An Insanely Great Week

There is some very interesting stuff happening in the textbook market - see my post at the College Open Textbooks blog.

The Two Pillars of a Foundation

Do well.  Then, do good.  In short, that is what a foundation is all about.   I recently heard a talk by someone who happens to work at the Hewlett Foundation, one of the country's largest, with $6 billion in assets.  He's on the investment - "do well" - side, not the program or grant-making - "do good" - side.  I think it's unfortunate that investing tends to be associated solely with the "do well" side, since making grants is a form of investing; it's just that the return is measured differently.  But I'll stick with the convention.

Having some experience with investing to do well, and unrelated experience with nonprofits (such as College Open Textbooks, a Hewlett grantee I have helped out) which aspire to do good, I wanted to know: how does a foundation organize itself to do both at the same time?  

Like most foundations, Hewlett keeps the "doing well" and "doing good" sides relatively independent, with the former sending the latter roughly 5% of its assets every year to fund grants.  But in some respects, both sides engage in similar thought processes.  Here are four common themes that span both pillars:

(1) Portfolio strategy

Before making any specific decisions, the investment side needs what you might call a portfolio strategy.  For example, many investment managers would decide to allocate funds to three types of investments: stocks, bonds, and real estate.  There are more decisions to make, however.  What percent of assets should be in each category?  Some managers will invest only in public stocks; others are willing to venture further.  Some will restrict investments to a particular region, such as North America, while others decide to spread their investments across the globe.

The program side makes similar strategy decisions.  What general themes should we focus on?  In Hewlett's case, they've focused on things like education, global warming, performing arts, etc.  If someone wanted a grant for vaccine research, I suspect Hewlett might turn it down no matter how compelling it was.  From what I have read about the Gates Foundation, they might take a much more serious look.

(2) Analysis

Investment managers analyze more than the numbers: management, vision, ability to execute and potentially many other factors should be considered.  It's the same on the program side.  Both sides need to decide what information they will need in order to perform a proper assessment, then analyze the information when they receive it.  If you've ever applied for a grant, you likely felt like it was a lot of work, and it is.  Just remember it takes a lot of work to assess grant proposals.

(3) Risk

Ahh, our good friend risk.  It is one of the most misunderstood areas of investing.  You would think that investment managers try to minimize risk.  You would be wrong.  Depending on the objectives as well as how risk is defined, an investment manager might actually want more of it, to maximize "risk-adjusted returns."  A common strategy is to make risky investments but mitigate the risks through diversification.

So it goes as well on the program side of the foundation.  Neither the grant-seeker nor the grant-approver wants to see a grant fail.  Yet the Hewlett Foundation knows that if they don't take risks, they’ll never accomplish big things.  Wildcatters in the oil industry do not mourn a dry hole; it's a fundamental part of the business.  The famous baseball player Babe Ruth set home run records; people conveniently forget the records he set for striking out.  

In contemporary literature, failure is the new black:  

Tavis Smiley titles his book Fail Up: 20 Lessons on Building Success from Failure.  That's fine and dandy, but is it possible to build success without failure?  Good question!  Tim Harford answers it in his new book Adapt: Why Success Always Starts with Failure (you can read excerpts on slate.com here and here). Malcolm Gladwell strikes similar themes in Creation Myth.  There is a class titled "The Art of Failure" at the Monterey Institute of International Studies (disclosure: I am a friend of the professor).

In fact, Hewlett takes steps to cultivate a risk-taking culture on the program side, celebrating failure as a key element of their program strategy.  One example is an $8m grant they made to the schools of San Diego.  When key members of the school board did not win reelection, the grant did not meet its objectives.  Contrast that with Hewlett’s efforts in Open Educational Resources (OER), which they view as a grand slam home run by any measure.

