Deal Professor: Flawed Bidding Process Leaves Dell at a Loss

Harry Campbell

The private equity firm Blackstone Group has exited the stage for Dell, abruptly bringing down the curtain on a budding takeover contest. It has the elements of a farce, and Dell’s board has no one to blame but itself.

The fizzled bidding for Dell is a result of the board’s extreme reliance on a process known as a go-shop and how it ran the initial sale. If this episode does not change the way companies sell themselves, perhaps it should.

A go-shop is a device that companies started using about a decade ago. The go-shop typically provides that after a deal is announced, the target company shops like Paris Hilton, as a Delaware judge once put it, looking to see if another bidder is willing to compete.

Why would the first bidder allow this?

The answer lies in its origins. Go-shops were first used in private equity buyouts. The private equity firm would often team with management to make a bid, demanding exclusive negotiations. Boards would agree to this exclusivity but in exchange demand a period of time when alternative bids could be solicited. This way they could be assured that the company was being sold for the highest possible price.

Yet there is also plenty of skepticism about this process. The conventional wisdom is that go-shops are a hollow ritual. The feel-good perception that the company is being actively shopped covers up the fact that the initial bidder has a perhaps unbeatable head start. Once a deal is announced, others don’t have time to catch up, nor do they want to get in a bidding war. A go-shop becomes just a cover-up for a pre-chosen deal.

There is truth to this. At least one study has found that go-shops don’t generally attract higher-valued bids when management and private equity firms are involved. This makes sense. After all, if the original bidding group has management locked up, how is a subsequent bidder going to run the company?

Despite such concerns, the Dell board used both exclusivity and a go-shop in structuring the sale process, although it did add some frills to try to protect shareholders further.

Instead of running an open auction contest at the very beginning, the Dell board negotiated with the private equity firms Silver Lake Partners and Kohlberg Kravis Roberts & Company. When K.K.R. dropped out, the board asked TPG to join the process.

But the board focused on only two bidders at a time and didn’t reach out to others. Instead, when Blackstone called about a deal in January, it was left to bid only in the go-shop after it was announced that Michael S. Dell and Silver Lake were offering $13.65 a share to take Dell private.

It is curious that the Dell board adopted the go-shop process so wholeheartedly. Even in the best of circumstances, they are seldom successful. Since 2004 there have been 196 transactions with go-shops in them, according to the research provider FactSet MergerMetrics. In only 6.6 percent of these did another bidder compete during the go-shop period. More than 93 percent of deals with go-shops do not attract competing bids.

You can slot Dell into the overwhelming majority. The Dell board hired Evercore to run the go-shop, and the investment bank contacted 71 parties. Now Dell appears left with only Carl C. Icahn.

It might have turned out differently, if the board had pulled Blackstone fully into the sale process before the announcement of an agreement to sell the company to Silver Lake and Mr. Dell. By failing to include Blackstone — with its growing technology practice that includes a former executive of Dell — from the get-go, it allowed the go-shop process to unfold in the harsh glare of the media.

And when your business is something like a melting ice cube, time matters. A recent International Data Corporation report showed the PC business in a free fall, with United States shipments down 12.7 percent in the first quarter of this year compared with the previous year, and Dell falling behind its competitors. The deterioration in the business was one of the reasons Blackstone decided not to bid.

Hindsight is 20-20, of course. Still, Dell’s board should have known that how it ran the sale would come under harsh scrutiny. Dell’s biggest shareholder outside of Mr. Dell, Southeastern Asset Management, had told the Dell board before the proposed buyout was announced that it would not support a transaction where it could not roll over its shares and that was not in the range of $14 to $15 a share, according to a securities filing. That Southeastern is now heavily protesting this deal is no surprise.

People close to Dell vigorously defend the sale process, calling the go-shop a “success” since it brought Blackstone even this close to bidding.

But Dell’s use of the go-shop now leaves its shareholders with a hollow choice. Silver Lake and Mr. Dell will most likely wait it out, possibly raising their offer a quarter or two at the last minute to win over shareholder holdouts. They certainly have no incentive to do anything before then or to do much more, if even that. And then shareholders will be forced to vote between this deal and taking the risk with a still publicly traded company that Blackstone has now so publicly spurned. It’s really not much of a choice.

Moreover, there will now be furious lobbying by Southeastern and Mr. Icahn to have equity stakes in a newly private Dell rather than take the buyout offer. Southeastern wants to salvage its investment in Dell — its cost basis in the stock is above the current offer price. But it appears the fund has little leverage unless it can persuade these now doubly cowed public shareholders to play a game of chicken with Mr. Dell.

