead ends and failures from a lot of innovators before the true form of any medium and its business foundation became clear.

  But all of that doubt, skepticism, criticism, and failure were in each case accompanied by enormous social, cultural, political, and business transformations when things did finally become clear.

• Third, understanding the flux and drama of the creation of traditional media, I believe, highlights the nature of the profound challenges facing today's managers of traditional media companies.

  I think a lot of smart people are working very hard to transition traditional forms of media into the new Internet world order, but I also think their challenges are even more serious and dangerous than most people believe, and that today's media companies' primary strategy of defense is very challenging when the world shifts hard on its axis, as it has done in the past and as it is doing now.

Let's start with newspapers. My source for this and several subsequent posts is Eric Burns' outstanding book Infamous Scribblers: The Founding Fathers and the Rowdy Beginnings of American Journalism, which focuses on the role of newspapers during the American Revolution, but also covers the creation of the newspaper medium up to that point.

The world's first [newspaper] seems to have been the work of a "Renaissance blackmailer and pornographer"...

And we're off with a bang!

...the Italian Pietro Aretino, who set up shop [in the early 1500's] a few years after the invention of movable type.

Now that's an entrepreneur.

Aretino could have done something constructive with his little publication. He could have written about Florence under the Medicis becoming the center of art and humanism in the Western world. He could have written about the founding of the University of Palermo, which would soon be a major institution for the advancement of learning...

Aretino did none of this.

Instead, he "produced a regular series of [anti-religious] obscenities, libelous stories, public accusations, and personal opinion". The opinion was boldly, and often vulgarly, expressed. It was also for sale, with Aretino running a kind of protection racket on those who were the subjects of his stories: pay what he asked and he praised you; refuse and you were slathered with abuse.

No comment from me on whether that practice continues in certain circles today. Nope, no comment...

Either way, you were a commodity for him; he would tell the tale that suited him best and profit from you as much as he could.

Still no comment.

But few people in Renaissance Italy read Aretino's rag, and it did not stay in business long.

Few people read the British broadsides [single-sided newspapers] of the early 17th century [either]; they, too, were ephemeral in duration and impact.

It was not that Europeans disliked these nascent attempts at journalism; more fundamentally, they did not understand the reason for them, living as they did in a world in which news could not thrive as a commodity because it barely existed as a concept.

How could it? The Almighty was what mattered to men and women in ages past, but they could speak to Him directly. Their families were what mattered to them, but husbands and wives and sons and daughters lived in the same room. Their livelihood was what mattered to them, but they tended their shops or worked their fields from dawn until sunset...

...What mattered to a person in the 16th and early 17th centuries was what happened to him and to those closest to him between one sunrise and the next... but he could see that for himself. He could interpret it for himself. No intermediary was required to give voice or meaning to the events in his life.

As for the events that were not in his life, those that occurred in the lives of other people in other places, of what possible interest could they be to him? The idea that a human being could be instructed or amused by the fortunes of a stranger was as foreign to a European back then as a land across the sea. The world outside one's immediate ken was a place of mystery, not a source of enlightenment.

Right there we get a foreshadowing of what was about to happen... the rise of newspapers, among the other early communication and information networks such as postal systems, was driven by and drove major transformations in the basic concepts of society and culture.

Don't let anyone ever tell you that what we do, and what our industry does, lacks significance -- without new forms of information distribution and communication, we'd all still be living as subsistence farmers in a feudal hell on earth.

But I'm getting ahead of myself...

Occasionally there was something from afar that a person needed to know. There might be an edict from the king ordering his subjects to provide an even greater share of their harvest to the royal granaries... [or tax increases or religious declarations].

But this kind of thing did not happen often, and was so unwelcome when it did that it did not inspire an interest in the wider world. On the contrary: better ignorance than tidings that brought even more hardship to an individual than was already his lot.

Kind of like a lot of recent election results.

But even if the news had been relevant to men and women of an earlier age, they would not have had time for it -- which was, of course, a further reason for their indifference. They led... lives of toil and repetition. They fed and milked and slaughtered their animals. They cleared and plowed their fields and dammed their streams... They prayed to a strict and sometimes capricious God, wanting to please, and He was ever watching, ever judging.

Which is all to say that they led the kinds of lives even a greed-besotted, hedge fund-managing workaholic of the early 21st century would have found punishing, every minute of every hour accounted for, every second of every minute. And journalism... is to some extent a function of leisure.

