USA Inc. - Mary Meeker Letter to Shareholders

8/2/2019 USA Inc. - Mary Meeker Letter to Shareholders

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Mary Meeker's Rescue Plan for USA Inc.

Were the nation a corporation, she says, it would be a sick

onebut not unfixable. How to solve the U.S.'s long-term

fiscal mess

By Mary Meeker

Dear Shareholder,

You probably don't think of yourself that way. Citizenship isn't an investment, it's a state of being. But

by birth or naturalization, every American has more than just an emotional stake in the United States.

We have a financial one, too. And by any measure, that stake is at risk.

Two months ago the federal government issued a 268-page Financial Report of the United States

Government. It doesn't have a glossy cover with photos of smiling employees, and a lot of the numbers

are in trillions. Except for that, it looks a lot like the corporate annual reports of the companies I have

followed. You can see how the various lines of business are doingSocial Security, Medicare, etc.

There's even a mission statement: "to form a more perfect union, establish justice, insure domestic

tranquility, provide for the common defense, promote the general welfare and secure the blessings of

liberty to ourselves and our posterity."


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The United States isn't a corporation, of course. It can't exit from underperforming territories (pick

your state) or auction off lines of business (the Army, Medicare). And its "customers" can reward

themselves with unaffordable services because they're also the shareholders.

Still, the idea of the U.S. as a corporation is more than a thought-experiment. It's a way to reposition

our approach to long-term problems. What would USA Inc. be worth? Who would want to buy its

shares? And what would a turnaround expert recommend for a company that lost more than $2 trillion

("net operating cost") in 2010?

I took a deep dive into these questions a little more than a year ago, and I'm finally up for air. I reached

three conclusions. First, USA Inc. has serious financial challenges. Second, its problems are fixable.

Third, clear communication with citizen-shareholders is essential. If the American people embrace the

need for bold action, their political leaders should find the courage to do what's right.

What you'll see on the following pages is hard to misinterpret: We have big issues, but the U.S. is in

sounder shape than Apple (AAPL) was in 1997, when it lost a billion dollars. That's the year Steve

Jobs returned as CEO and took extreme measures, including agreeing to make Internet Explorer the

Mac's default browser. Jobs also got Microsoft (MSFT) to buy $150 million in nonvoting Apple

sharesa lifeline for a company that, according to Jobs himself, was 90 days from bankruptcy court.

Apple is now the second most valuable company in the world.

I'm the lady whom Barron's called the Queen of the Net in 1998. Over the past quarter-century I've

covered tech companies that have created more than 200,000 jobs worldwide, including Apple,

Microsoft, Dell (DELL), Amazon.com (AMZN), Google (GOOG), and eBay (EBAY). I worked for

Morgan Stanley (MS) from 1991 until November 2010, when I became a partner at the venture capital

firm Kleiner Perkins Caufield & Byers.

I don't pretend to be an expert on government finance, and I'm not interested in taking sides in the

political debates over spending and taxes. Pragmatism is my trade, and information is my toolbox.

Since 2007 I had been salting my annual Internet forecasts with slides about trends in the broader U.S.

economy. (Occasionally Silicon Valley needs to be reminded that it's not a sovereign nation.) For the

Web 2.0 Summit in San Francisco in October 2009, I zeroed in on the financial health of the federal

government and asked one of the savviest members of my research team, Liang Wu, to pull together a

pro forma income statement for what we called USA Inc.

So began a moonlighting project that became an obsession and drew on the voluntary efforts of many

Morgan Stanley experts as well as senior people in business and government. All of our information

came from public data sources, including the Treasury Dept., the White House Office of Management


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& Budget, and the Congressional Budget Office. Other key sources were the Organization for

Economic Cooperation & Development, the International Monetary Fund, and Morgan Stanley's own

published research. Wu and I brought the project along with us when we became partners at Kleiner

Perkins.

Now I'm ready to go public with what we in tech like to call the "deliverable." In addition to what

follows on these pages, there's a 460-slide PowerPoint presentation. You can find it at

www.businessweek.com/go/11/usainc/ or www.kpcb.com/usainc/ or get it in book form via

Amazon.com.

Mary G. Meeker

Shareholder Alert: The State of the Business Is Not Good

The bottom line on USA Inc.? Cash flow and net worth are negative, profits are rare, and off-balance-

sheet liabilities are enormous. The "company" has underinvested in productive capital, education, and

technologythe very tools needed to compete in the global marketplace. Lenders have been patient so

far, but the sky-high rates on the sovereign debt of Greece, Ireland, and Portugal suggest what might

lie ahead for USA Inc. shareholders and our children.

By our rough estimate, USA Inc. has a net worth of negative $44 trillion. That comes to $143,000 per

capita. Negative.

To be fair, the net worth calculation leaves out some assets, including, most importantly, the power to

tax. Which simply means that the government can improve its own finances by worsening those of its

citizen-shareholders.