At this point, it is simply speculation whether there could have been a healthy bidding war for Dell. Yet there are lessons here for companies that use go-shops in the future.

The risk that the process leaves shareholders with no real choice is particularly keen when management is involved. Dell’s board went admirably out of its way to secure the cooperation of Mr. Dell with any winning bidder, but even then it appears that he was not so willing to cooperate with Blackstone, as Andrew Ross Sorkin of The New York Times noted in his column.

Running a full auction of a company beforehand when there is leverage to fully secure management’s cooperation appears to be the better course.

In other words, the next time a company says that the price being paid to shareholders will be a good one because they have a go-shop, be wary. And as for directors, when executives from a private equity firm with $51 billion in assets under management comes knocking on your door, you might not want to turn them away.

Deal Professor: Few Winners in Cellphone Wars

Harry Campbell

If you are wondering who will be your cellphone provider next year, so are the cellphone companies. Maneuvers by American cellphone providers to acquire one another are threatening to erupt into all-out war. And the question is not only which ones will survive, but whether the survivors will be ruined by the prey they are rushing to swallow, leaving consumers by the wayside.

The first move occurred in 2011, when AT&T made a bid to acquire T-Mobile U.S.A., the American subsidiary of Deutsche Telekom, which had been looking to sell it for a long time. AT&T’s move was brave, considering the well-known antitrust concerns. As part of the deal, T-Mobile was put in the awkward position of arguing to antitrust regulators that it might not survive if it wasn’t acquired because of its smaller size and its annual revenue of only $21 billion.

It was a bad move for AT&T. Regulators blocked the deal, and the company walked away poorer by about $6 billion — the $4 billion it was required to pay over the failed acquisition plus the estimated value of the broadband licenses it was required to grant T-Mobile.

The failure should have made other carriers wary. Instead, the message was that unless you acted soon to get bigger, you were not likely to be in the cellphone business for long. And bigger means big enough to challenge AT&T and Verizon Wireless, the two 800-pound gorillas in the wireless arena, with about two-thirds of the United States market, according to Strategy Analytics, and more than 200 million subscribers combined.

The runners-up in the market, Sprint and T-Mobile, knew they had to scramble to get bigger. And behind them were the poor cousins, Leap Wireless and Metro PCS, regional wireless services also looking to grow.

The stage was set to unleash the investment bankers.

Sprint and Metro PCS came close to a merger this year, but Sprint’s board scrapped a deal at the 11th hour.

Metro PCS then went down the short list of other targets and agreed to a deal with T-Mobile, announcing a combination this month. If completed, joining the two would create the third-largest mobile phone operator with 42.5 million subscribers. And the combination is really an acquisition of T-Mobile by Metro PCS with a $1.5 billion dividend kicker paid to Metro PCS shareholders.

This dividend is much less than Metro PCS shareholders could get in a sale. But this is the price that management is paying to get larger. Expect Deutsche Telekom, which will own 74 percent of the combined entity, to sell its shares quickly when, and if, the deal closes.

MetroPCS, however, was thinking broadly when it announced a combination with T-Mobile. According to people close to Metro PCS, it is also trying to nudge Sprint to make a “put up or shut up” move to acquire it — either now or after it combines with T-Mobile. Sprint’s alternative is to become the odd man out, left behind by bigger and fiercer competitors.

Many expected Sprint to immediately take the bait and start a counterbid for Metro PCS. Instead, Sprint responded last week with an out-of-the-box move, announcing that SoftBank, the Japanese telecommunications behemoth, would acquire 70 percent of the company for $20.1 billion.

The money would be used to buttress Sprint’s finances, presumably for more deal-making and expansion.

Flush with potential cash, Sprint quickly agreed to spend about $100 million to acquire a stake from Craig O. McCaw in Clearwire, the broadband service provider. This would raise Sprint’s stake to 50.09 percent of the votes from 48.6 percent. Clearwire’s stock slid on the news, as the market concluded that Sprint would now be uninterested in acquiring the remaining shares.

Such an acquisition didn’t make sense, because Sprint already controlled the board and appointed seven of 13 directors. But what is clear is that Clearwire has become just another pawn in the cellphone wars.

Let’s all acknowledge at this point that I’m dizzy trying to keep track of everything.

Left out of this deal-making party so far is Leap Wireless. In August, its chief financial officer acknowledged that the company might sell itself. Leap’s stock fell 18 percent the day of the announcement that Metro PCS and T-Mobile were combining under the assumption that it no longer was an attractive acquisition target and would not be part of the deal-making.