Not much of it existed when Aretino first inked up his press.

And then shifting to colonial America, it gets even worse:

For [anyone] who thought about publishing a newspaper in colonial times... or the man of means who thought about financing the [publisher], there was a further disincentive to journalism.

Put simply, there were not enough customers -- too few English speakers in America, too few towns and villages that were too widely scattered to allow for news to be gathered efficiently and a paper to be distributed economically. In addition, as... Sidney Kobre points out, "trade, commerce, and industry were undeveloped. Settlers for a long time made their own clothes and furniture and raised their own foodstuffs. Advertising would not have been profitable, especially since money was scarce and the general income level low."

The consumer Internet in 1995!

But then there was the distribution problem:

As early as 1639, Massachusetts had attempted the delivery of mail [obviously the only way to distribute newspapers at that point and for a long time to come] on a regular basis. It was irregular at best.

The main problem was roads, which either did not exist or were so rocky, rutted, and circuitous that they were as much obstacle courses as lanes of conveyance.

28 kilobit modems in 1995!

Or Comcast today.

The mail was often delayed, sometimes lost, and sometimes delivered to the wrong place.

"In the early days," Kobre writes, "if one wanted to get a letter to a relative or friend in another colony, he waited for a ship captain or a traveler passing through, perhaps a merchant sending a package or a cargo of goods. Sometimes, if it were urgent, one employed a friendly [Native American] to deliver a letter for him."

In January 1673, the Boston Port Road opened for the specific purpose of transporting letters, parcels, commercial goods, and newspapers from Boston to New York, a distance of 250 miles. A horse could travel it without breaking an ankle... The mail did not always arrive within two weeks, as promised, but it almost always got there eventually.

56 kilobit modems in 1996!

And then there's the issue of production:

There could, of course, be no news... without presses on which to print it, and the first such machine did not appear in the New World until 1638 [at Harvard]... but by 1685, almost half a century later, the grand total of printing presses in the New World had risen to a mere four, and they were essentially what they had been in Gutenberg's time, which is to say cumbersome apparatuses that were as likely to break down as to grind out a story...

For the most part, they turned out Bibles...

But five years later, and more than eight decades after the first British expatriates had set foot in Jamestown, one of those presses would begin printing the first American newspaper.

So just in this first post in the series, we get a sense of the profound wonder that the newspaper was even brought into existence, much less became widespread or had an impact on the world.

And we see the nature of the birthing pains of a new medium -- any new medium -- and obviously, all of the birthing pains of the modern consumer Internet are trivial in comparison to the mind-boggling headwinds the original newspaper entrepreneurs faced.

In the next post, I'll focus on the creation of newspapers in America.

The New York Times covers blogging

Actual New York Times headline for Sunday, April 6, 2008:

In Web World of 24/7 Stress, Writers Blog Till They Drop

Reworded for brevity:

Blogging Causes Death

Future New York Times headline submissions from yours truly:

Blogging Causes Herpes

Bloggers Shorter than Normal People

Want To Contract Malaria? Try Blogging

Bloggers Have Bad Breath

Leprosy and Blogging May Be Connected

Hitler Probably Blogged

Now Bloggers Aren't Even Wearing Pajamas

Blogging Fad Almost Over

And of course, the inevitable, perennial favorite:

Child Abuser/Serial Killer/Campus Shooter Had a Blog

p.s. The Judy Miller memorial New York Times blogging story headline:

The Bloggers Have WMD

Benjamin Franklin, blogging role model?

A personal friend has lately been expressing concern that I have been descending into sarcasm too frequently on this blog of late.

He suggests that I study Benjamin Franklin as a role model for how to write in a way that amuses and persuades, rather than startles and offends.

So, to that end, I am reading Walter Isaacson's outstanding Franklin biography:

[Writing anonymously as "Pacificus Secundus" in a British newspaper, Franklin] resorted to his old tactic of scathing satire by pretending to support the idea that [British] military rule be imposed in the [American] colonies...

"It may be objected that by ruining our colonies, killing one half the people, and driving the rest over the mountains, we may deprive ourselves of their custom for our [manufactured goods]; but a moment's consideration will satisfy us that since we have lost so much of our European trade, it can be only the demand in America that keeps up and has of late so greatly enhanced the price of those [goods], and therefore a stop put to that demand will be an advantage to all of us, as we may thereafter buy our own goods cheaper."

