Outrage of the Week: Home Depot’s Oblivious Board

Few companies have become so emblematic of the continuing affliction of self-aggrandizing CEOs and slumbering boards. Bob Nardelli, who by several accounts has already been compensated to the tune of $245 million during his five year tenure as CEO, will now receive a further $210 million. Just for leaving. All that was missing from Mr. Nardelli’s departure was the accompaniment of the June Taylor dancers and Jackie Gleason shouting and away we go!

Anyone viewing Mr. Nardelli’s despotic performance at the last annual meeting –an annual meeting at which not a single director other than Nardelli showed up– could have little doubt that this was a board, and a CEO, who had forgotten to whom and for what they are accountable. Mr. Nardelli’s exit addresses only part of the problem with this company. The directors who awarded these princely sums in the first place for a strategy that did not work, who lost the confidence of the investing public, and who then had to pay out more than $200 million dollars again to get out of the mess, need to bear ultimate responsibility.

This is a board that seems to reflect little of the real world around it and appears more content indulging in its own cozy emoluments. Each director is paid a handsome retainer of $130,000 annually. Then there are the additional payments for members and chairs of committees. But that’s not enough. On top of the retainer, directors at this company need another incentive just to show up. Accordingly, and with the generosity that is only evident when dispensing other people’s money, these directors award themselves a further $2,000 for each meeting they attend. Perhaps this helps to explain a boardroom culture that is prepared to pay a CEO millions to take on the job but feels it has to offer tens of millions more annually for him to actually show up and do something.

Board members also participate in a stock option plan, the kind of plan IBM recently eliminated for directors because the company finally recognized that they are incompatible with modern governance principles. Stock options have become something of a curse for this board. First, there is the way they were used to boost Mr. Nardelli’s compensation package. Second, there is the astonishing fact, brought to light last December, that stock option dates had been manipulated routinely over the past 19 years in order to obtain greater advantage for those exercising them. Two years’ backdating might be chalked up to bad judgment –not an inconsequential vice, by any means, but one that nevertheless occurs in corporate America and elsewhere. And there may well be consequences for those involved. But two decades of backdating can only be viewed as the product of a corporate culture of willful deception and lack of accountability. In that, the entire governance structure of a company must be viewed as suspect. One heretofore overlooked fact is that, of the company’s 10 independent directors, five were on the board during the period of options backdating, which apparently lasted until 2001. Two sat on the board even before the backdating of options began in 1981.

There are those, of course, who wonder why such a big deal is made about any CEO pay package. They can’t be spending much time in or near the organizations whose employees see such a growing disconnect between the standards set for a privileged few by the board and those imposed upon workers on the floor. They don’t think about factors like morale, or fairness or leadership that eludes respect and the extent to which these affect the performance, growth and, ultimately, the earnings of a company. And I don’t suppose the defenders of Nardelli’s pay even give a second thought to the significance of the fact that the company he led continues to be at the bottom in terms of customer service, and far below its nearest competitor, Lowes, or that it seems to have developed a unique capacity to alienate customers as any quick sampling of opinions on the Internet will reveal. Others still are not particularly bothered by options backdating, viewing it as an innocent mistake. Funny that they always inure to the benefit of some other party, usually the party making these so-called mistakes.

All these things diminish respect for capitalism, which, from my perspective of some thirty years of first-hand involvement in it,  is an economic system that needs its guardians of principle and champions of responsibility as much as it needs its hedge fund managers and free enterprise tycoons. The surest way to bring about the overreach and inefficiencies of government intervention is for the laissez-faire advocates of business to continue to cling to the increasingly discredited notion that no amount is too much to pay a CEO.  The consequences of the erosion of confidence in capitalism and esteem for its leaders are too important to be left to such short-sighted thinking or to dysfunctional boards –which brings us back to Mr. Nardelli and the board of directors, for it is this board that is the fundamental cause of the company’s difficulties.

Composed mainly of past and current CEOs, boards have had a vested interest in perpetuating a flawed compensation system that has been very good to them. This is a board that boasts of its independence from management –so independent it acceded to Mr. Nardelli’s instructions that no director appear at the last annual meeting. But the most obvious qualification for these directors seems to be that they be connected to each other by way of friendship and past company experiences. I will be exploring this further in a future piece.

For its Annual 2006 year end awards, Finlay ON Governance inaugurated what it called the Home Despot Award for the board and CEO who displayed uncommon obliviousness to the growing discontent of shareholders and customers. The winner of that award demonstrated its blindness to reality by overly compensating an autocratic CEO who had lost the confidence of many stakeholders and alienated other key constituencies, and continued to do so again when it rewarded an exiting Bob Nardelli with more than $210 million for that privilege. These are just a few of the many reasons why the actions of Home Depot’s board are the Outrage of the Week.