Saturday, December 10, 2011

In Public Markets, Not Everybody Wins a Trophy

This TechCrunch piece on a $155 million round by a Swedish payments processing company notes that the funding is part of an increasingly prominent trend: companies that would have gone public a decade ago are staying private for as long as they can. Facebook and Twitter are the headliners of the trend, which also includes my own Palantir Technologies. In the linked article, Michael Moritz of Sequoia voices the new conventional wisdom, that it's better to stay private because it gives company leaders more freedom to run the business:
"I think overall it is better for businesses to stay private because you have more latitude," says Moritz, "more freedom. The inevitable mistakes made during the hurly burly of developing a business are not penalized by people who do not understand it."
The implication being that Sequoia is different, and it understands that hurly burly in the way that ordinary investors do not. So Moritz is talking his book a bit, which is fine.

But is it really true that private companies are freer? Google and Apple are publicly traded companies that seem to behave however they please. Most obviously, both of them are sitting atop giant piles of retained earnings rather than distributing them as dividends. The Business Judgment Rule gives enormous latitude to managers of public companies who choose to use it. In fact, in many cases the diffuse control of a large public shareholder base may be less of a check on managers than control concentrated in the hands of a single powerful investment group. Sequoia wants board seats when they invest in your company, where public shareholders almost always vote for the company's preferred board candidates.

Since the formal levers of control of public corporation managers by shareholders are so attenuated, the only thing that can be driving them to feel less free is informal or social pressure. On the one hand, the mechanisms of that pressure are pretty clear: if you're reporting quarterly numbers, everyone can see the extent to which large, long-term strategic moves haven't paid off yet, where private company leaders can make big moves wihtou getting lots of feedback on why they're a bad idea. You could make a case that outside parties will consistently undervalue the discounted present value of large strategic moves, since they don't have access to the information that managers do, and that could bias them towards over-criticizing risky plays. But on the other hand, what the hell, public compnay CEOs? Your company is less innovative because people might disagree with you? People like to talk about how in my generation, everyone won a trophy at the end of the year, and now Millenials can't tolerate failure or even the prospect of failure. We're entitled, subservient people-pleasers. Well those values came from somewhere. Maybe everyone could do with a little more appetite for criticism.

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