One is forced to reach back to 1917 and a delusional Russian czar on the eve of his abdication to find such a comparative detachment from reality.
The almost heart-stopping disintegration of the value of Citibank shares seems unrelenting. It is not entirely surprising, however. This is a company that has had three CEOs in the past five years and is very likely headed for its fourth. Sandy Weill had to give up the reins when he failed to check a wave of scandals and regulatory run-ins that became costly to the institution’s reputation and stock price. Charles Prince had to relinquish power after he failed to stem an excess of overleveraging and mortgage-related bad bets that led to an unprecedented wave of losses and write-downs. Under the newest CEO, Vikram Pandit, the largest destruction of shareholder wealth in the company’s history continues unabated. As these words are being written, Citi’s stock has crashed through the dreaded $8 floor. Most investors have taken to averting their eyes every time their stock appears on the ticker. I am one of them.
Common to these problems has been Citigroup’s board of directors, which increasingly resembles a first-class sleeping car on a train wreck that just keeps happening. Almost whatever it does, it is too slow and too late. It can take months for Citigroup’s directors to clue into what others in the real world have known for some time. Sometimes they never do.
Nothing reveals the dysfunctionality of the board, and the utter failure of leadership on the part the current CEO, more than the position the company has taken on executive bonuses. Tens of billions have been wiped out in write-downs and losses. Over the past year alone, its share value has declined by $133 billion. Yesterday, Citi announced intentions to eliminate 52,000 jobs. Yet with all this, the board wants to take until January of next year before it decides whether or not it will award bonuses. One is forced to reach back to 1917 and a delusional Russian czar on the eve of his abdication to find such a comparative detachment from reality.
If the board can’t get a basic thing like executive bonuses right (meaning eliminated) at a time when the stock is in free fall and the company is receiving critical injections of capital from the American taxpayer, how can it be dealing with the larger challenges to Citi’s business model and where it fits into a radically redefined 21st century financial landscape? The answer is obvious. Citigroup’s board has demonstrated that it has not been on top of any major issue in more than a decade, much less been ahead of it. How it ever allowed the company to take on the level of risk it did and become almost suicidally overleveraged, how it permitted its once great franchise to become a laughing stock, and how it missed the mark with the company’s two recent CEOs –these are questions that quickly fall under the category “What were they thinking?” But that is a question that proceeds from a fundamentally flawed assumption. As we will show from the outdated and discredited structure of Citi’s board in our next posting, there hasn’t been a lot of thinking going on there for some time.
Owners of American corporations have rarely spearheaded the kind of landmark reforms the capital markets have needed to ensure public confidence or avoid the club of government regulation. They are reprising their Laodicean roles by failing to force a say on executive compensation.
More than a decade ago, we described the growing trend of inflated CEO pay as the mad cow disease of the North American boardroom. The comment, made at a speech in Toronto, was quickly picked up by the press. The metaphor was used because the trend toward excessive compensation appeared to be galloping from company to company, rendering directors seemingly incapable of applying good judgment and common sense when it came to compensation decisions. We repeated that idea in an interview in BusinessWeek in 2002 and in submissions to committees of the U.S. Congress.
But recent events struck us with the fear that this disease has spread to the shareholder body itself. The telling symptom is the revelation this week that at Merrill Lynch, Citigroup, Morgan Stanley and JPMorgan Chase, four companies that have seen their stock plunge, on average only 37 percent of investors supported recent proxy resolutions for a non-binding say on pay. In the case of Merrill and Citigroup, record multi-billion dollar write-downs and losses have been posted. The compensation of the CEOs who headed these companies during their descent into the world of subprime folly has been a recurring theme on these pages. It, along with the wider concern over soaring executive compensation, has sparked a mounting crescendo of outrage on the part of the public that has found its way into the current U.S. presidential campaign. Even Republican presidential hopeful John McCain has chided the level of greed that is sweeping America’s boardrooms.
The larger issue that draws our attention is the perennial fecklessness of shareholders as a group. After the panic of 1907, it was not investors who demanded the creation of the Federal Reserve System, nor did they rise up and call for such now basic measures as audited financial statements, annual reports and insider trading laws after the market crash of 1929. And when the Enron-era scandals revealed systemic weaknesses in American corporate governance, it was not the mass of shareholders who stood up at annual general meetings and demanded tougher audit committees and fewer boardroom conflicts – or any other provision of Sarbanes-Oxley legislation, for that matter. They are reprising their Laodicean roles by failing to force a say on executive compensation.
