Innovation Mandate: Patrick Byrne Lays It On The Line

InformationWeek's Series On U.S. Tech Competitiveness

Online discount retailer Overstock.com is recognized as a world-class technology organization. Using advanced information management technology, for instance, it can roll up its profit-and-loss position in two hours, giving executives accurate, up-to-date insight for fast decision-making.

Overstock.com's chairman and CEO, Patrick M. Byrne, is grounded in the technology, but he's no geek. With a varied business and academic background, Byrne is an outspoken advocate of both school choice and capital market reform. He has founded 19 schools internationally and serves as chairman of the Friedman Foundation for Educational Choice. And when it comes to capital markets, Byrne champions greater SEC oversight to curb securities manipulation, a position that has provoked the wrath of Wall Street.

He holds a bachelor's degree in philosophy and Asian studies from Dartmouth College, a master's degree in philosophy from Cambridge University, and a doctorate in philosophy from Stanford University. Byrne also holds a black belt in tae kwon do and has cycled across the country four times. His last ride, in the summer of 2000, was to raise awareness and funds for the Dana Farber Cancer Institute.

Oh, and he holds some strong opinions about this country's ability to produce world-class innovators and innovations. Following are excerpts from a recent interview conducted by InformationWeek contributing editor Doug Henschen.

InformationWeek: Do you agree with the majority of respondents to a recent InformationWeek survey that the U.S. is losing its lead in IT?

Byrne: I would agree, and I'm really glad InformationWeek is asking because I've been giving speeches on this topic for several years. About 20 years ago I was involved in development economics [through PhD studies at Stamford University], and I came to the conclusion that academics were making it a lot more complicated than it had to be. Development really comes down to two issues: human capital development, meaning education, and capital markets, which is where you combine human capital with financial capital. Twenty years ago I was in Vietnam giving talks on that subject saying, "These are the two things you have to get right. If you get them right, development takes care of itself."

Patrick Byrne, CEO, Overstock.com

Here I am, 20 years later, and I'm in a battle with both Wall Street and the school system because I never thought the country I'd be worried about would be the United States. I think we have a terribly corrupt capital market, and people are nuts if they put a dollar into Wall Street. And our education system has become 21st to 25th out of 30 OECD countries, depending on what you measure in terms of international scores on math and science. Our long-term standard of living comes down to how well we educate our kids and whether we can fix our capital market. If we're educating our kids to the standard of Albania, there's no reason to believe we'll have a higher standard of living.

InformationWeek: Tell us a bit more about development economics and your background in the discipline.

Byrne: Development economics looks into what makes countries work. It's too long to get into in detail, but I've been all over the world teaching on the topic. I worked under Partha Dasgupta, who is one of the great theorists in development economics. He woke me up to the issues, and he's a real iconoclast. Twenty years ago, he was teaching that maybe the World Bank is doing more harm than good, and that really sounded like a crazy thing to say back then. Now a lot of people get it.

InformationWeek: So from a development economics perspective, what's your sense of the position of the U.S. today?

Byrne: This is a fairly broad analysis, but during World War II, every industrial country in the world was destroyed with the exception of Sweden and the United States. After World War II, we ran the tables on the rest of the world for 50 years. We just came to think that God is in heaven above, America is No. 1, and that's just the way it's supposed to be. We don't seem to grasp the significance, as a society, of what it means to have our kids coming out of high school educated to be 25th out of 30 industrialized countries. That should be sending up flares all over the country. I think we're just addicted to this worldview that came about from having two generations in which it was just automatic that we were No. 1. We don't get how far we've slipped.

We make it up, somewhat, in the university system. Ten years ago I would have said that system is the envy of the world, but even there we're slipping. The difference with higher education is that there's choice. You don't get assigned to a university based on your ZIP code. With K-12, we're organized on a Soviet model. That's why we're getting Soviet-style results. I was in Indianapolis early this year in a school district where only 27% of children graduate. We're creating a Third World country there in Indianapolis and in dozens of other cities.

InformationWeek: How does that hit home for Overstock.com in terms of your experience as an employer?

Byrne: In the last four years, we've gone from having seven developers to having more than 100, and we're trying to get to 150 this year. To get the kind of engineers we want, we have to hire senior people. These are people who have five to 10 years of experience. Today you have to go to the senior level to get somebody who has the full skill set that we need. I don't think that was true a decade ago. We have a full recruiting team that's all over the country trying to bring in that sort of talent. I'm not talking talent that's super rarefied, where they would otherwise be professors. Yet we have to have an extraordinary recruiting effort to hire 10 new developers. We've gone through everybody in Utah, everybody in the Rocky Mountain Range, and we now go all over the country.

