Investing in the Classics

Machiavelli’s The Prince: On Principalities and Acquisitions

Please note that for the purposes of this analysis, I use the Harvey C. Mansfield, Second Edition translation of Machiavelli’s The Prince

rsz_portrait_of_niccolò_machiavelli_by_santi_di_tito

Much and more attention is directed to Machiavelli’s conspicuous and outré phrases about fear over love, the amorality of human nature, and the suggestion of cruelty when well used. However, these cursory, oft emotion-laden, and surface-level punditry grow evermore banal and wearisome. It is all too easy to overlook, as I have done before, the brilliant military and strategic advice Machiavelli cogently provides in The Prince; advice that is almost always illuminated with contemporary examples as well as those from antiquity. In the first five chapters of The Prince, Machiavelli expounds on the types, strengths, and weaknesses of principalities; in particular, he discusses the opportunities and challenges involved in the acquisition of principalities. Machiavelli’s analysis have proven itself to be timeless, remaining as invaluable for today as it was for kings and princes in the Renaissance, these insights are especially illuminating in the case of acquisitions, corporate or otherwise, but are no less applicable even in the case of the ordinary investment.

 

Machiavelli begins The Prince delineating the types of states, republics and principalities, the former being the topic of his Discourses on Livy while the latter being the topic of this seminal work. He further delineates principalities by type, distinguishing hereditary from newly acquired principalities. These new principalities are further sub-divided into ‘altogether new,’ as illustrated by Francesco Sforza, a mercenary captain who acquired Milan by betraying and overthrowing the Ambrosian Republic of Milan in 1450, or ‘like members,’ as illustrated by King Ferdinand, who incorporated the kingdom of Naples into his own kingdom of Spain in 1504. Machiavelli begins:

“All states, all dominions that have held and do hold empire over men have been and are either republics or principalities. The principalities are either hereditary, in which the bloodline of their lord has been their prince for a long time, or they are new. The new ones are either altogether new, as Milan was to Francesco Sforza, or they are like members added to the hereditary state of the prince who acquires them, as is the kingdom of Naples to the king of Spain” (Ch. I).

Machiavelli began The Prince outlining these distinctions as they are essential to the prince who wishes to maintain, acquire, and hold principalities. As Machiavelli will expound, these different types of principalities can have wholly different characteristics, strengths, and weaknesses when it comes to their acquisition and maintenance. The same is true for acquisitions and investments today. Considerations as to whether the acquisition is a ‘bolt-on’ (akin to Machiavelli’s ‘like member’ acquisitions) or ‘transformative’ (more candidly referred to as ‘undisciplined’ or ‘speculative’) acquisition, or whether management is hereditary or new, are crucial for any acquirer or investor.

 

Hereditary principalities are the easiest principalities to maintain, Machiavelli asserts. This is because the subjects are accustomed to the bloodline of the prince, which provides tenure and justification to the prince. Additionally, the actions of hereditary line establish a precedent for action that creates inertia amongst the prince’s subjects, establishing actions, even cruel ones, as de rigueur. As long as the prince is not extraordinarily cruel, he will not lose his state. Machiavelli posits that even if the hereditary prince were to lose his state, he would quickly reacquire it if the occupier were to have any mishaps because they will lack the privilege of generational familiarity. Machiavelli writes:   

“I say, then, that in hereditary states accustomed to the bloodline of their prince the difficulties in maintaining them are much less than in new states because it is enough only not to depart from the order of his ancestors, and then to temporize in the face of accidents. In this way, if such a prince is of ordinary industry, he will always maintain himself in his state unless there is an extraordinary and excessive force which deprives him of it; and should he be deprived of it, if any mishap whatever befalls the occupier, he reacquires it… For the natural prince has less cause and less necessity to offend; hence it is fitting that he be more loved. And if extraordinary vices do not make him hated, it is reasonable that he will naturally have the good will of his own. In the antiquity and continuity of the dominion the memories and causes of innovations are eliminated; for change always leaves a detention for the building of another” (Ch. II).

Machiavelli aptly notes that the hereditary prince has also less cause to offend his subjects. His right stems from his lineage, thus he has less necessity to prove his merit or to his subjects and his subjects have no reason to distrust him so long as he is not excessive when compared to the previous princes of his line. Underpinning Machiavelli’s analysis is the implicit assumption that change creates uncertainty, and that ordinary people and princes of ordinary ability are adverse to the uncertainty of change. Hence, Machiavelli also points out the obverse, that hereditary princes also have less cause for innovation. The same can be said of management today. Hereditary management, especially in multi-generational, family-run enterprises, provides current management with a lot of leeway, though not all of it deserved; even if they destroy shareholder value, so long as it is not excessive as Machiavelli proposes, they more often than not find themselves in control. Additionally, hereditary management often aims for the status quo and the causes for innovation are fewer, unless they are under extraordinary duress. For the investor, understanding these kind of incentives can differentiate investment opportunities from value traps.  