Medicare and Medicaid are the crushers for USA Inc. Excluding them and one-time charges, the "core

business" shows a median net profit margin of 4 percent over the past 15 years. USA Inc.'s core

operations were in surplus nine of those years. In the early years of the Republic, the only entitlements

were military pensions. The big change came with the 1930s and World War II, when the federal

government substantially expanded its role in the economy (in effect, its "business lines").

Entitlements experienced a surge in the Great Society of the 1960s. Since 1965, the nation's gross

domestic product has increased about 2.7 times over, but entitlement expenses have increased 11.1

times over. What do Americans have to show for it? Evidence suggests that when the government

provides, families do less for themselves: There is an 82 percent correlation between rising entitlement


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spending and falling personal savings rates. With the aging of my baby boom generation, things will

get even worse.

Let me share one statistic that shocked me, from theLong-Term Budget Outlookpublished last year by

the nonpartisan Congressional Budget Office. If current trends continue, the CBO says, entitlement

spending and net interest payments combined will equal all of federal revenue by 2025, just 14 years

from now. (This is based on the CBO's alternative fiscal scenario, which assumes extension of the

Bush tax cuts and other actions, such as a gradual increase in Medicare payment rates to physicians,

that are widely expected to occur.) Back in 1999, the crossover point was not supposed to happen until

2060.

Imagine: no Army, Navy, Air Force, Marine Corps, or Coast Guard, no federal courts or prisons, no

National Park Service, no Food & Drug Administration, no embassies, no salaries for Congress. That'swhat it would take to balance the budget by 2025 and still pay interest on America's debts, without

either raising revenue or reducing entitlement growth. That's certainly not a recognizable America.

My point is not to scare people. To me, the first and most important step in solving a problem is

communicating its severity. That's what smart businesspeople do. "If your organization is in trouble,

be honest," critical care physician Dr. Jon Meliones, then chief medical director at Duke Children's

Hospital & Health Center, wrote in a 2000 Harvard Business Review piece on how the hospital

recovered from big losses. "Make it absolutely clear to everyone in the company that survival dependson cost management."

Today's political leaders could learn something about the fortitude that will be required from Stephen

Elop, the former Microsoft executive who was hired last September by Nokia (NOK) as its first non-

Finnish CEO. Elop, a 47-year-old Canadian, realized that Nokia's Symbian smartphone operating

system was losing ground to Google's Android and Apple's iOS. Instead of sticking with a failed

strategy, he swallowed corporate pride and switched to Microsoft's Windows as Nokia's primary

operating system. In his memo to employees he told the story of a man who saved his life by jumpinginto the frigid North Sea from an oil platform that caught fire. "Nokia," he wrote, "our platform is

burning."

When companies' backs are to the wall, the knee-jerk reaction is to cut everything. But good business

leaders preserve spending on research and development because eating one's seed corn is self-

defeating. The same goes for USA Inc. Government spending to develop ARPANET in the 1970s led

to the Internet. Without that, there might be no eBay, Facebook, Google, or Yahoo! (YHOO) today. In

the 1980s the Defense Dept. set up the global positioning system network of satellites (GPS), which


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now helps parents get their kids to away games on timeand is still owned and operated by the

federal government.

Social welfare spending and future-oriented spending are often presented as rival options. In the long

run, they aren't. One of the best ways to ensure that the U.S. has the wherewithal to support its poor

and elderly shareholders in the future is to invest now in R&D, infrastructure, and educational support.

Such investments should enable USA Inc. to compete better with China Inc., Korea Inc., and India

Inc., all of whom would love to eat our lunch. From 2000 to 2010, China's GDP per capita rose 216

percent (based on the yuan's actual buying power rather than exchange rates). India's per capita output

increased 117 percent; America's, just 34 percent. Factoid: USA Inc.'s entitlement spending equals

India's entire GDP.

Right now we're headed in the wrong direction on investment. By our calculations, an importantcrossover occurred around 1990: Combined federal, state, and local spending on health care exceeded

spending on education for the first time. Since then the education funding deficit has steadily widened.

That may be one reason American students have fallen out of the lead on international standardized

tests. In 2009, American 15-year-olds ranked 17th in science and 25th in math out of 34 OECD

nations. (If it's any consolation, they're at or near the top in self-confidence.) Any CEO will tell you

that it's impossible to be best in class with a workforce that's outclassed.

The huge sums that the federal government lays out for Medicare and Medicaid would be easier tostomach if people believed the money was well spent; the evidence is that it's not. By one measure, the

correlation between life expectancy and per capita health-care spending, the U.S. is an extreme

outlierspending far more than any other country, with mediocre results for life expectancy. If the

objective is to maximize bang for the bucki.e., to produce healthy years of life with the greatest

possible efficiencythen it's worth questioning whether it makes sense to devote 28 percent of

Medicare spending to recipients' final year of life, as the U.S. did in 2008.

