Date: Wed, 14 Jun 1995 01:45:05 -0500
From: TELECOM Digest (Patrick Townson) <telecom@delta.eecs.nwu.edu>
Message-Id: <199506140645.BAA01407@delta.eecs.nwu.edu>
To: telecom@delta.eecs.nwu.edu
Subject: More Responses to Gilder Critics


After publishing the latest essays of George Gilder the other day, I
got some negative feedback from a few readers which I published, with
my request that Gilder respond to them if he wanted to do so.

I got two major responses; one from Gilder which appeared in an issue
of the Digest a few issues back, and this lengthier one from Gordon
Jacobson, the person who routinely forwards the Gilder material to
the Digest and Archives. 

Here then is his response to two of the writers. Even though he says he
responded privately, he has since okayed this for publication in the
Digest.  


PAT

  Date: Thu, 08 Jun 1995 23:07:55 -0400
  From: Gordon Jacobson <gaj@portman.com>
  Subject: Gilder Critics

Pat -

        In order to forestall a flame fest by people who were not there or
do not have the financial savvy to understand what actually happened, I
replied privately to both postings.

        George is not on-line so couldn't possibly read the critical posts
and respond.  I do not have time for lengthy exchanges that go on and lead
nowhere, nor does George and clearly this is the kind of debate that lends
itself to a drag out flame war.

        Here are the responses to both postings.  They by necessity will be
my only comments:

Regards, - GAJ


Response to Posting #1:

In comp.dcom.telecom, jbhicks@inlink.com (J. Brad Hicks) wrote:

>> This may be the most terrifying thing I've read in weeks.

        Then very clearly we read different articles Brad.  Either
that or your business experience is quite limited.  And please do not
take offense, I do not say that to insult you, I make the comment
because very clearly you are in error and so is your discussion.

>> Forgive me for using a non-telecom example, it's the only one I'm
>> thoroughly familiar with. You see, here in St. Louis, we only had one
>> vivid example of Milken and Boesky's benificence, and here's the way I
>> remember what I read about it in the papers.

        So you admit firstly, that what you know comes from a flawed
source - the newspapers, not from any real research you have done on
the topic.  Second, you raise the name of Boesky and then briefly go
on to criticize the article in terms of what Boesky did.

        OK.  We agree on this:  Ivan Boesky was and is a crook.  He cheated,
stole and lied.  Finis - end of story.

>> Carl Icahn used a gigantic pile of junk bonds to take over, then take
>> private, what was at the time one of America's premier airlines, Trans
>> World Airlines, or TWA.  Everybody in St. Louis, more or less,
>> followed this story carefully; TWA uses St. Louis as a hub, and it's a
>> major employer here.

        Well its very clear from the above, you certainly didn't
follow it carefully.  Or maybe the St Louis papers (which I truly
doubt, knowing how great a paper the Post Dispatch is) did a real hash
job on their research.

        The business world knew that TWA was broke before Icahn got
anywhere near it.  (It had been in or was about to enter bankruptcy in
fact when Icahn stepped in and attempted to rescue it).  It was no
longer anything like a "premier" airline - not by the better part of a
decade, its fleet was old and capital was not available to renew it.

        Icahn got the shareholders/court to agree to allow him to take
it over and the only way he could obtain the financing to purchase all
of the new aircraft and facilities he needed (over and above the $200
million of his own money that he sunk into it) was to sell the Hilton
International holding and float a junk bond issue.

        All of this is well recorded in a series of WSJ articles and
in cover stories in the weekly business news mags.  Fortune devoted a
major article on it - I suggest you go to your library and look all
this up under the Reader's Guide to Periodical literature and in the
WSJ index.

>> Yeah, there was a management shakeup, and yes, there were dramatic
>> cuts in costs. As best can be told in retrospect, those cuts that
>> didn't come from slashing worker's salaries were mostly in aircraft
>> maintenance and replacement, the bread and butter of running an
>> airline. The money that was freed up didn't go into improving airline
>> productivity. It went into the pockets of the bondholders and into
>> Carl Icahn's pockets.

        That is a most interesting observation.  The bondholders lost
almost everything in the final collapse and Icahn took a $500 million
bath.  So just how did he line his and the bondholder's pockets?