The only downside for England, [Franklin] noted, was that "multitudes of our own poor may starve for want of employment."...

And:

Franklin also produced a politican cartoon... that showed a bloody and dismembered British Empire, its limbs labeled with the names of colonies. The motto underneath, "Give a Penny to Belisarius," referred to the Roman general who oppressed his provinces and died in poverty.

He had the cartoon printed on notecards [and] hired a man to hand them out in front of [the British] Parliament...

And:

[Concerned that the British did not fully understand the potential consequences of further alienating the American colonies, Franklin] published a parable in January 1770 about a young lion cub and a large English dog traveling together on a ship.

The dog picked on the lion cub and "frequently took its food by force."

But the lion grew and eventually became stronger than the dog.

One day, in response to all the insults, it smashed the dog with "a stunning blow," leaving the dog "regretting that he had not rather secured its friendship than provoked its enmity."

The parable was "humbly inscribed" to Lord Hillsborough [a senior British official in charge of colonial affairs]...

And:

[Franklin later] reverted to his youthful love of satire in two anonymous propaganda pieces he wrote for the English papers in September 1773. The first one was entitled "Rules by Which a Great Empire May be Reduced to a Small One."

Noting that "an ancient sage"... had once boasted that he knew how to turn a little city into a great one, the essay listed twenty ways to do the reverse to an empire. Among them:

"In the first place, gentlemen, you are to consider that a great empire, like a great cake, is most easily diminished at the edges."

"Take special care the provinces are never incorporated with the Mother Country, that they do not enjoy the same common rights, the same privileges in commerce, and that they are governed by severer laws, all of your enacting, without allowing them any share in the choice of legislators."

"However peaceably your colonies have submitted to your government, shown their affection to your interest, and patiently borne their grievances, you are to suppose them always inclined to revolt, and treat them accordingly. Quarter troops among them, who by their insolence may provoke the rising of mobs... you may in time convert your suspicions into realities."

"Whenever the injured come to the capital with complaints... punish such suitors with long delay, enormous expense, and a final judgment in favor of the oppressor."

"Resolve to harass them with novel taxes. They will probably complain to your Parliament that they are taxed by a body in which they have no representative, and that this is contrary to common right... Let the Parliament flout their claims... and treat the petitioners with utmost contempt."

The list, reflecting the indignities that had been perpetrated on America, went on at length: send them... "petty-fogging lawyers" to govern them, "perplex their commerce with infinite regulations", appoint "insolent" tax collectors, and garrison your troops in their homes rather than on the frontier where they can be of use.

If you follow these rules for diminishing your colonies, the essay concluded, you will "get rid of the trouble of governing them."

It was signed "Q.E.D."...

And:

Two weeks later, Franklin published an even broader parody of Britain's treatment of America, "An Edict by the Kind of Prussia." A thinly disguised hoax, it purported to be a declaration issued [about England] by King Frederick II [of Prussia].

Whereas the Germans had long ago created the first settlements in England and had lately protected it in the war against France, they had decided "that a revenue should be raised from said colonies in Britain".

So Prussia was levying 4.5 percent [taxes] on all English imports and exports, and it was prohibiting the creation of any further manufacturing plants in England [as England did in the American colonies].

The edict added that the felons in German jails "shall be emptied out" and sent to England "for the better peopling of that country" [again, as England did in the American colonies].

Lest anyone be so thick as to miss the point, it concluded by noting that all of these measures should be considered "just and reasonable" in England because they were "copied" from the rules imposed by the British Parliament on the American colonies.

I do indeed have a new blogging role model: Benjamin Franklin!

I always kind of wondered about that

[Link: Tom Gleeson on James Blunt's You're Beautiful.]
[Hat tip: Reddit.]

How to annoy your octopus in one easy step

[Link: Contortionist octopus.]

Closing out the Bionic Woman file

Longtime readers of this blog will remember my enthusiastic disillusionment over NBC's new remake of Bionic Woman.

I just learned that the show -- for which I have splashed out an appalling $15.92 via Amazon Unbox, making me a paying customer entitled to no end of feedback and/or howling into the cybervoid -- has, incredibly, been cancelled:

...The action-packed drama series has now been scrapped after just eight episodes, with producers blaming a massive drop in ratings for the decision.

The pilot episode raked in a massive 13.9 million viewers, but by the eighth installment, the figures had dropped to just 5.9 million.