(4) Time horizon

There’s almost exactly a 50% chance that the stock market will be higher tomorrow, and almost exactly a 50% chance it will be lower.  In fact the person who gave the talk motivating this blog post, renowned in his field for investment acumen, went out of his way to say he had no clue what the stock market would do this year (others have won Nobel prizes for proving the wisdom of his humility).  Intelligent investing involves thinking outside of the blinders that a one-day or even a one-year time horizon manifests.  This is very hard.  Evolution has given humans a good grasp of time frames from roughly seconds to weeks, but not the decades needed for intelligent investing.

Thinking on the right time horizon is just as important on the program side.  In 2012 Hewlett is almost guaranteed to see both progress and setbacks.  It’s only over long time horizons that powerful trends become apparent.  As one Microsoft executive said, people consistently over estimate the progress that will occur in the short term, while consistently underestimating the progress that will occur in the long term.  Open Educational Resources are a case in point.  With Encyclopedias going in roughly 20 years from $1,600 apiece to free, how can we possibly imagine what will happen in the next 20 years?

Breaking News: Feds Falsely Censor Popular Blog For Over A Year, Deny All Due Process, Hide All Details...

http://www.techdirt.com/articles/20111208/08225217010/breaking-news-feds-falsely-censor-popular-blog-over-year-deny-all-due-process-hide-all-details.shtml

Conservatives want health insurance mandate upheld

After reading Silberman’s opinion upholding the individual health insurance mandate, I think the SCOTUS will uphold it as well, and conservatives should applaud them doing so.

In my view, conservative politicians that oppose the mandate are misreading both their base as well as independents.  On two separate occasions recently, conservatives said they opposed Obamacare because the penalties for freeloading weren’t high enough.

Rather than attacking the mandate’s wisdom after it is upheld, as Eliot Spitzer predicts conservative politicians will do, I think they will pivot and say that they have always been in favor of it. 

It is the far left that should hope the mandate to purchase private health insurance is struck down, because that will pave the path to mandatory public health insurance.

Netbaffle: The crazy world of Netflix and the movie studios

We are now down a rabbit hole within a rabbit hole.  First, Netflix CEO Reed Hastings announced a sudden 60% price increase on a very popular service.  After losing more customers than Netflix expected, Hastings made amends by – I am not making this up – cleaving the service in half, forcing customers to deal with two separate websites, and two separate charges.  If that qualifies as Netflix making amends, what would contempt look like?

I’m not a Netflix customer, and never have been.  In case you were wondering, their announcements look every bit as crazy to a neutral observer as they do to their 24 million customers – down about 1 million since rabbit hole #1, but still a huge number.

Nothing about these announcements makes sense, at least on the surface.  Netflix originally charged $7.99 per month for the 1-DVD “by mail” service, $7.99 for video streaming, and $9.99 for “1-DVD plus streaming”.  Then, in July 2011, weeks after a contract dispute with Starz, Netflix announced that the charge for 1-DVD plus streaming would increase to $15.98 per month. 

The initial indictment includes the following counts:

(1) Raising prices too far, too fast.  A 60% price increase is simply not an accepted business practice.  It’s an outrage.  If business conditions warranted an increase like that, Netfix should have spread the increase over multiple years.

(2) Not offering a quantity discount.  Buying the 1-DVD and streaming services separately costs $15.98.  By buying them together you now can save … let’s see, here … I’m not so fast with price comparisons … nothing??  What’s the sense in that?  If $15.98 is the right price for the combined service, why didn’t they price the separate services at, say, $9.99 each?  That would encourage customers of one service to add the other. 

(3) Failing to acknowledge costs.  Customers expect quantity discounts, but that’s not the only reason to offer them.  A customer of the combined DVD-plus-streaming service surely costs Netflix less than a DVD-only customer, for the simple reason that when you’re watching a streamed movie, you’re not watching a DVD.  It costs less for Netflix to stream a movie than to mail a DVD.  Customers of the combined service almost certainly order fewer DVDs, which means Netflix saves on DVDs, shipping, handling, and so on.  Other costs, such as managing web site registration, remain the same.

