Sound governance is not some abstract ideal or utopian pipe dream. Nor does it occur by accident or through sudden outbreaks of altruism. It happens when leaders lead with integrity, when directors actually direct and when stakeholders demand the highest level of ethics and accountability. ~ J. Richard Finlay in testimony before the Standing Committee on Banking, Commerce and the Economy, Senate of Canada.
We’re batting 1000 so far in the prediction department regarding recent developments at Merrill Lynch. Now that the board has shown former CEO E. Stanley O’Neal the door, it needs to do some retooling itself, especially when it comes to its oversight culture, which was pretty limp in supervising Mr. O’Neal. (more…)
Earlier in October we commented on Countrywide Financial CEO Angelo Mozilo’s accelerated sale of shares gained from a generous stock options program. We thought the timing was interesting and noted: (more…)
Over the past four years, the board of Countrywide Financial paid CEO Angelo Mozilo nearly $400 million. If he had made, say, just $100 million during that time, would the company be facing any greater crisis than it is today. If he had been paid twice as much, would his interests have been so much better aligned with investors in avoiding the current disaster that he would have invoked superhuman skills to do so? It is against the gales of logic and reason that the self-serving arguments of profligate boards and New Gilded Age CEOs quickly become demolished and shown for the rubbish they are.
Countrywide Financial is a name that has become synonymous with the fiasco in the subprime loan market. It rode the wave of dubious mortgages with apparently little regard for, or understanding of, the laws of economics or physics. When it was working, it paid off handsomely for many in the company, especially CEO Angelo Mozilo. Last year, Mr. Mozilo received $43 million in pay and a further $79 million from the exercise of stock options. (more…)
Seventy–six years ago, the business world was rocked by another sensational trial involving corporate fraud and the scamming of investors with a prominent baron at the centre of the scandal. It did not end well for Lord Kylsant of Carmarthen. The uncanny similarities are not encouraging for Lord Black of Crossharbour.
A Finlay ON Governance Exclusive
Copyright (c) 2007 Finlay ON Governance
Considerable speculation is gathering about what will become of Conrad Black in light of his four-count felony conviction earlier this month. In that regard, the past provides a useful and rather unexpected guide. Corporate governance, which I think factored significantly in the outcome of the case against Mr. Black and his colleagues and set the stage for their eventual downfall (I will have a further posting on this in light of the verdict) actually has a history, though most of its champions don’t bother to study it.
Two decades ago, I came across a case involving boardroom misfeasance by another British baron. I found it interesting when I first learned about it, but thought it was from a different and by-gone era. I had no idea it would someday spring from my archives and take on a totally modern face. Today, in the wake of recent developments in U.S. federal court in Chicago, it is truly fascinating for its uncanny similarities to Hollinger’s demise and for its instructive value as to what might lie ahead for Mr. Black. It is not a pretty picture.
Owen Philipps, who became Lord Kylsant of Carmarthen in 1923, was born to great wealth and a prominent family, like Lord Black of Crossharbour. His ancestry could be traced back to the nobility of post-Roman Wales. And like Lord Black, Lord Kylsant attracted early praise for his business acumen. He commanded enormous respect in commercial and political circles and was then, as his baronial counterpart is today, viewed as a larger-than-life figure. At six feet seven inches, he was straight out of central casting for that role. Like Lord Black, Lord Kylsant began to assemble an empire, not of newspapers, but of ships. An admirer of Bonaparte like Lord Black, Lord Kylsant became known as the Napoleon of the seas for his tenacity in making deals and expanding his empire and for an almost single-handed domination of his company. You have to wonder what this fascination of ill-fated business tycoons with the likewise ill-fated emperor, who was given to such monumental lapses in judgment, is really about. Perhaps they should have studied more Wellington and less his conquered opponent.
Lord Kyslant and Lord Black received their titles largely because of their business successes. Some good connections no doubt helped in both cases. Lord Kylsant’s huge ego —he, too, did not suffer mere mortals gladly— was illustrated by the equally oversized “K” which he scrawled on memos and company orders to signify his approval. Lord Black is known for signing his name to emails in all capital letters. And the two men held rare honors: Lord Kylsant was a Knight of the Order of St. John of Jerusalem; Lord Black is a Knight of the Order of St. Gregory the Great.