That may be true — for now. Yet it is unlikely that Leap will be left out.

That is because we are heading to a place where there are likely to be three big wireless companies in the United States, but not many more. And the big will continue to get bigger as they scoop up telecommunications companies with access to excess broadband spectrum.

While the endgame may be apparent, one has to wonder whether the wireless industry is in danger of entering the fog of deal-making.

We’ve seen this story before — in the battle over RJR Nabisco that was made famous by “Barbarians at the Gate” and in deal-making frenzy during the dot-com boom. When faced with a changing competitive landscape, executives spend billions because they believe they have no other choice. The cost to the company — and to shareholders — can be immense. In this world, executive hubris tends to dominate as overconfidence and the need to be the biggest on the block cloud reason.

Witness the comments of SoftBank’s chief, Masayoshi Son, who told Jim Cramer on CNBC after the announcement of his company’s investment in Sprint that “I am a man, and every man wants to be No. 1, not No. 2 or No. 3.”

Not so coincidentally, the deal would make SoftBank only the third-largest global wireless carrier.

AT&T has already lost an estimated $6 billion in the cellphone wars. This is no small change.

The rush to complete deals is an investment banker’s dream.

But the hunt may lead these companies to not only overpay but acquire companies that are underperforming or otherwise don’t fit well. Then they have to find a way to run them profitably.

And it may be that it is not being large that is crucial to winning in this game, but technical innovation. That is what Apple found out to great success. So far in the cellphone wars, these other considerations appear meaningless.

For consumers, this means that there is likely to be less choice as wireless carriers disappear. And whether service will improve or large carriers will simply occupy more space is unknown. Regulators, meanwhile, are likely to stand aside from these smaller deals, instead buying the argument that AT&T and Verizon need a bigger third competitor to stand up to it.

It remains to be seen if that is true, but in the heat of the moment, cellphone executives believe there is no choice but to acquire one another. And in these wars, it is all about making a deal. Consumer concerns are secondary.

Deal Professor: Why MetroPCS Is Truly in Play

Mary Altaffer/Associated PressA MetroPCS store in Manhattan.

There are three fundamental things to know about the deal between MetroPCS and T-Mobile USA.

First, this is really just an acquisition of MetroPCS by Deutsche Telekom. After the transaction is completed, Deutsche Telekom, the German telecommunications behemoth, will own 74 percent of the combined company, which will be renamed T-Mobile. MetroPCS’s public shareholders will own the rest.

Second, though Deutsche Telekom is acquiring MetroPCS, this is also a way for Deutsche Telekom to undertake a reverse initial public offering for T-Mobile. Deutsche Telekom may be acquiring control of the combined MetroPCS and T-Mobile, but it wants to exit this business eventually. If the transaction goes through, expect Deutsche Telekom to sell those shares to the public over time.

Third, because this is really an acquisition, it puts MetroPCS, one of the few national mobile carriers, very much in play.

The deal structure is not that of a typical merger where a buyer simply acquires the target. It is instead a recapitalization. A recapitalization is a fancy term that means the rejiggering of a company’s capital structure.

The restructuring part is Deutsche Telekom’s contribution of the T-Mobile business to MetroPCS in exchange for 74 percent of the share capital of the combined business. And because this is categorized as a recapitalization, the contribution of the shares is tax free to Deutsche Telekom.

Stephan Savoia/Associated PressT-Mobile’s deal to buy MetroPCS turns up the pressure on Sprint Nextel.

The net effect is that Deutsche Telekom is acquiring control of MetroPCS.

But don’t expect Deutsche Telekom to hold on to the shares for long. As Rene Obermann, the company’s chief executive, acknowledged on an investor call, this is also a way for Deutsche Telekom to gain liquidity for its T-Mobile interest. Mr. Obermann called the transaction a “turbo I.P.O.” By doing it this way, Deutsche Telekom saves on I.P.O. costs, and also has an asset that is more easy to sell since it has greater scale.

There are also some bells and whistles on the transaction. There is a $1.5 billion dividend to MetroPCS shareholders to give them an incentive to vote for the share issuance to T-Mobile. There is also a 2-for-1 reverse stock split of MetroPCS shares. The parties didn’t disclose why, but the reverse stock split is likely to push the MetroPCS stock price back above $10 after the large dividend and keep up appearances. The stock split also has the convenience of ensuring that MetroPCS has enough authorized shares to issue to Deutsche Telekom.