For American investors, too harsh is the tether that does not even bind. It is bad enough that directors insist on treating shareholders like children while they convey the idea that a say on pay would be almost the final step in the undoing of capitalism as we know it. But for the owners of American business to act as though they can’t be trusted with such advisory powers in connection with their companies and their money boggles the mind and is a complete abrogation of the responsibilities of ownership. It is our choice for the Outrage of the Week.
Much as we have long faulted James Cayne for his role in Bear’s implosion, responsibility for its ultimate failure is born by many actors, including the long-time head of its executive committee, Alan Greenberg. It proves once again that boards must actually direct. In Bear’s case, there is scant evidence that its independent directors were even in the room, much less grasped the pivitol role the firm played in the health of the entire financial system.
So now the titans of Bear Stearns itself are weighing in on who is to blame for the blunders that led to the firm’s collapse. The New York Times reports on Wednesday that Alan C. Greenberg, chairman of Bear’s executive committee, had some harsh words about former CEO and board chairman James E. Cayne. And the issue of corporate governance has been raised for the first time by the newspaper as a contributing factor in Bear’s downfall. It might be the first for The Times, but as loyal readers will know -and they actually include a number of Bear’s own employees- Finlay ON Governance was the first to bring to public attention the role of that firm’s dysfunctional and over- extended board of directors.
The Times notes:
The demise of the firm they loved was not so much the fault of either man. Instead, it was a collective failure of the governing five-man executive committee that over the years became so fixated on increasing the firm’s book value – and expecting the stock price to follow – that it lost sight of the concentrated, underhedged exposure to the home mortgage market that left Bear vulnerable.
Actually, The Times is not quite on top of the story. There were problems with the executive committee and the fact that it did so much of the heavy lifting in the firm -to the exclusion of any independent director. But the ultimate responsibility for permitting that situation rests with the full board of directors, which Mr. Cayne chaired and on which Mr. Greenberg served for decades. As we have observed before, there is little to suggest that any of the directors in the all male, management-dominated Bear boardroom were bothered by its governance structure or the bizarre antics of its chairman.
As The Times reveals:
One member of the executive committee said that Mr. Greenberg, as a longtime director, had ample opportunity to voice concerns about Bear’s vast exposure to subprime mortgages and its hedging strategies, which he did not do.
“He never said a word,” said this person, who declined to be identified because of the legal sensitivities in the matter.
The company’s independent directors were not exactly breaking sound barriers in voicing their concerns, either. In fact, one has to wonder if they were even in the room.
The company had independent directors on paper, to be sure, but they displayed a curious sense of their roles and what passed in their eyes for acceptable corporate governance in a firm that apparently was so consequential to the capital markets that its collapse could have precipitated an upheaval of the entire global financial system, as we have been told. Many Bear directors served on multiple boards involving other publicly traded companies. They did not establish a risk committee of the board until March of 2007 and it met only twice that year. There is the issue of the over-extension of its audit committee members (which we first revealed here). And like every major player that ran into serious trouble over the subprime meltdown, from Countrywide and Merrill Lynch to Citigroup and UBS, at Bear Stearns the post of board chair was not filled by an independent director but rather a member of top management. For at least two decades, we, and other corporate governance experts, have been urging that the top board position be held by an independent director. By almost every measure, Bear’s directors failed in their most important duty: to ensure the viability and sound reputation of the enterprise entrusted to them. They took many steps along the road in failing that trust.
As much as we have long faulted Mr. Cayne for his role in Bear’s implosion, responsibility for its ultimate failure as a stand alone institution is born by many actors. Mr. Greenberg’s pointing the finger at his former colleague is a little like Conrad Black blaming his Hollinger successors for that company’s dismal plight. As history teaches with predictable repetition, what boards do, or do not do, in supervising the affairs of a company, and whether directors actually direct, makes a difference in the ultimate outcome.
As the story unfolds, we suspect there will be more indications that poor corporate governance was at the heart of this once mighty Wall Street icon’s demise. Offered in further evidence of that proposition is the fact that even though he is at the center of such criticism and cashed out all his Bear Stearns stock, Mr. Cayne remains chairman of the board of directors.
Would The Times or anyone else like to explain that?
Never in modern business has so much been given to so few for such colossally failed results.
In just five years, these three CEOs made more than $460 million while leading their companies into the greatest losses in their history. One of them, Charles O. Prince of Citigroup, even got a bonus of $10 million, despite presiding over more than $20 billion in losses and write-downs. Stanley O’Neal left with $161 million after Merrill Lynch chalked up its largest losses ever. And Countrywide Financial‘s Angelo Mozilo, one of the highest compensated CEOs in America, has pocketed more than $400 million since 1999. The company has lost four times that amount over the past six months. Never in modern business has so much been given to so few for such colossally failed results.