In 1926, the Royal Mail Steam Packet Company, which was publicly traded on the London Exchange and headed by Lord Kylsant, bought the White Star Line, which also owned the Titanic prior to its catastrophe-destined maiden voyage. The Royal Mail was essentially a holding company for various shipping entities, which continued to operate under their own corporate flag. Like Hollinger, the Royal Mail financed many of its acquisitions by taking on enormous amounts of debt, which later proved difficult to service. By the early 1930s, the company began to fall behind in its payments to the White Star’s former owners. Soon, investors were publicly questioning the Royal Mail’s accounting practices and whether the true state of its financial health was being disclosed. Lord Kylsant, like Lord Black, initially bristled at any suggestion of irregularities in his stewardship. But under mounting pressure, and in a move that presaged Lord Black’s own actions some seventy years later, the baron responded by agreeing to the creation of a special committee to investigate the company’s affairs. The highly respected Sir Josiah Stamp —the Richard Breeden of his time— eventually submitted a devastating report that showed the alarming extent of the company’s financial deterioration and found that investors had been misled.
Lord Kylsant soon took a leave of absence from daily management of the company. Still, a criminal investigation followed and, in a move that rocked both Britain’s financial community and aristocratic society, he was arrested and charged with two counts of fraud. The mirrors of history form an uncanny reflection of the proceedings in U.S. federal court against Conrad Black. In June of 1931 a trial began in London’s historic Guildhall. The country was spellbound. The courtroom was packed. The press from around the world followed every word, along with the comings and goings of Lord Kylsant and his family in their limousines. The best —and certainly most expensive— legal minds in England, perhaps even rivaling Lord Black’s fabled team of the Two Eddies (fabled, that is, before his four-count conviction), were retained by Lord Kylsant to marshal his defense. Hundreds of boxes of documents were introduced into evidence. Prominent directors testified —as they so often do in such cases— that they were not aware of what was really happening in the company. Lord Kylsant’s lawyers mocked their testimony and asserted the board was fully informed and approved of all financial transactions and disclosures. Sounds familiar, doesn’t it? A jury of ten men and two women (Lord’s Black’s was composed of nine women and three men) did not buy that line. The central issue was that Lord Kylsant deliberately hid the true state of the company’s finances from his board of directors and the shareholders. The verdict acquitted Lord Kylsant on one count of fraud and convicted him on the other. A sentence of one year in prison was imposed.
There was great speculation at the time, as there is today with Lord Black’s conviction, about the success of an appeal, which was launched immediately. Many assumed a prominent titled member of the aristocracy would do well before similarly privileged appeal court judges and that what were asserted by the baron’s supporters to be relatively minor infractions would not be deserving of incarceration. They were wrong.
When her husband’s appeal failed, Lady Kylsant, a much remarked about figure at the proceedings, broke down and embraced the emotional baron in his last moments of freedom. The sentence was upheld and ordered to commence immediately. And so it was that this lord of the oceans who commanded one of the largest fleets of British commercial ships to sail the seven seas was dispatched into the company of petty thieves, small-time criminals and household robbers. He never set foot in the House of Lords again. He was never entrusted with other people’s money again. All of Lord Kylsant’s significant honors, including the previously noted Order of St. John of Jerusalem, were rescinded in the months following his conviction. Struggling with public disgrace and social ridicule, not just because of his crime but also the legacy he squandered, he died a broken man in 1937. The Royal Mail sailed into virtual extinction, and the financially troubled White Star Line, which even the greatest calamity of the sea could not sink, was brought down by a scheming boardroom baron who plotted his misdeeds among mahogany tables, leather chairs and every privilege his country could bestow upon him.
The shareholders of Hollinger Inc. and Hollinger International may themselves be struck by the parallels in the demise of Lord Kylsant’s empire and the hollowed-out remains of what not long ago was the world’s third largest newspaper owner.
If, on a Christmas Eve in the late 1990s, before the twin vices of greed and miscreance had settled on Lord Black’s mind, the ghost of Lord Kylsant had been able to visit him, as Marley appeared to Scrooge in the Dickens tale, one wonders what he would have said. Would he have warned his modern equivalent to change his ways? Would he have counseled him that it profit a man nothing to gain a few dollars more only to lose his priceless freedom and precious reputation? Could anyone have persuaded an uncommonly determined man who rose from The Bridle Path to a British peerage to take a less ignoble path? Is it always the curse of larger-than-life men to surround themselves with smaller figures of little courage and a never-ending sense of obliging service? Or are there just so few men and women who will stand up to hold back the destructive tide of hubris and unquenched ego? Looking at the examples from as far back as the Royal Mail and as recent as Hollinger, a long series of rather remarkably ineffectual boardroom players, distinguished more by the outcome of their carelessness than by the product of their diligence, seems to lead to that conclusion.