MetroPCS will also restructure its debt, and Deutsche Telekom has committed to lending the new entity as much as $6 billion more in financing on top of the $15 billion the combined entity will owe Deutsche Telekom.

But it is the structure of the transaction that puts MetroPCS up for sale.

Under Delaware law, the deal is viewed as a sale because Deutsche Telekom is obtaining majority control of MetroPCS. This puts the MetroPCS board into “Revlon-land” (referring to a 1985 Delaware decision in a takeover battle over Revlon), requiring the board to obtain the highest price reasonably available for the sale of the company.

This is an open invitation for another bidder to come in and pay a higher amount, something the MetroPCS board must accept if it a clearly superior offer.

Deutsche Telekom’s main fear here is likely to be a move by Sprint. Earlier this year, MetroPCS had previously thought it had a deal with Sprint, but the Sprint board pulled out at the last minute.

MetroPCS is reported to be — surprise! — not unhappy that this new deal may spur Sprint to come to the table. And because Revlon duties apply, MetroPCS’s board is now bound to take the highest price reasonably available. If MetroPCS takes this offer, it must pay a $150 million termination fee to Deutsche Telekom.

Notably, Deutsche Telekom tried to deal with this issue by putting a “force the vote” provision in the transaction agreement. MetroPCS cannot terminate this deal even if a competing bid is made unless the company holds its shareholder vote and shareholders vote no. Before then, only Deutsche Telekom can terminate the deal even if MetroPCS’s board recommends a competing bid. And Deutsche Telekom will have five business days to match any competing bid before MetroPCS’s board can even make such recommendation change.

This will not deter a Sprint bid, but it will make it harder to complete and give Deutsche Telekom more time to respond to any competing bid.

Ultimately, the structure of the transaction was likely driven by the fact that Deutsche Telekom wanted liquidity but MetroPCS could not pay the cash necessary to acquire T-Mobile. The contribution is therefore a stepping stone to such liquidity, but Deutshe Telekom is now forced to accept this risk of a competing bid.

The next move is up to Sprint.

Either way, the real winners may be Deutsche Telekom’s lawyers and investment bankers. Their fees are likely to come out of the $3 billion in cash that AT&T paid to Deutsche Telekom in connection with AT&T’s thwarted attempt to purchase T-Mobile. And if this transaction also fails, these lawyers and bankers are also likely to be paid some part of their fees, leaving them teed up to take a run at a third transaction.

Steven M. Davidoff, writing as The Deal Professor, is a commentator for DealBook on the world of mergers and acquisitions.

The Many Deaths of Professor X

Charles Xavier is one of the most powerful heroes in the Marvel Universe. He formed the X-Men and devoted his life to peaceful co-existence between humans and mutants. And in the pages of Avengers vs. X-Men #11 last week, he was finally killed in battle.

The thing is, that wasn't the first time Xavier's death has been depicted in a Marvel comic. The character has a long, sorry history when it comes to dying, being injured, or just plain vanishing off the face of the planet. Today we celebrate the memory of a Marvel legend by looking back at these many incidents.

Hero Worship: Why Death Still Matters in Superhero Comics

Xavier's Fate: Paralyzed

Contrary to popular belief, it wasn't Magneto or Juggernaut who caused Xavier's paralysis in regular Marvel continuity. This issue of the original Stan Lee/Jack Kirby run explored Xavier's past and the fateful battle that resulted in his injury. Whilst traveling in the Himalayas, Xavier battled an alien invader named Lucifer (not to be confused with the demon). The spiteful Lucifer dropped a giant stone on Xavier before high-tailing it back into space. And the rest, as they say, is history.

Xavier's Fate: Faked his death

Kitty Pryde wasn't exaggerating when she cried, “Professor Xavier is a jerk!” Back in the Silver Age, the only character more prone to greater acts of spite and malice towards his loved ones was Superman (see Superdickery for more on that).

One of Xavier's lower moves was to go into hiding to prepare for an alien invasion, allowing the shape-shifting Changeling to impersonate him. The rub is that he didn't actually bother to tell anyone on the team other than Jean Grey. So when fake Xavier kicked the bucket, Cyclops and the gang were understandably distraught. It was only after the alien menace was removed that Xavier resurfaced -- a full 23 issues later.

Xavier's Fate: Killed and cloned

Xavier can't seem to catch a break when it comes to aliens. In this issue, his body was infected by a Brood embryo, which essentially led to a mutant-flavored redux of the original Alien movie. After all, the only thing worse than a Xenomorph is a Xenomorph with Xavier's psychic powers and grumpy disposition.