An insider tells British newspaper the Daily Star... "The show has been criticized. People complained about the poor storylines. But the writers have hardly any time to work with the characters. They were just getting used to them."

Now, you understand, in this case that's a lot like saying the drunk driver was just getting used to the road.

So I might as well close out my file of questions to the producers of Bionic Woman before people start saying, "Why is he so obsessed with a show that we don't even remember?"

And here they are, questions 14-21:

• You're responsible for security for a US visit of the president of some unnamed but clearly very disturbed African country. You know that the assassin determined to kill said African president is using a rifle capable of firing depleted uranium shells a distance of two and a half miles. You pick a hotel suite with all glass walls -- why?

• There's an absolutely critical secret you have to keep from your new bionic woman. So who do you choose to send to rescue the one guy who knows it and is likely to spill the beans? You guessed it...

• You are captured in a warehouse by about 40 heavily armed men and conveniently taken to a room where the head bad guy is keeping the captive you were sent to rescue. Most of the 40 heavily armed men leave; a few remain. Moments later, you go bionic and noisily beat the stuffing out of the remaining men and the head bad guy. Do you then look around to see if any of the other 40 heavily armed men are coming back -- perhaps because they are on patrol, or maybe they heard all the head-butting and bone-crunching? No, you stand around and talk a lot, paying no attention to your surroundings. Exactly how many parts of your training did they skip?

• When Jamie joins the super-secret agency, her genius handlers give her a cover story to use with her suspicious, whiny, sex-addled younger sister. That cover story: timeshare salesperson. Which is of absolutely no use in explaining why one might have to take off on a mission any hour of the day or night. What, some critical Tahoe rental is falling through? Suggested more plausible cover careers: plumber, exterminator, party clown.

• You leave your suspicious, whiny, sex-addled sister at home alone "watched by a 24x7 surveillance team" while you go running off on a mission. How exactly is that supposed to work? Are they just going to sit back and watch when she inevitably gets into some kind of sex-related trouble? Or are they going to charge in, guns blazing? Are you trying to keep this whole spy thing a secret or not?

• "We have to recover the flash drive!" Clue to all future Hollywood writers: flash drives can be copied in about 90 seconds. Once it's out of your view for 90 seconds, getting it back does you practically no good, since any bad guy with an IQ higher than his shoe size would have copied it, and then probably copied the copy. Chasing it around for days and days makes no sense at all. Where do these shows get their technical consultants -- and are they from planet Earth?

• Against my advice, you have hired the creepy gay-bashing dude from Grey's Anatomy. Now you give him a role where he's required to hit a woman? Are you serious?

• By the time Bionic Woman hit its quasi-stride, it had become a clear cross between Alias and Felicity. Now, I'm the first person to say that JJ Abrams is a genuine television auteur genius. But at what point does homage cross over into theft? And at what point, had the show not been cancelled, would he have filed suit?

Thanks, NBC! Good luck with your upcoming remake of Manimal!

Cramer: an apology

I need to apologize -- not to Jim Cramer, but to my readers, for not being sufficiently hard on Cramer the other day.

I had missed this essential and hilarious fact:

[Three days before Bear Stearns went kablooey, and the same day he hollered about how "fine" Bear Stearns was on his quasi-TV show], on TheStreet.com, Jim Cramer listed Bear Stearns common stock as a "buy" at $62...

[After Bear blew up] TheStreet.com quickly removed Cramer's March 11 "buy" recommendation from its page devoted to Bear Stearns.

Jim Cramer: no matter how bad you think he is, he's worse than you think.

[Source: Bloomberg.]

The guy who makes Eliot Spitzer look pure

Meet Max Mosley, the head of Formula One...

Max Mosley, one of the most powerful men in world sport, was under pressure to resign as boss of Formula One’s governing body last night after he was exposed enjoying a Nazi-style orgy with five [count 'em, five] prostitutes.

Jewish groups condemned the behaviour of Mosley, 67, whose father, Sir Oswald, was the leader of the British Union of Fascists and a friend of Adolf Hitler. [Oh. Him.]

Mr Mosley was caught on video by the News of the World with five women in an underground “torture chamber” in Chelsea, where he spent several hours allegedly indulging in sado-masochistic sex.

[Get ready to hold down your lunch:] The Oxford-educated former barrister, who is president of the Federation Internationale de l’Automobile (FIA), reenacted a concentration camp scene in which he played the role of both guard and inmate.

