February 28 - March 6, 2011

Bloomberg Businessweek

Shareholder Alert:
The State of the Business
Is Not Good
The bottom line on USA Inc.? Cash flow and net worth are nega
tive, profits are rare, and off-balance-sheet liabilities are enormous. The "company" has underinvested in productive capital,
education, and technology-the 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
nd, and
Portugal suggest what might lie ahead for /
Inc. share
ers and our children.
By our rough estimate, USA Inc.
$44 trillion. That comes to $143,0
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. Excludin them and one-time charges, the "core business" shows
a median net pr
argin of 4 percent over the past IS years.
USA Inc.'s core operatio
ere in surplus nine of those years.
In the early years of the Rep ic, the only entitlements were
military pensions. The bi chan 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

Negative net worth

per capita

~$142 ,999

2t2t

Federal Spending as Percentage of GOP

What would
the Founding
Fathers
think?

10%

1800

1815

1830

1845

1860

1875

1890

1905

1920

1935

1950

1965

1980

1995

2010

Fig. 1-Net worth defined as assets (excluding stewardship assets such as national parks and heritage assets such as the Washington Monument) minus liabilities and
minus the net present value of unfunded entitlements (such as Social Security and Medicare). DATA: Treasury Dept.
Fig. 2-Medicaid spending includes federal (not state) portion of spending. DATA: John Cogan, Stanford University

February 28- March 6, 2011

Bloomberg Businessweek

fig.3 Health-Care Spending Per Capita vs. Average Life Expectancy

as r-,_--------------------------------------------------------------------------------------------------------~

0
0

.,

Look
where
USA is

70 ~------~---,-------------,-------------,-------------,-------------,-------------,-------------,----------~

$3,000

$7,000

$5,000

Total dollar expenditure on health per capita in 2007

52

1
2
3
4
5
6
7
8
9
10
11
12
13
14
15
16
17
18
19
20
21
22
23
24
25
26
27
28
29

30

Turkey
Mexico
Poland
Hungary
Slovak Republic
Czech Republic
Korea
Portugal
New Zealand
Japan
Spain
Italy
Greece
Finland
U.K.
Iceland
Australia
Sweden
Ireland
Belgium
Denmark
Netherlands
Germany
Austria
Canada
France
Switzerland
Norway
Luxembourg

u.s.

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, f;
lies do less for themselves: There is an 82 ercent corr tion
between rising entitlement 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 the LongTerm Budget Outlook published 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 until2060.
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's what 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 depends on cost management."

fig.5
Percent growth in real
annual entitlement
payments since 1966
3000%

fig.6
Personal savings vs.
entitlement receipts as
percentage of average
disposable income

IJddii#f.!#dfj

Fig, 3-Spending figures are in dollars adjusted for purchasing power parity. DATA: Organization of Economic Cooperation and Development
Fig. 5-Figures are adjusted for inflation using a GOP price index. DATA: Social Security Administration, Health and Human Services Dept.
Fig. &-Entitlement income calculated as government social benefits to persons minus veterans' benefits. Savings rate is the amount saved divided by income after taxes.
DATA: Bureau of Economic Analysis

February 28- March 6, 2011

Bloomberg Businessweek

.. g.4 10-Vear Growth in GOP Per Capita

Rich, yes,
but slow-growing

}------------------------ $50,000

250 % --------------------------------------------------~

200%

$40,000

150%

$30,000

100%

$20,000

50%

$10,000

w uuuuuu uuuuu
China

'Innovation
... accrues to
ountriesin
p oportion to the
q lity and rigor of
the educational
syst ms.... The
futur of every
nation ill be
shaped ynew
ideas an reativity.
Thesearet e
engines off
prosperity."
-PauiOtellini,
CEO, Intel

2/10/09

India

nuuuun lll ' "'"" " "

Korea

uu n u u

Germany

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 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 jumping into 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! today. In the 1980s the Defense Dept.
p e
positioning system network of satellites (GP , which now helps
parents get their kids to away games on r e-and is still owned
and operated by the federal governm t.
Social welfare spending and fut e-oriented spending are
often presented as rival options. I the long run, they aren't.
One of the best ways to ensure tha the U.S. has the wherewitha to support its poor and elder shareholders in the future
is t invest now in R&D, infrast cture, and educational support. uch investments should enable USA Inc. to compete
better h China Inc. , Korea Inc., and India Inc., all of whom
would lov o eat our lunch. From 2000 to 2010, China's GDP
er ca ita ro 216 ercent (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

Fig. 4-GDP per capita figures are in dollars adjusted for purc hasing power parity. DATA: Internati onal Monetary Fund
Fig. 7-DATA: Bureau of Economic Analysis

n11 11 111 1111

u.s.