InformationWeek: Do you do any outsourcing?

Byrne: We did at one time. We had people in Russia and India, but we've pulled back all the development we had overseas. We've moved to an agile development model, which we love. It breaks down the wall and the distinctions between business and developers. Business units are now being led by technologists. You can't do that if part of the team is in India and you're having half-hour phone calls each night at odd hours. It took several years to get the culture of the company right for agile development, but it's just so much better than the old waterfall approach. We would never go back.

InformationWeek: Let's go back to your comments about access to capital. Can you explain your battle with Wall Street?

Byrne: I grew up around Wall Street and I worked in the financial services industry. I was exposed to a modest level of what I would call inappropriate behavior within the financial world. That's nothing new, but about four or five years ago, I became convinced that it's being taken to a whole new level. Most importantly, the parts of the system that are supposed to be the checks and balances -- the SEC and the financial press -- had been co-opted. When we set up regulators to protect society from certain industries, sometimes they get captured by those industries. I think that's what happened with the SEC. It's now pretty obvious to anyone with a room temperature IQ that we have deep, systemic problems with our capital markets that went on underneath the SEC's nose.

InformationWeek: Hasn't the financial crisis helped to clear the system and expose all that?

Byrne: Not at all. The current recovery is fugazi -- it's a fake. We're going to be lucky if we're able to just hold here at the current level for three or four years. The deep corruption in our capital markets is only beginning to be exposed. The network of hedge funds all trading on insider information is just the beginning of what will be exposed.

InformationWeek: How does this impact the technology industry and you as a CEO?

Byrne: I don't understand why the venture capital community and Silicon Valley entrepreneurs have put up with it. The IPO system is corrupt. We went public in 2002 with a Dutch auction two years before Google took that route. We were among the first companies [in the U.S.] to go public through a Dutch auction. We turned down banks and did it just on principle.

Any time a human is able to allocate guaranteed profit, you get kickbacks. It doesn't matter if you're talking about a Paraguayan customs official or a white-shoe Wall Street banker. The normal IPO system puts bankers in a position to allocate shares, and there's this whole kickback system associated with that. The Dutch auction eliminates that, which is why Wall Street has fought teeth, toes, and fingernails to prevent the approach from getting any traction.

You have to be out of your mind if you take your company public using the conventional IPO system. It's a system for taking wealth away from the public and the current shareholders and transferring it to favored hedge funds.

InformationWeek: A big part of Silicon Valley's success has been access to financial capital. So has that system really gone wrong?

Byrne: Ten years ago, I read somewhere -- I think it was in The Economist -- that the difference between Europe and the United States is that in the U.S., capitalists will give money to a guy who doesn't own a tie. In Europe, it's all about did you go to the right school. Ten years ago I was a little down on the venture capital community, but I've changed my mind on that.

VCs are out of favor right now, and they are not having good results over the last two years. But the good ones do add a lot of value because the engineers who have the great ideas have so much to learn to make a business work. The good VCs don't just provide capital. They are a constructive force. They professionalize the company and provide strategic guidance just by having some adults there who have been around.

I have friends who I have seen struggling on their own to make a project work. When they come under the umbrella of a VC, they get surrounded by people and guidance and bright board members, and the company gets more professional and starts hitting its marks much more reliably.

InformationWeek: Some look at Google, Amazon, Facebook, Apple, and others and point out that these are all U.S., and mostly Silicon Valley, success stories. Should we really be that down on our prospects?

Byrne: The holes we have dug as a country are bigger than what companies like Apple can get us out of. Overstock.com works with some tremendous, U.S.-based technology vendors. Teradata is unbelievably good and has been a big help to us. Akamai has given us tremendous technology that has helped us forego a lot of capital costs. RightNow has given us leading customer-service capabilities. Look at the move toward the cloud. I think that's an incredible paradigm. So there are a few dozen companies creating this wonderful, leading-edge technology.

But we have to import engineers from India and China to make them tick. Silicon Valley can still be turning out leading-edge technology while the rest of the country is going the way of Detroit. Those are not incompatible possibilities. As we're approaching 50% of people graduating from high school, those people are not going to be able to participate in that world that is being created by Silicon Valley. Do we end up with a country where you have some technological elite, who are generating the value, and then a mass of government that's in the business of transferring that value?