It is perhaps not just Conrad Black who needs to reflect upon the events that have taken him to this regrettable point in his life. The experience carries valuable lessons for how we all deal with such titanic figures in the future, whether they be noble barons or just common variety CEOs who think they should be paid a king’s ransom.
Conrad Black is the only member of the House of Lords to be convicted of criminal charges involving a publicly traded company since 1931. It did not end well for Lord Kylsant of Carmarthen. One wonders what history will finally record in the case of Lord Black of Crossharbour.
A Finlay ON Governance Exclusive
Copyright (c) 2007. All Rights Reserved.
Whatever else it may be, the Hollinger saga has been another valuable lesson in how not to run a company —and in what kind of company investors should avoid.
Even before the outcome is known in the trial of Conrad Black and other former officers and directors of Hollinger International, the verdict of public opinion seems to have arrived at a number of conclusions. One is that corporate governance matters.
As we have observed before, under the Conrad Black style of rule and Hollinger’s Black-dominated system of dual class shares, Mr. Black occupied the all-powerful positions of chair and CEO of Ravelston, Hollinger Inc. and Hollinger International, as well as chair of the latter’s executive committee. An unusual number of insiders, some of whom are currently standing trial, sat on the boards of both Hollinger Inc. and its Toronto-based parent —a situation, again, that runs contrary to modern corporate governance principles. Had investors heeded these and other signals, they would have known that Hollinger was a corporate governance train wreck just waiting to happen.
Hollinger’s example makes another compelling case for separating the positions of CEO and board chair, with a strong independent director holding the latter slot. One might have thought when you have a CEO talking about corporate governance “terrorists” on the one hand, looking for the company to pony up more for his butler on the other and announcing, just for good measure, that he was “not prepared to re-enact the French Revolutionary renunciation of the rights of nobility” as Mr. Black did, it would have been time for independent directors either to make some major changes or take a walk.
Hollinger had a further problem, however: a board of apparently disengaged directors. It’s not that they were just asleep at the switch —they didn’t even appear to be on the Hollinger train. They met infrequently and asked few questions. Most directors did not seem to understand, or even care about, the role of Ravelston, the Black-controlled private company to which Hollinger shareholders were paying tens of millions of dollars every year. At least one director, Henry Kissinger, rarely, if ever, showed up. Alfred Taubman was actually re-nominated to the board after his criminal conviction for price-fixing.
Given their inattentiveness and the laxness of their oversight, it is hard to believe that Hollinger directors ever intended to act like a real board. They seemed content to be bit players, and rather unconvincing ones at that, on a stage where Conrad Black had the only voice and the leading part. They appeared to enjoy basking in the glow of the Black empire and its connection with the high and mighty, and seemed to view the boardroom as little more than a fitness club for the exercise of grandiose egos. Unfortunately, they were not unique. There are too many underperforming boards today that are hypnotized by their CEOs in the same way Hollinger directors were apparently captivated by the Black magic of his lordship’s spell.
Here was a company where audit committee members didn’t read this, or missed that or just skimmed something else, and had a chronic inability to ask meaningful questions about the multi-million dollar payments they were approving. It was a level of performance in the boardroom that wouldn’t be tolerated in the mailroom.
This episode should give directors everywhere pause to think about the extent to which they might be placing their own reputations in the hands of a faulty system that could eventually be the cause of major embarrassment. The question is: Will it? There have been plenty of instructive disasters over the years. Hollinger’s bumbling directors might have learned from a whole slew of them —but apparently did not.
There will be some observers who argue that Hollinger is so far off the map that no lessons can be drawn from the trial. This would be a mistake. The same boardroom drama of complacent directors and power-hungry CEOs has been played out many times before. It will be again. All you have to do is look at the huge number of companies where compensation committees are still awarding their top executives with insane levels of pay which often bear no resemblance to reality, where fleets of private jets whose interior luxury would make a sultan envious are routinely provided to the travelling CEO, and where a never-ending list of perks —from lifetime million dollar annual pensions to corporate condos in Manhattan— come as standard boardroom equipment. Most boards don’t even want shareholders to have an advisory say on pay. So you have to wonder who is actually running the show in most boardrooms and how different they really are from Hollinger.