(4) Failing to encourage DVD customers to move to streaming.  Netflix endlessly argues that the future is streaming, and no one disagrees with them.  Then why not encourage DVD customers to try out the streaming service?

On to the rabbit hole within the rabbit hole.  On September 18^th, Netflix announced they would no longer allow you to buy “DVD plus streaming” as a single combined service.  You will soon have to buy them from two separate web sites – Netflix, for streaming, and a new site, Qwikster, for the original DVD service. 

This adds another charge to the indictment:

(5) Making it harder for customers to do business with you.  Plenty of businesses are hard to do business with, and some of them succeed in spite of themselves.  But can you think of a business that made it easy to do business with them, and then deliberately made it more difficult?  With the change, to get both DVD and streaming you’ll have to make two separate payments, one to Netflix, and one to Qwikster, its subsidiary.  If your credit card expires, or your address changes, you’ll have to change it in both places separately.  Your movie ratings and preferences?  Managed separately.  Currently, you can immediately see if a movie is available in DVD, streaming, or both.  When the split happens, you’ll have to check out both sites to answer that question. 

Netflix argued that DVD and streaming business models were different, necessitating the split.  That’s baloney.  Customers want a seamless service.  Give customers what they want, and sort out the business models behind the scenes.  It’s as if United Airlines announced that they would no longer accept baggage, sending passengers to stand in yet another line to check their bags.   Or here is perhaps a better analogy.  It’s as if your bank split your checking account into two accounts at two different banks, one that handles only paper checks, and another that handles only online transactions.

What might be going on?

These nutty announcements reveal a disturbing reality: what’s good for customers is viewed by movie studios as a threat to their profits.  Netflix customers made it clear they liked the combined “DVD plus streaming” service; it was easy to use, and reasonably priced.  But the movie studios want a future where to get the content you want, you have to buy multiple independent services – Qwikster, Netflix, other streaming services such as Hulu, etc.  Ideally, they want you to buy each movie three times: the movie theatre ticket, the DVD, and the streaming version.  Netflix’ combined service threatened that future.

Here is what I think happened.  Rapid growth in subscriptions for Netflix’ combined service threatened to trigger Starz contract provisions that would disadvantage Netflix – higher license fees, or perhaps additional data sharing.  The contract between Starz and Netflix, however, defined a “combined service” as one which offers a package discount.  Netflix weighed its options, and concluded it was better off eliminating the discount, and avoiding the trigger.  This would explain why Netflix didn’t offer even a one penny discount ($15.97) for the combined service.  By eliminating the discount, a customer of the combined service was, for contract purposes, a customer of two separate services.  In effect, Netflix’ announcements amount to a window into its negotiations with content providers such as Starz.

The content providers learned their lesson; to make sure customers are forced to buy multiple services, they will insist on defining “combined service” much more carefully in future contracts.  Faced with that negotiating position, Netflix decided to erase all semblance of a combined service.

Content providers got what they want: a future where customers have to buy multiple independent services.  They were willing to engage in separate negotiations with Netflix and Qwikster because it supports their strategy in a way the combined service did not.  Netflix customers were left to wander the twilight zone.  What makes no sense to customers makes perfect sense when viewed through the lens of the movie studios.  

The Haimish Line

Haimish is "a Yiddish word that suggests warmth, domesticity and unpretentious conviviality."

Which side of the Haimish line are you on?  Read David Brooks' column here.

"History is not merely what happened."

"History is not merely what happened.  It is what happened in the context of what might have happened."
- Historian Hugh Trevor-Roper, as quoted in The Independent.

We are fascinated with today because we don't know what tomorrow will bring.  The same cannot be said for yesterday, whose outcome we already know.

That's why history is boring.  History becomes enchanting, however, when you consider what could have happened.  These three books by Robert Cowley are full of alternate histories:

What If?: The World's Foremost Military Historians Imagine What Might Have Been
What If? 2: Eminent Historians Imagine What Might Have Been
What Ifs Of American History