Speaking in German and brandishing a leather whip, he beat the women after allowing himself to be subjected to a humiliating inspection for lice and an interrogation in chains.

Mr Mosley... paid £2,500 cash for the sex services, the Sunday newspaper claimed.

Mr Mosley, whose two years in Germany as a young teenager gave him fluency in the language, has helped to turn Formula One into a multi-billion-pound business since he became FIA president in 1993. The FIA is a nonprofit association that represents the interests of motoring organisations and car users worldwide. [I imagine he has an interesting take on roadside assistance.]

...Mr Mosley, who once harboured ambitions to be a parliamentary candidate for the Conservative Party, is known for being eccentric and outspoken. Nicknamed “Mad Max” by some in motorsport, he once said he didn’t mind flak because he came from a family used to getting it all the time.

Hitler was present at the wedding of his father, Oswald, and mother, Diana, which took place in Joseph Goebbels’s drawing room...

Most recently, Mr Mosley stood up against racism in Formula One by giving warning of immediate sanctions if there was a repeat of the abuse against Lewis Hamilton, the only black driver on the circuit, in Barcelona during testing this season. [A Nazi, but not a racist!]

[Source: Times Online.]

And how do we know he's British? Well, at the end, he had tea with the hookers. Not making this up.

Oh. Wow.

Future blogger Alexei Barrionuevo writing in the New York Times:

When military forces loyal to Gen. Augusto Pinochet staged a coup [in Santiago, Chile] in September 1973, they made a surprising discovery. Salvador Allende’s Socialist government had quietly embarked on a novel experiment to manage Chile’s economy using a clunky mainframe computer and a network of telex machines. [Who you callin' clunky?]

The project, called Cybersyn, was the brainchild of A. Stafford Beer, a visionary Briton who employed his “cybernetic” concepts to help Mr. Allende find an alternative to the planned economies of Cuba and the Soviet Union. After the coup it became the subject of intense military scrutiny. [Yes, I imagine it did.]

In developing Cybersyn, Mr. Beer changed the lives of the bright young Chileans he worked with here. Some 35 years later, this little-known feature of Mr. Allende’s abortive Socialist transformation was remembered in an exhibit in a museum beneath La Moneda, the presidential palace.

A Star Trek-like chair with controls in the armrests [they ain't kidding -- check out the photo] was a replica of those in a prototype operations room. Mr. Beer planned for the room to receive computer reports based on data flowing from telex machines connected to factories up and down this 2,700-mile-long country. Managers were to sit in seven of the contoured chairs and make critical decisions about the reports displayed on projection screens. [Brilliant! CTU for the economy!]

...Cybersyn was born in July 1971 [the month and year your faithful blogger was born... this is blowing my mind...] when Fernando Flores, then a 28-year-old government technocrat, sent a letter to Mr. Beer seeking his help in organizing Mr. Allende’s economy by applying cybernetic concepts. Mr. Beer was excited by the prospect of being able to test his ideas. [Boy, I'll bet he was -- can you imagine?]

He wanted to use the telex communications system — a network of teletypewriters — to gather data from factories on variables like daily output, energy use and labor “in real time,” and then use a computer to filter out the important pieces of economic information the government needed to make decisions.

Mr. Beer set up teams of computer programmers in England and Chile, and began making regular trips to Santiago to direct the project...

You do have to give them credit for one thing -- it would have been a better plan than the standard "make s*** up" strategy pursued by so many other politicians.

This dude deserves to go in the history books alongside Doug Engelbart and Ted Nelson, that's for sure.

And tell me you've never wanted to sit in a chair like that...

[Hat tip: Kids Prefer Cheese.]

Left unchecked, this could become problematic

The newspaper industry has experienced the worst drop in advertising revenue in more than 50 years.

According to new data released by the Newspaper Association of America, total print advertising revenue in 2007 plunged 9.4% to $42 billion compared to 2006 -- the most severe percent decline since the association started measuring advertising expenditures in 1950.

The drop-off points to an economic slowdown on top of the secular challenges faced by the industry. The second worst decline in advertising revenue occurred in 2001 when it fell 9.0%.

Total advertising revenue in 2007 -- including online revenue -- decreased 7.9% to $45.3 billion compared to the prior year.