Through the extraordinary prism of criminal proceedings in U.S. federal court, we have been given a view of the inner workings of a corporation that is almost never afforded ordinary investors. The alarming thing is that what you had at Hollinger was not unknown or inexperienced directors, but some of the leading names in North American business and public life. Several of them are still serving as directors of other major companies. When they come off as confused, as inept and as comprehension-challenged as they have in this trial, you have to wonder what else is going on and what other scandals and disasters are just waiting to happen in the companies that still welcome them as directors. Hollinger also shows the workings of the boardroom club. Once inside, you are usually in for life —even if you mess up big-time. It is a very cozy arrangement and one that continues to embrace directors who have lurched from disaster to disaster.
Whatever the outcome of the proceedings in the Dirksen federal court building, what cannot be disputed is that there was something terribly wrong at Hollinger. One of its directors (Alfred Taubman) was a convicted felon. Another key officer and director (David Radler) became a convicted felon. The private holding company that Black and Radler controlled, which featured so prominently in the trial, is an admitted corporate felon, having pleaded guilty in U.S. federal court to mail fraud. Hollinger directors paid out more than $50 million to settle shareholder lawsuits. Canadian heavyweight law firm Torys LLP agreed to pay Hollinger $30.25 million to settle allegations that it provided bad advice in connection with the sale of newspapers. It was the largest settlement of its kind by a Canadian law firm.
Corporate history, such as it is, will have a well-documented case in which to assert its rightful opprobrium against this cast of players. But for Conrad Black, the central figure in this drama, to emerge unscathed from the company he controlled with an iron hand in every possible way, in the face of such astonishing occurrences, would make him the Houdini of the American boardroom. Still, it is possible.
As I have long contended from seeing them in action at many levels over several decades, there is more fiction than fact, more mirage than miracle about the superhuman abilities so often attributed to those at the top. Publicity machines engage in amazing acrobatics to churn out a constantly expanding litany of superlatives and adjectives in describing their clients, but reality — which serves no one’s bidding or generous retainer— often tells a different story.
In this trial, we have had a rare glimpse into the performance of many who have long operated in an Oz-like fashion behind the curtain that prevents public scrutiny, preferring to project from afar the image of their self-claimed greatness. But when they take center stage, the lawyers, the directors, the audit committee members, the executives —all reveal what poor actors they really are, leaving the audience who once viewed them with a mixture of fear and reverence feeling cheated for the shabby performance that was delivered. Sadly, it is a drama that is played out time and again in the world of business and high places. We just don’t get to see it played out under oath very often.
Between the Abbott and Costello performance of Hollinger’s directors, the feebleness, failings and shortcoming of its gatekeepers and the Louis XIV-style email utterances of Conrad Black, the image of capitalism and public confidence in the workings of the boardroom have taken quite a hit.
I don’t know whether Mr. Black and his colleagues will be convicted or acquitted. That’s for the jury who heard the evidence. What is beyond reasonable doubt is the damage that has been inflicted upon the reputation of business and the sense of betrayal that many will once again feel about those who lead major corporations. Even before this trial, there was a widening belief that too many in business are only out for themselves, and that the concerns of ordinary stakeholders have long since vanished from their considerations.
Whatever else it may be, the Hollinger saga has been another valuable lesson for students of business and sitting directors in how not to run a company —and to potential investors in what kind of company to avoid.
We will have some thoughts on Conrad Black and his legacy in Part 2.
In too many boardrooms across North America, executive compensation has descended into the farce of rewarding CEOs for super-human abilities they don’t possess, on the basis of performance they frequently didn’t achieve, with money from compensation committees that is not theirs.
Do a search on the Internet for the highest paid CEOs and shareholder outrage, and the name Yahoo soon pops up. The compensation of the company’s now former CEO Terry Semel featured prominently in a recent AP roundup on executive pay. I was interviewed by the report’s author and had a few comments in the piece about CEO compensation in general and about the boardroom culture that permits its abuses. Yahoo lagged behind Google in profit growth and stock performance. Still, that did not prevent the board from awarding Mr. Semel a 2006 package of more than $71 million, according to the AP survey. That amount raised the ire of investors. This week Yahoo announced that Jerry Yang, a co-founder of the company, will replace Mr. Semel as CEO. Mr. Semel’s departure from the top slot was not a surprising development.