> You see, even though (due to obscene interest expenses) the airline lost
> money every year he ran it, every year he ran it he hiked his salary.

        The interest for the most part was accrued (and it wasn't at
all obscene, although that may be a determination of the beholder's
eye) and it too was wiped out in the final collapse.  Remember, if
Icahn hadn't stepped in TWA would have collapsed at the time he
initially moved in to rescue it.  Moreover, if memory serves, the
airline posted an OPERATING loss in every year of its last 12 years of
life (I haven't followed it recently so I have no idea what its doing
now).  That's "operating," as in "pre-debt service."  I am sure you
understand this.

>> When he'd bled every asset out of the company he could, and it
>> obviously couldn't keep the bills paid and the planes in the air,

        No, it came to a point at which his cost reductions were
rebuffed by the unions and he decided he did not want to put any more
dollars in - he realized that it was a bottomless pit and could not be
saved - at least not by him.  Icahn fed the company cash, he did the
exact opposite of what you claim.

>> he bailed out, taking nothing with him except,
>> of course, whatever he'd saved from many millions of dollars in
>> salary.

        Are you implying that he was not entitled to a substantive
salary for taking the risk and devoting his efforts?  Are you
suggesting that the salary he took was not commensurate with similar
salaries in similar circumstances in the market?  Good.  You seem to
know quite a lot about this.  Just what was his salary and bonus in
each of the years he served?

>> He would've gotten away with it completely, too, if he hadn't gotten
>> one step too greedy and looted the pension fund.  The feds made him
>> pay part of that money back.

        He did not "loot" the pension fund.  He took that money and
put it into TWA.  He also invested some of the pension fund assets in
aircraft leased to the company.  And yes, it was determined that he
had to re-imburse the pension fund, but not because he pocketed the
money, as you imply, but rather because the court ruled that the
investment of such a large proportion of the pension fund's assets
into TWA was improper.  And note that he did make the restitution
without a whimper.

>> That took him, if memory serves, from megamillionaire down to merely
>> a multimillionaire ... for this, we're supposed to feel sorry for him.

        Where does that come from?  First off, the article was not
about Icahn, it was about Milken and the effect of his financial
activities.  Second, who asked anyone to feel sorry for Icahn?  His
attempt to save TWA was valiant, if doomed.  While I am sure the loss
was meaningful, I'll bet he cared a great deal more that he failed to
turn TWA around.

>> TWA managed to keep the doors open, barely. They went employee-owned,
>> got some debt forgiveness, and yet more wage concessions from the
>> employees, made some clever marketing moves, sold off yet more routes,
>> and against all odds have managed to crawl back into business. They
>> still haven't figured out how they'll afford to replace planes as they
>> die, and they're flying one of the oldest fleets in the air. It's a
>> much smaller and poorer business than it was when Carl Icahn took it
>> over, but they're justifiably proud of having survived him at all.

        If the unions had agreed to the give ups that Icahn asked of
them before stepping away, the company would have been much better
off.  As I remember it, the pilot's union (or one of the others)
refused, even though the other unions agreed.  And sure they are proud
to have survived him - they bought the company on his loss and that of
the bondholders.  I vaguely remember that the actual transaction was
what is called a pre-packaged bankruptcy, but that memory needs to be
checked.

>> This kind of "efficiency," well known also to anybody who's followed
>> the story of Georgia-Pacific and many other companies that were the
>> victims of hostile LBOs -- this kind of leverage, the telecommunications 
>> industry does =not= need.

        Well Brad - you are in for some severe disappointment then,
because that is exactly what is about to happen and I wouldn't be
surprised if NYNEX was the first.  But in any event, it is clear to me
that you missed to very essence of the article.  That's what comes
from reading, while simultaneously trying to formulate
counter-arguments.  You miss what the author is trying to say.

        The issue is not one of there being "no" instances of negative
application - i.e. where the equity/bonds raised for new ventures and
LBO's were used inappropriately.  Heck, that occurs in every
conceivable type of business funding from Blue-Blooded Triple A
underwritings of GM, to Government bond issues. From friends lending
money to help build their neighbor's "better mouse trap," to banks
mortgaging the family home.