There are signs that online revenue is beginning to slow as well. Internet ad revenue in 2007 grew 18.8% to $3.2 billion compared to 2006. In 2006, online ad revenue had soared 31.4% to $2.6 billion. In 2005, it jumped 31.4% to $2 billion...

The NAA reported that online revenue now represents [a completely inadequate] 7.5% of total newspaper ad revenue in 2007 compared to 5.7% in 2006.

That growth could not stave off the losses in the print however. National print advertising revenue dropped 6.7% to $7 billion last year. Retail slipped 5% to $21 billion. Classified plunged 16.5% to $14.1 billion.

[Source: Editor and Publisher.]

Congratulations, you're paying Jimmy Cayne's marijuana bills!

Failed former Bear Stearns absentee CEO Jimmy Cayne is in the news today:

James "Jimmy" Cayne, chairman [and, until January, CEO] of Bear Stearns, sold his shares in the crippled securities firm for $61.3 million...

Cayne sold 5.66 million shares at $10.84 apiece on March 25 [two days ago], according to a regulatory filing today.

The value of his stake plummeted from almost $1 billion last year, when the shares peaked at $171.50 before the collapse of the subprime mortgage market toppled two of the firm's hedge funds and prompted a contraction in credit markets worldwide [and the effective bankruptcy of Bear Stearns, rescued from real bankruptcy at the last possible moment only by a $30 billion loan from the US taxpayer via the Federal Reserve].

[Source: Bloomberg.]

Allow me to translate from the Wall Street:

The US taxpayer is loaning Bear Stearns and JP Morgan Chase, Bear Stearns' acquirer, $29 billion -- just revised from $30 billion, simultaneous with JP Morgan Chase raising its acquisition price for Bear Stearns to $10/share from $2.

Without that $29 billion of taxpayer money, Jimmy Cayne's stock would be worth $0/share, and if you multiply that by 5.66 million shares, the total would be $0.

The $29 billion taxpayer loan is almost certain to lose money as it is being used to backstop stinky assets on the Bear Stearns balance sheet -- the same assets whose plummeting fall in value catalyzed Bear Stearns' effective bankruptcy.

It is virtually certain that taxpayers are going to take some loss on that $29 billion loan.

When we do, we will have the immense satisfaction of knowing that the first $61.3 million of those losses represent a direct cash transfer from US taxpayers to Jimmy Cayne.

I wonder if there's any more color out there on this...

In the past weeks, together with his wife... who is a student of Jewish religious traditions, Mr. Cayne has spent considerable time searching for comparable events in religious history to see what lessons can be learned from the collapse of his firm, said a person who has spoken to him recently.

Oh yes, that episode where the money changers in the temple leveraged their business up 40-to-1 and then went bankrupt, but got bailed out by a loan from the Roman citizenry of 29 billion pieces of silver, comes immediately to mind.

[Source: New York Times.]

A thought:

A friend of mine who is a significant expert on US securities law told me something interesting a couple years ago, after Sarbanes-Oxley passed.

He said, you know, Marc, the laws on public company governance and controls -- particularly the responsibilities of the CEO -- are now so intense and so tight that I bet if you had subpoena power for any public company in the country, you could prove some form of criminal violation by the CEO.

No matter how honest and upright the individual -- the laws are so strict and there are so many details that have to be correct, almost any CEO could be found guilty of and sent to jail for something.

I suggest Jimmy Cayne as an excellent test case.

Department of Remarkably Good Ideas, nuclear weapons edition

This just in:

Defense Secretary Robert Gates has formally ordered the Air Force, Navy and Defense Logistics Agency to conduct an inventory of all U.S. nuclear weapons and nuclear weapon-related materials to make sure all items are accounted for...

The order comes in the wake of the discovery last week that four nuclear warhead fuses were accidentally shipped to Taiwan in 2006...

The inventory review, which will involve thousands of items, is due to Gates in 60 days. Pentagon officials said the request was ordered, in part, because this latest incident comes after the August 2007 accidental flight of six nuclear-tipped cruise missiles on a B-52 bomber across the country.

The CNN headline is to the point and priceless:

Pentagon Ordered To Locate All U.S. Nukes

I've been trying to think of an idea that would be even better than this one.

And I have failed.

This is, officially, the best good idea of all time.

Sleep well!

[Link: CNN.]
[Hat tip: Rick Segal.]

My new heroes

Prosecutors are moving ahead with a case against one of two 93-year-old men picked up during undercover prostitution stings.