The X-Men eventually neutralized the threat, but realized they had no choice other than to put Xavier out of his misery. However, thanks to the magic of super-science, the X-Men and Starjammers were able to clone a new body and transfer Xavier's mind into it. The new Xavier was younger, healthier, and able to walk again... more or less.

Xavier's Fate: Near-fatal heart attack

Marvel tends to roll out a big, status quo-altering storyline whenever a series like Uncanny X-Men hits a major 100-issue milestone. Back in the '90s, they did it pretty much every time there was a “5” or a “0” at the end of the number. Arguably no X-Men anniversary issue had a more profound impact on the franchise than this one, however.

In this issue, Xavier and Gabrielle Haller are called upon to defend Magneto as the former villain goes on trial for crimes against humanity. The Fenris Twins decide to crash the trial and start a brawl. The downside is that this causes the already injured Xavier to suffer a heart attack. The upside is that it allowed Magneto to demonstrate his own heroism in action.

The issue wrapped up with Xavier imploring his old friend to take charge of the X-Men and New Mutants, while Xavier himself departed to Shi'ar Space to recover from his injuries.

Xavier's Fate: Paralyzed

Yeah, you're upset this time, Cyclops.

Odds are, a person can't be paralyzed fighting supervillains twice in one lifetime, right? Not if you're Charles Xavier. This X-Men crossover saw the various groups battle Shadow King on Muir Island. Xavier engaged the villain on the astral plane and won, but at the cost of his spine. What are the odds?

By reuniting the original five X-Men with the current team and putting Xavier back in a wheelchair, the Muir Island Saga ultimately served to return the characters to a more classic status quo. Fan and creator reactions alike were mixed, with these changes being blamed in part for Chris Claremont's departure from Marvel.

Xavier's Fate: Shot, infected with Legacy Virus

X-Cutioner's Song was one of more influential crossover events to hit the X-Men books during the '90s. And who better to fall in the opening shots of battle than Professor X? The story opened with Xavier being shot by Cable's new nemesis, Stryfe. Rather than killing him, the blast infected Xavier with the Legacy Virus.

Xavier was out of commission for a good chunk of the conflict while the various X-teams partnered with Apocalypse and fought against Cable's cranky clone. Luckily for Chuck, Apocalypse cured him as repayment for the X-Men's help. Xavier even had the added bonus of temporary use of his legs while the virus' effects slowly wore off. If only the other mutants who contracted the virus were so lucky...

Xavier's Fate: Killed

Baldness skips a generation in the Xavier family.

Legion is the son Xavier didn't know he had for many years. He's also insanely powerful and just plain insane. Eager to earn brownie points with his dad, Legion took a trip back in time with the goal of killing Magneto and making Xavier's dream that much easier to accomplish. Instead, Xavier's altruism proved to be his own undoing, and he took the killing blow intended for Magneto.

With Xavier dead and the existence of mutants revealed to the world decades early, nothing stood in the way of Apocalypse's rise to power. The result was the Age of Apocalypse, an alternate universe that persists even though Bishop and the X-Men eventually undid Legion's mistake.

Xavier's Fate: Paralyzed

Early on in his New X-Men run, Grant Morrison introduced Xorn, a mutant with a miniature star for a head who apparently had the ability to heal others. One of Xorn's first acts was to disable Cassandra Nova's Nano-Sentinels and heal Xavier's broken spine.

Xavier enjoyed the benefits of renewed mobility for a while, but that changed once again in the Planet X storyline. There, Xorn was revealed to be Magneto, hiding in plain sight and slowly driving himself crazy through drug abuse. He revealed that he had merely used the Nano-Sentinels to fuse Xavier's spine together and promptly re-paralyzed the poor headmaster.

The joke was on Magneto, however. He was soon decapitated by Wolverine, and thus began a convoluted “Was he Xorn or Magneto” continuity quagmire that fans and creators alike would prefer not to touch.

Xavier's Fate: De-powered and vanished

Xavier was forced to sit out the majority of House of M (apparently having been killed), as his psychic abilities would have posed a major threat to Pietro and Wanda's false reality. But that didn't help him any when reality came crashing back to normal and millions of mutants found themselves sans powers.

Xavier was nowhere to be found in the immediate aftermath of House of M. He didn't resurface until the events of X-Men: Deadly Genesis, just as Cyclops and the X-Men were learning of Xavier's past misdeeds. To make matters worse, his powers had been wiped away. But on the plus side, his paralysis had once again been cured. The powers would return in a later storyline.