        No, the issue raised was much broader than that.  The issue Gilder
was trying to illuminate was about the freeing up of huge warehouses of
idle capital from the clutches of entrenched management with nothing to
gain by taking risk, and the corresponding unleashing of new technologies
that was wrought.  It was about Milken creating wealth and technology,
not about the relatively few operators who failed to use the money Milken
raised for them either properly or successfully.  One blames the operators
for their failures, not the investors who funded them.           ^^^^^^^^^

Response to posting #2:

In comp.dcom.telecom, ofsevit@world.std.com (David Ofsevit) wrote:

>>	I had to laugh at George Gilder's attempt to revise history
>> and make Mike Milken into some sort of hero he never was.  Gilder's
>> analysis is basically flawed because he only describes successful
>> companies which he claims benefited from Milken's transactions,
>> conveniently overlooking the companies brought to ground by similar
>> transactions, not to mention the social costs of those disasters.

        You get an "F" for your research David.  Gilder did more than
describe the winners in Milken's portfolio of companies he assisted in
getting their finance.  He clearly indicated that on balance the
result was overwhelmingly positive.  No one of any repute in the
financial community disputes this issue.  It is not even a contest.

        Milken provided a financing resource.  He did not run the
companies that were financed.  It is true that not all of the
companies financed were winners and no one has claimed that they were.
But then, under the best of circumstances, no one ever claims that
Blue-blooded GM type offerings are guaranteed either.  Nor are WOOPS
or Orange County bonds.  Milken provided capital for small companies,
where none was otherwise available.  He also provided money for LBOs
that as Gilder put it, suffered under the burden of entrenched
management, hoarding huge amounts of capital.

        If you want to criticize, you first should revue all of the
underwritings Milken did and take a look at how well the overall
portfolio of offerings fared.  Gilder pointed out that in the end, the
junk bond market was a proven winner, which it indisputably is.  After
the furious sell off that temporarily destroyed the junk bond
marketplace, most of the issues fully recovered their full value.

>> He also seems to feel that, left to themselves, the various banks and
>> S&Ls that went belly-up would have come out of it and made oodles of
>> money.

        If you are referring to Gilder's comments concerning those
institutions that went broke because of the forced liquidations, then
he is quite right.  The investors who bought those junk bond
portfolios which our "respected" government deemed "poor risks" and
"under water," and then forced the institutions to auction off at
bargain prices - sometimes for as little as 20 and 30 cents on the
dollar - made fortunes a few years later when the underlying values of
the companies were finally realized by the new management teams that
Milken's financings had put in place.

>> If he's so smart, where was he when it was happening?  I don't
>> recall *anybody* suggesting at the time that the banks and S&Ls should
>> just be left alone and everything would be all right.

        I do not and will not speak for Gilder, but for myself, I
believe that's because you were too busy trying to sound indignant.  I
and many other business people, real estate investors, financial
analysts, bankers and many others were shouting the facts at the top
of our lungs, but it all fell on deaf ears.

        As I wrote to the editors at Forbes ASAP, with few exceptions,
the problems of the S & L industry were not caused by the malfeasance
of "greedy management."  Nor by the losses of value as reflected in
their junk bond investment portfolios.

        The S & L catastrophe was caused by Congress changing the tax
laws in 1986 and retroactively removing the deductibility of
depreciation on real estate held for investment.  Tax shelter
programs, some of which had been in place for almost a decade, were
destroyed overnight.  As the problem spread and banks curtailed their
real estate lending and called in their real estate construction loans
or refused to fund the "take-outs" that they had committed to, the
resulting tight money caused interest rates to rise, which in turn,
only added to the banks woes, as uncovered negative spreads wiped out
the value of the S & L industry loan portfolios.

        I know from first hand that key Senate finance committee
leaders were clearly told by senior members of the Real Estate
community exactly what would happen if they changed the laws without
allowing for an ample time period in which to run out the existing
shelter programs.  The trouble was, they refused to believe what they
were being told and opted instead, on a purely party-line basis, to
implement the Democrat's tax amendment plan.

> Just my opinion on the piece:  self-serving, revisionist humbug.

Worth just about what you put into the effort to research it - nada!

                     ------------------------

This whole thread is really too far afield from telecom to continue
running here; it is being sent as a special mailing so that those readers
not interested can dump it. And as GAJ points out, he will probably not
reply further on the subject, nor will GG. 

PAT