In the case of Frank Milio, prosecutors have issued subpoenas and plan to take him to trial in April.

Milio, according to police records, tried to pay $20 in November to an undercover officer on 14th Street West.

Milio recently told the Herald-Tribune he was only flirting with the woman.

"I haven't had that in years," he said. "Ninety-three is kind of old."

Carlos Underhill, 93, will not be charged, although he does not deny stopping to chat with the "good-looking girl" who made eyes at him and turned out to be an undercover officer.

Police say Underhill was willing to pay $30 for sex and that he promised to come back a few hours later to consummate the deal.

Prosecutors say that they cannot move ahead with the criminal case because there is no way to prove Underhill planned to come back.

Underhill was fined $150 for trying to pick up a prostitute in 1990, when he was 75. In the latest case, he says, he was not cruising Tamiami Trail for sex: He just wanted to chat with the buxom woman who smiled at him as he drove past.

"All I was going to do was talk," he said Monday. "It wasn't for sex. I am 93, you know."

Now, granted, the only woman I'm going to be flirting with when I'm 93 is my lovely wife. Nevertheless: my new heroes.

[Source: Tampa Bay Online.]

Jim Cramer is still putting random words in random order

Last week I showed you a widely-distributed video of CNBC stunt-host Jim Cramer loudly gesticulating to his Mad Money fan base that Bear Stearns was "fine" and that "Bear Stearns is not in trouble".

The day was March 11, Bear stock was trading at $62, and Bear immediately blew up.

Several members of the Cramer fan base promptly emailed me and said, no no no, Cramer explained that he was just saying that you shouldn't move your money out of your Bear Stearns brokerage account. Which is a little odd, given that Bear was primarily a hedge fund prime broker and not a consumer broker, and Cramer's show is aimed at regular folks, a.k.a. consumers. However, it is possible that his defenders could have a point.

Except they don't.

On the very same day, March 11, Cramer also recorded a different video (not embeddable, so just follow that link) on TheStreet.com in which he explains in detail how Bear the company is "totally solvent; there's not an issue; Bear is not in trouble, I want to make that point vociferously".

Oh well.

I will give Cramer's fans credit for one thing -- he is highly entertaining. Although frankly I'm still not sure how he's ever going to top confessing publicly to securities violations last year. One can but hope.

Why am I being mean to Cramer? Two reasons.

First, his whole approach is fundamentally fraudulent. You can't sit at home, watch a TV show, actively trade stocks like Cramer says, and make money. At best you're going to badly lag the indices, and in the process unduly enrich your brokerage firm, the tax collectors, and -- yes -- CNBC and Jim Cramer. Cramer's show is just another stupid tax, like a state lottery, or cigarettes.

Second, he says he likes it (fast-forward to about 3:15 and watch to the end).

As a side note, I may not be able to embed TheStreet.com videos, but I sure can embed Jon Stewart's take on Cramer's Bear Stearns call -- just fast-forward to 4:40 or so:

[Link: Jon Stewart on Cramer.]

The Psychology of Entrepreneurial Misjudgment, part 1: Biases 1-6

Charlie Munger is an 80-something billionaire who cofounded top-tier law firm Munger, Tolles & Olson and is Warren Buffett's long-time partner and Vice-Chairman at Berkshire Hathaway, one of the most successful companies of all time.

Some people, including me, consider Mr. Munger to be an even more interesting thinker and writer than Mr. Buffett, and recently a group of Mr. Munger's friends assembled a compilation book of his most interesting thoughts and speeches called Poor Charlie's Almanack, inspired by Ben Franklin's Poor Richard's Almanack. (The Munger book is only available on Amazon in used form, although you can apparently buy a new copy here.)

Mr. Munger's magnum opus speech, included in the book, is The Psychology of Human Misjudgment -- an exposition of 25 key forms of human behavior that lead to misjudgment and error, derived from Mr. Munger's 60 years of business experience. Think of it as a practitioner's summary of human psychology and behavioral economics as observed in the real world.

In this series of blog posts, I will walk through all 25 of the biases Mr. Munger identifies, and then adapt them for the modern entrepreneur. In each case I will start with relevant excerpts of Mr. Munger's speech, and then after that add my own thoughts.

One: Reward and Punishment Superresponse Tendency

I place this tendency first in my discussion because almost everyone thinks he fully recognizes how important incentives and disincentives are in changing cognition and behavior. But this is not often so. For instance, I think I've been i