Xavier's Fate: Mortally wounded and vanished

Xavier's luck during X-Men-related event comics grew progressively worse in the wake of House of M. Though, relegated to a background role among the X-Men as Cyclops took charge, Xavier nonetheless did his part to safeguard baby Hope during this event. His reward was a gunshot to the head courtesy of the traitorous Bishop. The event ended as the X-Men gathered around Xavier's body to mourn a fallen mentor. No one seemed to bat an eyelash when he mysteriously vanished from the final panel.

It wasn't an art mistake, but a segue into the revamped series X-Men Legacy. There, Exodus and the Acolytes quickly rebuilt Xavier's shattered cranium. Though the physical damage was fixed, the series was framed around Xavier's efforts to rebuild his lost memories by psychically communing with old allies, enemies, and acquaintances.

Xavier's Fate: Killed

Ultimatum isn't set in the traditional Marvel Universe, but it deserves a mention for being yet another event to to result in something terrible happening to Charles Xavier. Ultimatum saw Magneto harness the power of Mjolnir and finally make good on his threat to reverse Earth's magnetic poles. The resulting global calamity killed millions. And amid the chaos, Magneto snuck into the X-Mansion and snapped Xavier's neck. Harsh, bro.

Xavier's Fate: Killed

Xavier's latest death made headlines just last week. Among other things, Avengers vs. X-Men marked the final showdown between the former and current leaders of the X-Men. Xavier dragged himself out of what had largely been a quiet retirement in order to confront a Phoenix-possessed Cyclops. There was a strong Shakespearean vibe as Cyclops raged against the man who was the closest thing to a father he ever had. And in the end, Xavier played Obi-Wan Kenobi to Cyclops' Darth Vader.

Before now, Xavier's various deaths and horrific injuries have tended to be temporary or simply red herrings. This one might actually stick , at least as long as comic book deaths ever do.

Xavier's Fate: Killed repeatedly

Greg Pak's recently launched X-Treme X-Men has taken on new significance in the wake of Xavier's death. This series takes a few cues from the Exiles franchise, as it follows a group of X-Men from disparate worlds hopping across the multiverse. Their mission is to kill ten alternate versions of Xavier who are threatening to destabilize reality. Aiding Dazzler and friends is another Xavier. This Xavier is nothing more than a disembodied head in a jar, a la Futurama.

No matter what universe you look at, it seems like Charles Xavier is always getting the short end of the stick.

Jesse is a writer for IGN Comics and IGN Movies. Allow him to lend a machete to your intellectual thicket by following Jesse on Twitter, or on IGN.

Deal Professor: In Picking Facebook Shares, Repeating the Mistakes of the Past

Harry Campbell

Since the implosion of the dot-com bubble in 2000, retail investors have been rightfully wary of the stock market. Facebook was going to change it all, bringing the ordinary investor back.

Instead, Facebook was a massacre for retail investors, highlighting yet again why stock picking is a loser’s game. The hype around Facebook was enormous as retail investors salivated at the chance to buy what they hoped would be the next Apple. Yet, after initially trading above $40 a share, the stock is now down nearly 43 percent from the initial offering price.

The Facebook example is one more confirmation of studies that have shown that, on average, individual investors lose out consistently when they buy and trade individual stocks. They’re better off investing in passive index funds.

Professors Brad M. Barber and Terrance Odean recently released a paper surveying the evidence. Studies of individual investor trading found that “many investors earn poor returns even before costs.” These investors trade badly and tend to lose more money than they would using a simple buy-and-hold strategy in passive funds that match indexes like the Standard & Poor’s 500-stock index.

How big is the loss? The same authors in another study of 65,000 investors found that the 20 percent who traded most actively earned 7 percentage points a year less than the buy-and-hold investors, the 20 percent who traded least actively. For the individual investor, that can add up to hundreds of thousands of dollars over a lifetime.

This is not surprising. Even mutual fund managers have trouble beating the market. Last year, according to S.& P. Indices, 84 percent of actively managed funds did not beat the Standard & Poor’s index representing that fund’s sector. Going back over five years, 61 percent of funds underperformed. Even so, most mutual funds beat individual investors who try to do it themselves.

If the professionals have such problems, individual investors don’t have a chance. They are not as knowledgeable and not as disciplined. Study after study has found that individual investors have a disposition effect — that is, they tend to sell winners too soon and hold on to the losers by refusing to recognize their failure.

Individual investors are also heavily influenced by their mind-set and their environment.