To the average working person, who rarely receives a bonus even for doing an exemplary job, much less a bad one, this performance must have seemed like something of an out-of-body experience. Pay and accomplishment seldom have seemed more disconnected.
But to the past and current CEOs who testified before the House Committee on Oversight and Government Reform this week, there is no disconnect at all. The universe, for them, unfolded exactly as it should. It was about as we expected.
They, and the heads of the board compensation committees which approved these deals, all offered the usual bromides: The amounts were fully approved; the money was earned; the market is king; high pay is needed to attract and keep the best talent. How it is that CEOs who preside over record losses represent the best talent was never quite explained. One claimed only to want to help homeowners live out the American dream. Another cited his grandfather being born a slave. A third trumpeted his company’s ethics and corporate governance reforms. Mr. Mozilo ventured that the subprime meltdown had a notable culprit: “There was a lot of fraud there.” he told lawmakers. Many will agree, but they might not be thinking about the garden variety mortgage applicants to which Mr. Mozilo was referring. What role more lofty figures had in pushing out subprime loans, and who benefited from the resulting torrent of fees and record bonuses, will be something regulators and legislators should be looking at more closely.
The group of CEOs and directors who appeared before the comittee managed to slice and dice their compensaton decisions so much that they looked like they came out of a boardroom Veg-O-Matic: the pay wasn’t for this year, it was for last; it wasn’t severance, it was deferred compensation; it wasn’t a bonus for this year, it was payment for previous excellent performance. They said they actually lost a lot of money when the stock went down, just like all the other shareholders. Except most other shareholders did not head the company and make the wrong decisions. Most did not run up record losses and most did not receive tens or hundreds of millions in stock options and bonuses and salaries bigger than the state of Texas. One more thing: the process, they testified, is all fully in accord with the Business Roundtable guidelines on CEO compensation. Now that’s a really high bar. The Roundtable is made up of America’s top and best-paid CEOs. The ranking Republican on the Committee, Rep. Tom Davis (R-Va.), called the Business Roundtable guidelines the “gold standard” for corporate compensation. Is that because it makes sure the CEOs get all the gold?
Astonishing even for this group, when asked by Rep. Paul Kanjorski (D-Pa.) if there was any amount they would consider to be too much, there was silence, punctuated by self-serving proclamations of satisfaction with the way things are. All reassured the committee that they were not underpaid, however, and thus a sigh of relief was heard across the country.
America is experiencing one of the worst economic downturns since the Great Depression. The brokerage and mortgage lending industries played the central role in creating this contagion. But if high CEO pay is truly linked to performance and is good for the economy, people will want to know why it is, during a period that has seen the largest transfer of wealth from investors to the boardroom in history, the result is now one of falling stock values, shrinking economic growth, galloping home foreclosures and mounting job losses.
The hearing this week gave a rare opportunity for business leaders to admit that CEO compensation has gotten out of control and that it’s time for a new reality show in the boardroom. What began with the attendance of prominent CEOs and boardroom luminaries ended with the spectacle of men twisted like pretzels, having engaged in every type of contortion to show that these compensation arrangements were reasonable and had nothing to do with decisions to pump out more fee-generating subprime loans and structured investment vehicles. They also sent a veiled warning: any change to or reduction in the way CEOs are compensated, and capitalism as we know it may not survive. Here’s a bulletin for the boardroom: capitalism may not survive the kind of leadership that permits an ever increasing gap between CEO pay and everyone else’s, rewards failure with multi-million dollar bonuses and severance, and sees CEOs spinning off with a king’s ransom while leaving everybody else in the dust.
This was an opportunity for real leaders to admit that there are serious problems between the leadership class of capitalism and those who depend upon it for their well-being. To stand up and acknowledge the trend toward excess, to take the lead in stepping back and not being the first in the lifeboat when disaster strikes, to show some meaningful sacrifice at a time when so many are hurting instead of flashing five figure watches, five thousand dollar suits and a tan direct from the winter mansion at Palm Beach (or Palm Springs) -this would have been the kind of leadership that CEOs showed during two great wars and other times that tested America. This group showed none of that. One suspects they are, regrettably, an accurate reflection of the pool of CEOs and directors of which they are a part.
Excessive CEO pay has become synonymous with what is worst about American business: crony boards where one back scratches the other; compliant compensation committees made up of past and current CEOs; and an ethical value system enabling displays of greed and over indulgence that is not something parents generally want to impart to their children. It has been associated with every scandal from Enron and WorldCom to Nortel and Hollinger and countless failures in between. It is now a contributing factor to the recession that is unraveling the world’s credit markets and crippling economic well-being for millions.