 

Turning to the new principalities, Machiavelli notes that the difficulties lie there. There is always some displacement from acquisitions, especially where new modes and orders are instituted, thus there is always some offenses committed that give rise to difficulty. When the prince acquires a new principality, he offends those that he acquirers from the displacement that he has caused as well as the displacement he will cause. Machiavelli states:

“But the difficulties reside in the new principality. First, if it is not altogether new but like an added member… its instability arises in the first place from a natural difficulty that exists in all new principalities. This is that men willingly change their lords in the belief that they will fare better: this belief makes them take up arms against him, in which they are deceived because they see later by experience that they have done worse. That follows from another natural and ordinary necessity which requires that one must always offend those over whom he becomes a new prince, both with men-at-arms and with infinite other injuries that the new acquisition brings in its wake. So you have as enemies all those whom you have offended in seizing that principality, and you cannot keep as friends those who have put you there because you cannot satisfy them in the mode they had presumed and because you cannot use strong medicines against them, since you are obligated to them. For even though one may have the strongest of armies, he always needs the support of the inhabitants of a province in order to enter it” (Ch. III).

Moreover, the prince never entirely satisfies those who help him acquire his new principality, since his allies’ interests will often be the cause of further resentment on the hand of the acquired target. This is apparent in acquisitions, especially in private equity, where financial sponsors have little regard for the displacement required to obtain their expected rate of return. The acquisition is one thing, maintaining it another. Citing the example of Louis XII of France who lost Milan as quickly as he acquired it, Machiavelli concludes that having the support of the inhabitants is paramount to maintaining a new principality once it is acquired. For acquirers today, this means that cooperation from the acquired (i.e., ‘friendly acquisition’) is requisite for the realization of synergies. The same holds true for the ordinary investment, where the cooperation (or strategy) of management is the key variable. More generally, Machiavelli highlights the importance of understanding the power of incentives and how differing motivations influence and complicate outcomes.

 

Machiavelli continues the discussion of new acquisitions, turning his analysis to the opportunities and challenges of new acquisitions based on the characteristics of the newly acquired principality. These are akin to the ‘soft aspects’ that are oft overlooked in corporate acquisitions, such as corporate culture, integration compatibility, customs, and leadership, among many others. Machiavelli writes:

“Now I say, that such states which, when acquired, are added to an ancient state of him who acquires them, are either of the same province and same language, or not. When they are, they may be held with great ease, especially if they are not used to living free… For when their old conditions are maintained for them in other things and there is no disparity of customs, men live quietly… And whoever acquires them, if he wants to hold them, must have two concerns: one, that the bloodline of their ancient prince must be eliminated; the other, not to alter either their laws or their taxes: so that in a very short time it becomes one whole body with their ancient principality” (Ch. III).

Acquisitions of new principalities, when they are genuinely ‘like members’ such that there is little disparity of customs, are held with less difficulty as there is less displacement caused by the acquisition and less offense taken by the subjects. The prince only needs to ensure that leadership is streamlined to his command (which in his days involved eliminating the hereditary bloodlines in the newly acquired principality) and maintaining their customs. These type of acquisition is akin to the ‘bolt-on’ acquisitions of today, where the acquirer is established and the target is of a similar enterprise (or within the investor’s circle of competence, more generally), such that the transition is easy and the acquisition maintained with ease. Machiavelli cites the acquisitions of Burgundy (1477), Brittany (1491), Gascony (1453), and Normandy (1204) by France, all of which remain a part of France today as a testament to his insight.

 

However, when the newly acquired principality is not a ‘like member’ great difficulty arises. Machiavelli remarks that great deal of labor and luck is required to maintain these acquisitions. Because of the natural dissent that arises as a result of acquisitions, the prince intent on maintaining his newly acquired principality ought to live there in person. If you are there in person, Machiavelli asserts, it is easier to spot difficulties and quickly remedy them while they are curable. Machiavelli remarks:

“But when one acquires states in a province disparate in language, customs, and orders, here are the difficulties, and here one needs to have great fortune and great industry to hold them; and one of the greatest and quickest remedies would be for whoever acquires it to go there to live in person… For if you stay there, disorders may be seen as they arise, and you can soon remedy them; if you are not there, disorders become understood when they are great and there is no longer a remedy. Besides this, the province is not despoiled by your officials; the subjects are satisfied with ready access to the prince, so that they have more cause to love him if they want to be good and, if they want to be otherwise, more cause to fear him” (Ch. III).