For one, they are strongly influenced by media reports and buy stocks that are promoted. And, yes, there are studies of Jim Cramer’s show, “Mad Money,” and this effect. One recent study found that the higher the viewership of the show, the bigger the market reaction to stock recommendations. The authors also found that Mr. Cramer’s buy recommendations had more influence than sell recommendations, reflecting people’s desire to bet on winners. But didn’t we know that already from the tech bubble? More than a decade ago, stocks of companies with little or no profits were wildly hyped. It all ended badly, with retail investors losing the most.

In full disclosure, I’m still a little bitter about that. In 1999, I bought Ask Jeeves stock at about $120 a share, eventually selling at below a dollar before shares went up 28-fold and the company was sold to IAC/InterActiveCorp. I’m unfortunately a great example of how retail investors can time things perfectly wrong as they become part of the herd. The Facebook affair was but a sad repeat.

These inherent flaws put us off on the wrong foot when we pick and trade stocks. We don’t diversify enough, don’t do enough research and tend to sell on emotion rather than logic.

If this weren’t hindrance enough for even the most educated individual investor, the Facebook debacle shows that the market is rapidly changing in ways to make it even harder for individual investors to profit.

In the case of Facebook, the profits from investing were largely taken from individual investors before the I.P.O., by trades in the private market where most individual investors could not trade. Goldman Sachs, for example, led a private investment round at a $50 billion valuation only a year ago, selling a third of the stock in the offering at about double the price. By the time Facebook came to market, there was little left for average investors.

The losses in Facebook show that Wall Street doesn’t seem to care much about the individual investor. Companies are increasingly going public with structures that disenfranchise stockholders, or they are looking to cash out and go private just before things get good. Investment banks furiously peddled Chinese issuers to a public that didn’t seem to care much about the companies’ problems.

Instead, the markets have become the domain of hedge funds, where high-frequency trading peels off short-term profits. In the longer term, the severe underperformance of mutual fund managers last year was attributed by Horizon Advisors to the volatility in the markets and the increasing correlation of stocks. As stocks move together, or become correlated, picking winners that offer returns higher than the market average becomes more difficult.

Beyond all of these barriers, individual investors are also faced with a stock market that has remained stagnant for the last decade.

So what can be done?

One thing to consider is whether to further educate individual investors on the problems of investing on their own. The studies show that in general, investors are better off in passively managed index funds. But even here, investors tend to defeat themselves. At least one study has found that investors who engage in passive exchange-traded funds eat away the gains in performance by using this as an excuse to trade more. The problem again occurs when investors try to trade on their own.

In light of this, more disclosure and education would be nice. Perhaps Mr. Cramer’s show could begin each segment with a note spelling out how much investors lose when they trade on their own. The warning could be given to all investors when they sign up for brokerage accounts. And because not everyone will heed this disclosure, the government might take steps to limit the ability of people to trade in their retirement accounts, where the bulk of Americans hold their invested wealth.

But the bottom line is that more needs to be done to educate and help individual investors. It should become common knowledge that investing in an individual stock and trading may be fun, but it may also be dangerous to their wealth. Perhaps the warnings could start with a confessed Facebook I.P.O. investor.

Steven M. Davidoff, writing as The Deal Professor, is a commentator for DealBook on the world of mergers and acquisitions.

Deal Professor: In Silicon Valley, Chieftains Rule With Few Checks and Balances

Harry Campbell

Silicon Valley is different, they say. One of the most economically creative and dynamic pockets of the United States, it is where entrepreneurs rule. Perhaps it is no surprise then that the men who hold sway in the Valley are now looking to transform not only the global economy but the way that public companies are run, locking out both public shareholders and directors.

That the call for shareholder rights is a refrain seldom heard in the Internet sector is not new. Since Google went public in 2004 in a way that maintained control for its founders, the leaders of Silicon Valley have been chary about shareholder voting rights.

In the latest wave of Internet initial public offerings, shareholder voting rights have become even more diminished. Facebook, Zynga, LinkedIn and Groupon all gave control of the company to the founding shareholders over public shareholders. Mark Zuckerberg of Facebook appears to have even negotiated arrangements that give him — or really, his heirs — control over some shares after his death. Google is planning to issue a class of nonvoting shares that will further disenfranchise shareholders, partly justifying its actions in its annual founders’ letter as maintaining a governance structure that “is now somewhat standard among newer technology companies.”

To be fair to these companies, shareholders who invest in them do so with full knowledge that such a lack of control was disclosed.

But shareholders may accept these arrangements because they assume that a board will act independently. Directors are meant to act as a check on executives or at least add their expertise and advice to big decisions.