What is surprising is that Mr. Semel’s previous pay package of a neck-snapping $230 million prompted barely a mutter. That’s one of the things about CEO compensation. Reactions to it can change very fast. Investors might not care how much a CEO receives when the stock is performing well. When shareholders are giddy, the sky seems to be the limit. But when the party dies down and the reality of lower stock levels hits, they can get very testy. What is missing is the recognition that a culture of excess on the part of directors, which seems to dominate too many North American boardrooms, like a boorish in-law at the family reunion, once arrived is slow to depart. Yahoo had such a culture.
Indeed, nothing reveals the folly of its compensation regime more starkly than the loony idea that it needed to enrich the fortunes awarded to its senior executives by giving them something called retention pay. Each of Yahoo’s top executives —Terry Semel, Farzad Nazem and Susan Decker— received a bonus for staying with the company. Think about this for a moment. They collectively own millions of Yahoo shares. Is it reasonable that, with so much invested, they would have to receive additional incentive to stay with the company and try to improve the value of their holdings? What better than a top position inside the company to contribute to your own financial growth? Yahoo’s board would have been better off taking the stance that if someone with that kind of stake still needs extra inducement to stay, it has the wrong person in the job.
But in a contemporary corporate culture where CEOs seem constantly to be crying out “motivate me,” ever obliging compensation committees, aided by clever pay consultants whose creativity would make a science fiction writer seem dull, can dream up endless reasons to give more of the store away to management. They seem considerably more challenged when it comes to holding back. Another interesting sidebar in the Yahoo compensation story is how much the board, and management, were obsessed with the subject. Last year (the most recent figures available) Yahoo’s compensation committee met on 12 occasions. That’s even more than its audit committee.
The huge sums being paid out to Yahoo’s executives prompted the company to go back to shareholders this year to ask that more stock be earmarked for options purposes and prescribed vesting periods be eliminated for restricted stock. They had no trouble getting support for the widened gravy train. That’s another part of the problem, by the way: there doesn’t seem to be a culture that understands the concept of “too much,” or even enough, when it comes to executive compensation. No form of contortion seems to be beyond the ability of boards and management to twist themselves into in order to try to show themselves deserving of still more. At a certain point, it becomes as demeaning to witness as it should be to engage in.
Yahoo, like the case of Home Depot and Bob Nardelli before it, provides yet another high profile illustration that Pharaonic pay does not always translate into superior results, and —as I have suggested and on these pages and elsewhere— that there is no proof that even superior results cannot be achieved by more modest compensation.
For the privilege of paying its CEO nearly a third of a billion dollars over the past two years ($451 million since 2001), Yahoo has seen its growth rate decline and its stock gains flag. Its brand has been eclipsed by Google, which has established itself as the preeminent knowledge factory on the Internet. By any reasonable standard, such performance should have been available for far less. But the question of whether boards really have to pay that much for the performance being sought never occurs in many boardrooms. And Yahoo’s board, like others, had to be hit with an onslaught of shareholder anger before it got the message and acted.
When wildly excessive and unjustified levels of CEO pay are the product of the best thinking in Yahoo’s boardroom, you have to wonder what other broader strategic decisions on the part of directors are equally lacking in sound judgment and vision. One already seems to be taking shape —appointing Mr. Yang, who is 38 and has no experience running a publicly traded company, much less one with the profile and capitalization of Yahoo, to the top executive post. Though clearly not intended as such, I suspect the move may be a harbinger that Yahoo’s days as a stand-alone entity under its current ownership configuration may be numbered.
As noted previously, CEO compensation was not always like this. It has been transformed into an instrument that, while creating a new class of super rich, is also undermining public respect for the institution of modern business and the economic system that underpins it. But then the current class of CEOs and directors don’t really see themselves, much less act, as guardians of capitalism for the well-being of future generations. They have turned a relatively minor aspect of business decision-making —executive pay— into a high profile, headline-grabbing lightning rod that has become an emblem to much of society of everything that is wrong with business and its self-aggrandizing leaders.
In too many boardrooms across North America these days, executive compensation has descended into the farce of rewarding CEOs for super-human abilities they don’t possess, on the basis of performance they frequently didn’t achieve, with money from compensation committees that is not theirs.
No wonder the scam is hard to stop.