What was obvious, too, from the testimony is that none of these CEOs and business leaders is possessed of superhuman ability. All seemed rather ordinary in the insights they offered and in the information they imparted, despite being recipients of extraordinary compensation and a corporate publicity machine that makes superman look like a slacker.
Despite the number of experienced CEOs and directors who appeared before Congress this week, one voice was distinguished by its absence: that was the voice of genuine leadership. America is entitled at a time of crisis to more than the spectacle of hugely paid, decidedly self-satisfied CEOs who feel that the system is working as it should. It needs leaders who recognize there is a need to restore public confidence in capitalism and the ethics of those who steer it. And that requires shared sacrifice and an understanding that, even in the great American boardroom, there are limits to what rational people both need and deserve.
Capitalism, like any household, should be governed by values, and not just who can get the most as quickly as they can. And so the actions of the CEOs and directors who appeared before Congress this week, and the failures of their boards that produced these results, is our choice for the Outrage of the Week.
At what point will law makers, regulators and investors see that the so-called link between performance and high CEO pay is one of the greatest hoaxes ever perpetrated on the American public?
When the House Committee on Oversight and Government Reform meets today on the subject of CEO pay as it relates to Countrywide, Merrill Lynch and Citigroup, its attention will no doubt be turned to a stunning and illustrative example of the warped thinking that permeates too many boardrooms today. It comes in the form of a 2006 message which Countrywide CEO Angelo Mozilo wrote to his personal compensation consultant (who was paid for by the company):
Boards have been placed under enormous pressure by the left wing anti business press and the envious leaders of unions and other so called “CEO Comp Watchers” and therefore Boards are being forced to protect themselves irrespective of the potential negative long term impact on public companies. I strongly believe that a decade from now there will be a recognition that entrepreneurship has been driven out of the public sector resulting in underperforming companies and a willingness on the part of Boards to pay for performance.
(E-mail from Angelo Mozilo to John England, Oct. 20,2006)
In fact, Countrywide’s CEO and its board were obsessed with the subject of CEO pay and have devoted considerable energy to that topic. As we pointed out some months ago, Countrywide’s compensation committee met a staggering 29 times in 2006, according to the company’s 2007 proxy statement.
We’ve also observed what we have called Mr. Mozilo’s miraculously timed stock sales beginning in late 2006 and all through 2007. The exercise price for his stock was considerably lower than the trading price at the time. In 2007 alone, Mr. Mozilo received about $120 million in the form of compensation and proceeds from the sale of Countrywide stock.
So here’s a question: Since Mr. Mozilo was paid nearly a quarter of a billion dollars from 1999 to 2007 (House Committee figures), was it the “left wing anti business press” and “envious” union leaders who were responsible for the company’s losing $1.2 billion in the 3rd quarter of 2007 and a further $422 million in Q4? If he had been paid more, would the company have underperformed less?
As we noted previously in connection with our submission to the U.S. Senate banking committee in 2002 during its hearings into the Enron collapse and related scandals, in the past the lure of huge stock option packages has “tempted many CEOs to artificially push up the price of the stock in ways that cannot be sustained, and to cash out before the inevitable fall.”
When the dysfunctional state of executive compensation can produce the kind of screwy investment vehicles that were based on the wildly unrealistic subprime market, without proper consideration for their longer run hazards because CEO pay is so tied to short-term gains, and place the entire economy at risk of recession, the public at large, and not just company shareholders, has an undeniable stake in the efficacy and soundness of corporate compensation decisions.
America, and by extension much of the industrialized world, is today facing the worst credit disaster since the Great Depression. The crisis was prompted by the failures related to subprime mortgages and the myopic machinations that financial institutions engaged in to push out these toxic investment vehicles to unsuspecting clients. This took place at a time when the greatest transfer of wealth was occurring between CEOs and shareholders in the history of modern capitalism.
At what point will law makers, regulators and investors see that the so-called link between performance and high CEO pay is one of the greatest hoaxes ever perpetrated on the American public?
If the boards of Merrill Lynch, Citigroup, Bear Stearns, Société Générale, Countrywide and UBS were comprised entirely of Irish setters and beagles, it is doubtful that the subprime-plagued results of recent months could have been any worse.
Some of the senior staff of Finlay ON Governance have suggested that I might have given the wrong impression about Irish setters being rather high maintenance and posing some challenges during puppyhood. My comments were made while applauding the breakthrough of Uno, the first beagle to win the top spot in the 132-year history of the Westminster Dog Show.We’re not the only former beagle owners who were impressed with the win. CBS’s Face the Nation host, Bob Schieffer, also got a chuckle out of it while praising his previous three hounds.
