EXCESSIVE EXECUTIVE COMPENSATION

Well, it’s annual report time again and stockholders’ have this year’s opportunity to register an advisory vote on Executive Compensation. Starting with the current levels of compensation it is astounding how many of the largest public companies provide total compensation, including perks, to their CEO in the eight figures plus ($10,000,000 and upwards) range with the touted ceiling at close to $40 million.. This suggests several questions:

Is any “hired” as opposed to founding (genius/innovator) CEO worth such high levels of compensation? The answer must be “probably not”. The argument might be made that the high levels of compensation are necessary to retain top talent but such argument would suggest that if the compensation was pegged at say $5 million no equally talented manager would apply for the job. That just wouldn’t make any sense. It seems that the CEO’s of America constitute American Royalty equal to athletic and entertainment superstars. Athletes win their pay by pitching winning games, batting home runs, throwing touchdown passes just as entertainers earn by the quality of their performance and audience approval. Other than a CEO who happens to be the inventor/developer of highly successful products (like Steve Jobs was) what exactly does the typical CEO personally do to earn his or her outlandish monetary rewards as differentiated from the work of the other highly competent corporate staff? It would be very interesting if the proxy material detailed the specific unique accomplishments and contributions of the named executives who will benefit from the advisory vote.

All of the proxy language designed to demonstrate that the executives’ interests and shareholders’ interests are aligned often falls very flat when examined in the light of history. General Electric may be a case in point. It is safe to assume that many retirees hold GE in their pension plan either directly or indirectly and have held that stock for many years. In late 2007, just before the financial collapse, GE stock traded at $42.15 while today it trades at $30.78 or 30% below its pre-collapse level. Yet, the CEO who presided over the collapse in share value continues to receive outsized compensation just as if nothing bad happened. But, he suffered no financial pain in the post 2008 period. Bank of America is another case in point. Although the current CEO was not at the helm at the time of the financial implosion, the shares now trade in the $13-$14 range while in March of 2008 they traded at $44.55.. It is sad that none of those in charge at the time of the financial meltdown went to jail for their part in the collapse. There were no claw backs of the outrageous compensation levels they received while making what were probably the most incompetent deals (Countrywide and Merrill Lynch) imaginable. The shareholders took a major “haircut” while those executives who moved on are “laughing all the way to their way to the bank”. Bank of America is not yet “out of the woods” but, despite that, there was no discussion as to why the CEO compensation package was to be at the levels suggested. What did the current managers do that any competent manager could not have done? The shareholders are entitled to know that. The cases of GE and BofA clearly suggest that the interests of the hired executives and the interests of the shareholders are not aligned in any meaningful way.

The Board’s of many companies often rely on “studies” of peer group compensation performed by an outside compensation consulting firm. These studies have the appearance of focusing on compensation levels rather than detailing the specific contributions of named executives on which the company may base its decisions. To that degree, the so called “studies” are a “follow the leader” road map for justifying unreasonable compensation levels. The compensation committees are apparently not doing their job and take these “studies” as sort of a gospel.

Any observer of military history recognizes that there are, in each army, some very gifted and irreplaceable leaders like Patton, McArthur, Marshall and Eisenhower in modern times and Grant in the Civil War while there are many generals who, competent as they may be, do not rise to the level of greatness. Add to these the large number of totally incompetent military leaders and you have a tapestry of leadership. Why should anyone expect the corporate leadership pool to be any different? A few absolutely gifted leaders and the rest of them.

In considering compensation, the Boards’ should be probing the unique contributions of the leaders and not relying on peer group studies. Boards’ should be focused on the leaders who can not only provide a highly functional management structure but also one who can provide innovative thoughts and actions. It is sad that financial analysts do not often focus on the innovative manager who keeps things growing through brilliant management and ideas. They are the ones who really earn the large compensation packages.

Reading the history of Eastman Kodak and Polaroid provide a good example of innovative management versus a rigid corporate structure that is stuck in the mud. Eastman failed to see the future and failed to plan for it, much to the detriment of shareholders. On the other side of the coin there are current innovative and progressive corporate leaders like Zukerberg the Facebook guiding genius and Benioff the leader of Salesforce. These kinds of managers earn every penny of their compensation yet are often painted with the same brush by the analysts as all other, less creative managers.

The question that won’t go away is “what would happen, if on Monday morning, the public work up to learn that all the CEO’s in America had died over the weekend? Would the share values collapse? Maybe yes if the CEO had failed to build a functional “team” who would carry on in his or her absence. But, with a good “team” in place business should go on as usual.

Boards of Directors should insist on much better tools for the analysis of executive compensation but, instead, seem satisfied with “peer group” studies and short term results as the justification for approving management suggested compensation levels. Directors and shareholders should demand an in depth analysis of exactly what the CEO did or does to justify their compensation package as differentiated from what other staff did. CEO’s benefit from the contributions of staff by taking credit for those contributions. Shareholders and Directors need to know if the CEO personally is an innovator and/or provides forward thinking leadership as differentiated from just providing management of what is already in place.

Unfortunately, there has been no indication that shareholders, in general, are angry enough about the system to force change. Now, as this is being written, regulators appear to be stepping into the situation to bring about change. This sounds good but, more regulation is not what is needed. Regulation, if it follows usual patterns, will produce unintended consequences that will protect mediocrity instead of inducing the assurance of a system that rewards innovative managers rather than rewarding someone for “just showing up”. There is a need to make sure companies can claw back excess compensation when the CEO takes actions that turn out to be against the best interests of the shareholders. This would have been a good thing in the case of Bank of America and possibly GE.

Institutions and pension funds own large blocks of stock in major corporations but, other than a few activist investors these institutions do not appear to be taking any steps to reign in these outlandish levels of pay. It is time for shareholders’ to vote AGAINST all advisory compensation proposals until there is better justification for the pay levels proposed.

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