Additionally, the subjects are more satisfied when they have ready access to the prince, Machiavelli states, while the prince’s officials cannot harm the subjects as they are wont to do. For acquirers today, the lesson is clear; acquisitions predicated on luck and labor to become successful, or more plainly, acquisitions whose success is wholly or largely contingent on successful realization of paper synergies (or many assumptions, in the case of the investor), can easily turn to a loss for the acquirer. In these cases, synergies can become especially elusive and illusory. This is more pronounced when there are disparate customs between the acquirer and the target. But, if the acquirer or investor should find themselves in this position, they ought to be extraordinarily diligent such that they can identify and remedy issues ex ante.

 

Machiavelli proposes an additional, better, but aberrant option for the prince to maintain his newly acquired principality. Machiavelli, looking to the legacy of the Romans, recommends colonies. Acquisitions predicated on a luck and labor can easily turn to a loss for the acquirer, a pyrrhic victory due to the cost of men-at-arms required to maintain the principality. The best method for combating the costs of such acquisition is to create colonies in the newly acquired principality. Machiavelli explains:

“The other, better remedy is to send colonies that are, as it were, fetters of that state, to one or two places, because it is necessary either to do this or to hold them with many men-at-arms and infantry. One does not spend much on colonies, and without expense of one’s own, or with little, one may send them and hold them; and one offends only those from whom one takes fields and houses in order to give them new inhabitants – who are a very small part of that state. And those whom he offends, since they remain dispersed and poor, can never harm him, while all the others remain on the one hand unhurt, and for this they should be quiet; on the other, they are afraid to err from fear that what happened to the despoiled might happen to them. I conclude that such colonies are not costly, more faithful, and less offensive… But when one holds a state with men-at-arms in place of colonies, one spends much more since one can to consume all the income of that state in guarding it. So the acquisition turns to loss, and one offends much more because one harms the whole state as one’s army move around for lodgings. Everyone feels this hardship, and each becomes one’s enemy” (Ch III).

Colonies, as self-sufficient enterprises, must either swim or sink. They are, however, low-risk endeavors for the prince for they disperse and dilute the strength of the newly acquired principality. Moreover, they require minimal upfront and even less maintenance expenditures on the behalf of the prince, all the while providing the utmost incentive for success for the colonizers and participation by the remaining acquired less they desire to end up like the colonizers. In modern corporate and investment practice, ‘colonies’ could be akin to the displacement of several existing executives and/or directors to be replaced with one’s own candidates. The upfront costs are minimal compared to running the enterprise oneself, yet if done properly it can correctly align the incentives of the firm in one’s favor.

 

Machiavelli cites the Romans as the epitome acquirers. While lauding them for their use of colonies, Machiavelli swiftly lists all of the other considerations the Romans made in connection to their acquisitions. These considerations are at the heart of Roman virtue and prudence, and they allowed the Romans to conquer and maintain their empire for as long as they did, according to Machiavelli. They didn’t just acquire, but acquired with purpose. They understood the second- and third-order effects of their acquisitions. They had the prudence to anticipate the possibility of future risks and the virtue to prevent them via war. Machiavelli writes:

“The Romans observed these policies well in the provinces they took. They sent out colonies, indulged lesser powers without increasing their power, put down the powerful, and did not allow foreign powers to gain reputation there… For the Romans did in these cases what all wise princes should do: they not only have to have regard for the present troubles but also for future ones, and they have to avoid these with all their industry because, when one sees them from afar, one can easily find a remedy for them but when you wait until they become close to you, the medicine is not in time because the disease has become incurable. And it happens with this as the physicians say of consumption, that in the beginning of the illness it is easy to cure and difficult to recognize, but in the progress of time, when it has not been recognized and treated in the beginning, it becomes easy to recognize and difficult to cure. So it happens in affairs of state… Thus the Romans, seeing inconveniences from afar, always found remedies for them and never allowed  them to continue so as to escape a war, because they knew that war may not be avoided but is deferred to the advantage of others. So they decided to make war with Philip and Antiochus in Greece in order not to have to do so in Italy… Nor did that saying ever please them which is every day in the mouths of wise men of our times – to enjoy the benefit of time – but rather, they enjoyed the benefit of their virtue and prudence. For time sweeps everything before it and can bring with it good as well as evil and evil as well as good” (Ch. III).