In the Valley, however, the idea of the visionary chief executive dominates, and there may be little room for input from directors.

This sentiment was voiced recently by Reed Hastings, the chief of Netflix and a director for Facebook and Microsoft. Speaking at the Stanford Directors’ College, a yearly retreat where public company directors learn the art of being a director, he reportedly cast skepticism on the traditional board model.

According to Kevin M. LaCroix of the D&O Diary, “Hastings said several times that for the board of a large publicly traded company ‘the fundamental job is to replace and compensate the C.E.O.’ Where the company has the resources to hire outside consultants as needed, it is not the board’s role to offer counsel or advice.”

After resistance from the audience during questioning, Mr. LaCroix reported, Mr. Hastings backpedaled, stating that his remarks applied only to “the largest public companies” or “special situations” where a board was required to act. (Mr. Hastings did not respond to requests made through Netflix for a comment.)

Such a sentiment is at odds with what corporate governance advocates and others suggest for boards. Today, boards are expected to be actively involved in supervising executives and participating in major decisions affecting the company. This represents a revolution from the 1970s, when the chief executive ruled, directors were often cronies of the chief and boards were extremely deferential.

Mr. Hastings’s attitude can be found elsewhere among Silicon Valley’s new elite. When Mr. Zuckerberg negotiated to acquire Instagram for $1 billion, he reportedly told his board only about 24 hours before the deal was approved, appearing to present it as a fait accompli.

Even if these boards did feel free to challenge these founders, they are tight and interlocking. Two of the directors of Netflix sit on the board of LinkedIn. Reid Hoffman, the chairman and co-founder of LinkedIn, sits on the board of Zynga, which has a director who is a partner of Kleiner Perkins Caufield & Byers and sits on the boards of Klout and Amazon.com. Mr. Hastings is joined on the board of Facebook by Marc Andreessen, one of the biggest deal makers in Silicon Valley who sits on the board of eBay. And so on.

These directors all work in the same environment, often invest in one another’s companies and have little incentive to challenge the chief executive because it will affect their own ability to serve as directors or participate in the next big thing in Silicon Valley.

Take Mr. Andreessen, who recently stated on the “Charlie Rose” show that the 28-year old Mr. Zuckerberg is one of the “best C.E.O.’s in the world.” Between Mr. Andreessen and Mr. Hastings, one has to wonder how active the Facebook board is.

Another example of the incestuous Silicon Valley board comes from Mr. Hastings’s own board at Netflix. Its members include the co-founder of Zillow, a professional director who sits on the Google board, two directors for LinkedIn and partners of Technology Crossover Ventures and Redpoint Ventures, two big venture capital players. It is a rather clubby Silicon Valley board.

But this does not necessarily mean that these entrepreneurs are wrong. Maybe boards are overrated in Silicon Valley, where technology moves quickly, innovation is a must and decision-making must be fast and creative for a company to survive. Presumably, these companies give control to their founders and chief executives because they have to act decisively. And these founders built these companies into successes. Why should they be subject to collective decision-making and oversight by a board? After all, boards of financial institutions didn’t acquit themselves well during the financial crisis, and they were supposedly active, involved boards.

The counterargument is that a board willing to engage in vigorous debate prevents hubris and dumb decisions by chief executives. Mr. Hastings, for example, was heavily criticized for trying to split Netflix’s Internet and DVD movie businesses, a decision he reversed after the public outcry. And the number of so-called visionary chieftains who made incredibly bad decisions is legion.

A board can serve as a check on executives and prevent abuse. The conceit is that an actively involved board leads to better decision-making and outcomes, an idea heatedly debated in the world of corporate governance. An active board may be particularly important in these tightly controlled companies where ego may get the better of decision-making. Not everyone can be Steve Jobs.

These companies may lack shareholders or directors to check executive behavior, but they are also free from becoming takeover bait, another important check. An active merger market in the 1980s worked as a disciplining force — pushing managers to shape up if their companies were performing poorly, under threat of a takeover attempt. The days are gone when a company like RJR Nabisco could spend lavishly on executive perks without consequence from a passive board. But these technology companies are controlled by small groups of shareholders and are unlikely to become takeover targets.

So the new thing in Silicon Valley appears to be for public companies to be run as private ones without significant input from boards and shareholders. This leaves the wunderkinder of the Internet free to run their companies without interference. The question is whether this is merely a bubble in corporate governance or a trend that will spread to the rest of corporate America.

Steven M. Davidoff, writing as The Deal Professor, is a commentator for DealBook on the world of mergers and acquisitions.