Once you understand USA Inc.'s main problems, the solutions become almost self-evident. ThePowerPoint version of our presentation contains dozens of ideas that seem worthy of consideration,

even though we take no sides on particular legislative proposals. Nearly all of these ideas have been

floated before by other groups, including the Congressional Budget Office and President Obama's

bipartisan National Commission on Fiscal Responsibility and Reform.

Since Medicare and Medicaid are the biggest challenges to USA Inc.'s solvency, fixing their finances

has to be at the top of the agenda. By the way, simply off-loading expenses from the government onto

the citizenry doesn't constitute a solution, since we are the government. Genuine improvement requires

slowing, and in some cases reducing, combined public and private spending through efficiency and


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better incentives. That requires asking questions such as: Should government reduce the incentive for

doctors to practice wasteful defensive medicine by capping noneconomic damage awards for

malpractice? And should Medicare be allowed to consider cost-effectiveness in national coverage

decisions, as it does not now?

Social Security has fewer moving parts, which makes it the easier entitlement to fixat least

conceptually. Again, we're not making recommendations, but a further increase in the retirement age

seems a likely part of any serious solution. Since Social Security's creation in 1935, life expectancy

has increased 26 percent, to age 78, while the system's normal retirement age has gone up just 3

percent, to 67.

There's a lot that can be done to make USA Inc. operate like a well-run business. A corporate

turnaround specialist would quickly hire an independent firm to conduct an audit of each business line.Is each line operating at maximum efficiency? Where should we invest and where should we scale

back? Are good performance metrics and financial controls in place? Can more processes be

automated and optimized? Should some assets be sold? Why not hire a compensation consultant to see

whether federal workers are overpaid vs. private-sector counterparts? Why not pay bonuses to federal

employees who meet deficit reduction goals? Why not give the President the line item veto, allowing

him or her to carve the pork out of otherwise worthy legislation?

I hope it's clear by now that USA Inc. has a spending problem, not a revenue problem. Simple mathsays that balancing the budget purely by raising taxes would require doubling rates across the board,

which would kill growth. That said, tax revenues probably have to go up a little. Another option, again

using simple math, would be to scale back deductions and tax credits, which cost nearly $1 trillion a

year in forgone revenue. Reducing the deductibility of home mortgage interest, for example, would

raise tax revenue without higher tax rates. As a form of investment with long-term payoffs,

construction of houses does not rank particularly high.

There are compelling reasons we don't tackle these questions regularly: The answers usually involvesome form of political suicide. That's a good argument for putting more energy into the very best way

to fix USA Inc.'s financesnamely, by getting the economy to grow more rapidly. Instead of

bickering about which deck chair to throw overboard to lighten the load, Congress should focus on

getting USA Inc. growing again. The key to growth, in turn, is higher productivity through investment

in technology, infrastructure, and education. Higher labor productivity means more useful output for

the same 60 minutes of work. It's the ultimate source of prosperity. The Congressional Budget Office

estimates that USA Inc. could reach break-even without policy changes if economic growth were to

average 6 percent to 7 percent in 2012-14 and 4 percent to 5 percent in 2015-20. That's well above the


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40-year average growth rate of 3 percent, and it simply won't happen. But even a small jump in the

growth rate would ease the pain of austerity.

We can take comfort as citizens and shareholders that USA Inc.'s asset base and entrepreneurial

culture are strong. In 25 years of studying tech companies and working in financial services, I've

discovered that people will sacrifice if they have a clear idea of what their sacrifices can accomplish. I

think the same goes for USA Inc.

Earlier I mentioned Apple's miraculous resurrection under Steve Jobs. We have a more recent, more

unlikely comeback that can serve as an example for the future.

In 2009 General Motors, an American icon, filed for bankruptcy. The federal government became the

majority shareholder. GM killed or sold off Pontiac, Saab, Hummer, and Saturn, laid off thousands of

workers, gave bondholders a haircut, and swapped stock for cash in the retiree health-care trust. The

company got a new lease on life; it's marketing smarter and introducing popular models like the Chevy

Equinox and Cadillac SRX. This past November it floated a $20 billion IPO. It's selling the electric

Chevy Volt. And on Feb. 15, GM said it would roll out more than 20 new or upgraded models in

China, where it's the No. 1 foreign automaker.

No one would recommend that USA Inc. follow a similar course of slashing, burning, and stiffing

bondholders. Still, it's encouraging to see how a company that's been given up for dead can come back

strong. USA Inc. needs to prime itself for the same kind of renewaland prepare for brutal decisions

that change how we do business. In Democracy in America, published in 1835, the French observer

Alexis de Tocqueville wrote: "The greatness of America lies not in being more enlightened than any

other nation, but rather in her ability to repair her faults." Let the turnaround begin!

With Peter Coy. Mary Meeker, a partner at Kleiner Perkins Caufield & Byers, studied the U.S. as a

company with shareholders, a balance sheet and competitive pressures.

Documents

USA Inc. - Mary Meeker Letter to Shareholders