Japan

USA Inc. investment

in infrastructure as
percentage of GOP
1.5%

1%

1950

2008

February 28- March 6, 2011

Bloomberg Businessweek

fig.8
Percent of
Medicare spending
on recipients'
final year of life

Inc.'s entitlement spending equals India's entire ____

Right now we're headed in the wrong
By our calculations, an important crcJs~;u~er
1990: Combined federal, state,
exceeded
Health-care vs. education
spending as percentage
ofGDP

government lays out for

be easier to stomach if people
the evidence is that it's not.
2009

Power Point version of our present IOn contains

f consideration,
dozens of ideas that seem wort
on particular legislaeven though we take no si
of these ideas have been
tive proposals. Ne
floate
y 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 offloading 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 better incentives. That
requires asking questions such as: Should
the incentive for doctors to practice
cine by capping noneconomic damage ::~w::~r.i <o~~tor
And should Medicare be allowed to Lu'"'"'u<;<
in national coverage decisions, as it does
Social Security has fewer moving
easier entitlement to fix- at least rr-.-nroonJfn oolhr
making recommendations, but a
ment age seems a likely part of any
Security's creation in
, i~lifi~e~~~~~~~~~~~~~
cent, to age 78, while the s ystem's
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 busiat maximum efficiency? Where
ness line. Is each line

Worker-to-retiree ratio
in1945:

Worker-to-retiree ratio
in2009:

Fig. 8-DATA: Medicare Payment Advisory Commission

Fig. 9-Government spending on health care includes federal, state, and local programs including Medicare, Medicaid, and federal employee and veteran health benefits.
Government spending on education includes federal, state, and local spending on pre-primary through tertiary education. DATA: Education Dept., Health and Human
SeNices Dept.
Fig. 10-Supporting workers per Social Security beneficiary. DATA: Social Security Admini stration

February 28- March 6, 2011

Bloomberg Businessweek

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 math says 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 involve some form of political suicide. That's a good argument for putting more energy
into the very best way to fix USA Inc.'s finances-namely, by
getting the economy to grow more rapidly. Instead of bickering about which deck chair to throw overboard to lighten the
load, Con
ould focus on getting USA Inc. growing again.
The key to growth,
rn, is higher productivity through investment in technology, in
tructure, 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

USA Inc. 2010

estimated
cash flow:

-$1.3
TRILLION

USA Inc. 2010

estimated
net worth:

-$44
TRILLION

fig.11

55

Total Technology R&D Spending as Percentage of GOP

3%

2%

1%

1955

1960

1965

1970

1975

1980

1985

Fig. 11-DATA: National Science Foundation

Cash flow-Total revenue minus total spending on a cash basis. DATA: Office of Management and Budget
Net worth-DATA: Treasury Dept.

1990

1995

2000

2005

February 28- March 6, 2011

Bloomberg Businessweek

fig.12

The Growth Gap

Annual GOP growth rate

that would be needed
to balance the federal budget
without spending cuts
or tax hikes

Growth rate
expected by
Congressional
Budget Office
2016E

cent
average
rate of3 percent, and it simply won't happen. But even a small
jump in the growth rate would ease the pain of austerity.

56

"Characteristics
of the appropriate
remedy are that it
must: 1) address
the fundamental
problems; 2) tackle
the underlying
causes (rather than
the symptoms);
and 3) be broad
and deep enough in
scope to resolve all
the key issues."
-Stuart Slatter, David Lovett,
Laura Barlow, Leading Corporate
Turnaround

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 ifthey 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 bank
ruptcy. 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 renewal-and 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! G -With Peter Coy

Fig. 12-DATA: Congressional Budget Office

Lost Tax-DATA: Office of Management and Budget

2017E

2018E

2019E

Revenue forgone
from tax expenditures
such as deductibility
of home mortgage
interest in
fiscal 2009:

$981
BILLION