The Romans understood the war was something never to be avoided but to be wages and deferred to their advantage. Thus, they never sat idle to enjoy the fruits of their labor as they were always anticipating future risks and thwarting them, for they knew the nature of competition and time. They knew that time brings fortune just as easily as it brings misfortune. The Romans were much akin to the prudent investor for they trusted in their virtue and prudence, that which was under their power, instead of looking to time for remedy. For they also understood that time is fickle, and can bring fortune just as well as misfortune. Leaving nought to chance, keeping mind to present troubles with an eye to future ones, the Romans took it upon themselves to defer competition to their advantage through conquest and acquisition.  Competition, our corporate equivalent to Machiavelli’s war (which can be generally understood as the natural occurrence of conflict among states), is also inevitable. The wise acquirer understands this and seeks to wage and defer competition to their advantage. Ultimately, Machiavelli reminds acquirers and investors that it is one thing to acquire, but another thing to acquire intelligently. In order to become great like the Romans, one must carefully consider the strategic benefit and ramifications in order to differ competition to one’s advantage. As he summarizes later in The Prince:

“Nor should any state ever believe that is can adopt safe courses; on the contrary, it should think it has to take them all as doubtful. For in the order of things it is found that one never seeks to avoid one inconvenience without running into another; but prudence consists in knowing how to recognize the qualities of inconveniences, and in picking the less bad as good” (Ch. XXI).

 

Machiavelli illuminates the aforementioned virtue of the Romans by placing them contra the contemporary example of King Louis XII of France. As Machiavelli describes, King Louis was brought into Italy by the ambition of the Venetians, who wanted to gain half of the state of Lombardy by bringing him in. Being King Louis’ only way into Italy, he accepted, then conquered Lombardy and more. Machiavelli chides King Louis for his holdings could have easily maintained as his allies and enemies were fragmented and weak. However, King Louis consented to the acquisition of the Romagna, his ally, by the Papacy, his enemy. Next, he called upon the King of Spain to divide the kingdom of Naples between them, in so doing he brought a strong foreign challenger into Italy for a unnecessary acquisition. Finally, Louis’ fatal and final mistake was to turn on the Venetians, the consequences of which later facilitated the loss of the Lombardy in 1495, only one year after he acquired it. As Machiavelli summarizes:

“So then Louis made these five errors: he had eliminated the lesser powers; increased the power of a power in Italy; brought in a very powerful foreigner; did not come to live there; did not put colonies there. Yet if he had lived, these errors could not have hurt him if he had not made a sixth: depriving the Venetians of their state. For if he had not made the Church great or brought Spain into Italy, it would have indeed been reasonable and necessary to put down the Venetians. But when he adopted these courses first, he should have never consented to their ruin, for while they were powerful they would have kept others away from a campaign in Lombardy, whether it was because the Venetians would not have consented to them unless they themselves were to become its lords, or because the others would not have wanted to take Lombardy from France in order to give it to the Venetians, and they would not have had the spirit to go and attack both of them… Thus, King Louis lost Lombardy for not having observed any of the conditions observed by others who have taken provinces and wished to hold them” (Ch III).

In almost every way King Louis is the antithesis of the example of the Romans, according to Machiavelli. As he reminds us time and again, it is one thing to acquire and another to maintain. The example of the Romans and of King Louis XII illustrate the dire importance of understanding second-order effects and consequences, or as Machiavelli stated in the case of the Romans, to have regard for future troubles. In King Louis’ deprivation of Venice, he did not understand how that left his holding of Lombardy exposed, as Machiavelli discourses about in the aforementioned passage. The same applies for acquisitions and investments today, each contains second- and even third-order consequences as a misconstrued acquisition can open the door to more competition rather than consolidating it in the acquirer’s favor, as often occurs when consolidation results in less diversification or removes capacity in industries where entry barriers are low and exit barriers high, for example.

 

In summary, Machiavelli provides acquirers and investors today with ample and apt advice. Machiavelli reminds us to carefully consider the type of acquisition or investment being made, and to understand the resulting opportunities, challenges, and incentives of each of these types. Moreover, he recommends that acquirers and investors ought to either be highly diligent in their oversight or be otherwise supervised such that issues can be quickly remedied. He illustrates how acquisitions can easily turn to losses when there are disparate customs between the acquirer and the acquired; thus calling to attention the importance of the ‘soft aspects’ of acquisition and investment that are often critical in differentiating investment opportunities from value traps.  Finally and most importantly, Machiavelli repeats the necessity of second-level thinking. Acquisitions and investments are to be made and deferred to the advantage of the investor. Competition is unavoidable and time is fickle, thus the investor can only rely on his virtue and prudence. Intelligent acquisitions and investments, ones that address current problems as well as anticipating future ones, are ultimately the best remedy for the investor who wishes to acquire and maintain his holdings for the long-term.

WP-Backgrounds Lite by InoPlugs Web Design and Juwelier Schönmann 1010 Wien