Leonard Lance, (R.NJ): Mr. Cruikshank, to follow up in your remarks. Do you believe there were corporate governance failures at Lehman?
Thomas Cruikshank, Chairman, Lehman board auit committee: No, I don’t. I think our governance procedures were really very, very good.
House Committee on Financial Services, April 20, 2010
A number of revealing facts emerged from testimony before Congress this week on the Lehman Brothers bankruptcy. The Securities and Exchange Commission said that, despite being aware of red flags, it did not believe it could press for any changes at the company where staff members were embedded for several months. It appears some SEC staff had other things on their minds, however.
CEO Richard S. Fuld Jr. claimed he had no idea about the problems that were brewing and had never heard of any Repo 150 transactions. And Thomas H. Cruikshank, chairman of the defunct investment banker’s audit committee and a Lehman director since 1996, pronounced that “(Lehman’s) governance procedures were really, very, very good.”
His statement came in response to a question from Rep. Leonard Lance (R-NJ), who accepted Mr. Cruikshank’s assurance without further question. And that was all that was asked about board practices at Lehman. The committee could have probed into some of the concerns we first raised on these pages nearly two years ago. It might have inquired whether it was really a good idea to concentrate so much power in Mr. Fuld, who was CEO, chairman and of the board and chairman of the board’s executive committee, or for half of Mr. Fuld’s handpicked board members to be in their seventies and eighties. It could have looked at the executive committee, which had just two members — Mr. Fuld and John D. Macombre, who was in his eighties at the time the Lehman crisis was unfolding. It might have cast its eyes on the risk committee of the board, which met on only two occasions in 2007, or considered whether several of the directors had been overloaded with responsibilities on other boards. Was being an actress sufficient qualification to be a board member,or was a poor performance something that was common to all of Lehman’s directors? The committee did not pursue any of these lines of inquiry.
In his voluminous report, Anton Valukas, the court appointed examiner for Lehman’s bankruptcy, gave the board a clean bill of health and said it did not know what was going on. He could not point to anywhere management had actually informed the board of the extent of the risks that were being incurred or the undisclosed use of accounting tricks like Repo 150. But he also does not cite a single case where directors asked discerning questions and where they were misled by management’s response.
However, in a scathing criticism of the SEC, Mr. Valukas told the committee:
The SEC did not ask the right questions. It’s failure to ask about off-balance sheet transactions in the post Enron-era is hard to understand.
But it is also hard to understand why Mr. Valukas did not apply the same thinking to Lehman’s board, which he seems to exonerate because it was not told about wrong doing or alerted to red flags. This, too, raises the ghost of the Enron board whose specter the examiner invoked.
On that point, it is unfortunate that neither Lehman investors nor legislators have had the benefit of an investigation such as the one the Enron board itself commissioned (much to its later dismay). In an extensive and courageous probe conducted under the chairmanship of William Powers Jr., the report concluded that:
Enron’s “Board of Directors failed … in its oversight duties” with “serious consequences for Enron, its employees, and its shareholders.” With respect to Enron’s questionable accounting practices, the Report found that “[w]hile the primary responsibility for the financial reporting abuses … lies with Management, … those abuses could and should have been prevented or detected at an earlier time had the Board been more aggressive and vigilant.
One wonders what at Lehman Brothers would have made the actions of its board so different or less deserving of scrutiny and condemnation than Enron’s. Would not a prudent board, faced with a crisis of unprecedented proportions in the capital markets, have made diligent inquiries of management that could have produced the answers needed to grasp the real extent of the company’s exposure? What questions might it have asked of its auditors and management that would have enabled the firm to detect the unfolding disaster at an earlier time? What steps could it have taken in its structure and composition as a board that would have made it more pro-active and less an array of Christmas lights that only work when the CEO turns them on? Mr. Valukas’s report was unenlightening in this regard, as were Mr. Fuld and Mr. Cruikshank at the committee’s hearing.
Mr. Fuld was paid nearly half a billion dollars in salary, stock options and bonuses between 2000 and 2007. In the same period, independent directors were paid approximately $20 million in fees and stock awards. For that sum, shareholders saw the fabled firm that had been a Wall Street landmark for more than 150 years sink into the ground and the value of their stock plunge with it.
They can be grateful, however, that Lehman’s governance procedures were “very, very good.” Had they not been as long-time director Thomas Cruikshank warranted and the Congressional committee accepted without challenge, instead of being faced with a calamitous outcome of historic proportions, investors would have had to deal merely with a catastrophe of unprecedented magnitude.
Such is the fantasy world that has long come to define corporate governance in America and the legislative and regulatory apparatus that permits it.
The decision of a majority of shareholders at Bank of America to oppose the board and separate the positions of CEO and chair, appointing an independent director to the latter position, is one for the books. This is the biggest institution in the history of business where shareholders have brought about such a dramatic change in corporate governance practices and actually removed a top title from a sitting CEO.
The move from yesterday’s annual general meeting comes in answer to the staggering losses and a shocking stock value decline that have roiled the company in recent months, as well as in response to a number of unresolved questions regarding the Merrill Lynch acquisition and who in the B of A boardroom knew what and when. It is the investors’ version of Newton’s third law of physics, (as modified by Finlay ON Governance) which holds that when shareholders are pushed too far, there can sometimes be an equal and opposite reaction.
Whether the replacement of Ken Lewis by new board chair Dr. Walter Massey will make a difference in a way that empowers independent thinking in the bank’s boardroom, and improves management performance through enhanced accountability, is yet to be seen. Some might think a physicist to be an unlikely candidate for such a key position in a bank. But given recent events on Wall Street and in the credit markets where there seemed to be little grasp of the laws of gravity, but rather, a misplaced view that debt and risk could expand into infinity -taking earnings and share prices along for the ride- perhaps Dr. Massey could give his board colleagues some useful lectures on Sir Isaac’s other discoveries a few centuries ago. So far, not even the biggest names in banking have managed to escape their universal application.
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.
With absentee leaders like Jimmy Cayne at the top and a corporate governance culture straight out of the 1920s, the surprise is not that Bear Stearns fell into a confidence chasm. The surprise is that calamity did not strike earlier.
When the subprime meltdown was already giving a chilling preview of coming attractions last summer and his company’s mortgage-based hedge funds were collapsing around him, the CEO of this Wall Street icon was off on a bridge and golf vacation. Last week, during a liquidity crisis that saw the near death of the company and the resulting intervention of the Fed that carried with it echoes of the Great Depression, he was at a bridge tournament in Detroit, according to the Wall Street Journal. It is not certain where this long-time investment banking figure is right now, but odds are soon Jimmy Cayne may not have an office or a company to return to.
Last January, when the company posted the first loss in its 84-year history, Mr. Cayne turned over CEO duties to Alan Schwartz. When he’s not away escaping a corporate crisis as executive chairman -a post he has held for seven years- Mr. Cayne presides over the Bear Stearns board. And what a board it is -another one of these all male clubs that acts like a throwback to black and white movies.
The board meets only six times a year, according to company documents. The real work seems to be done by Bear’s executive committee, which in 2006 met a whopping 115 times. All of the directors on the executive committee are management insiders, including Mr. Cayne, making management effectively accountable to itself. Maybe this helps to explain why, despite the lessons of Enron and the risky nature of much of the company’s business, Bear Stearns’s board did not get around to creating a finance and risk committee until January of 2007 and why there has been so much patience with Mr. Cayne’s card-playing antics.
Just a year ago, the firm was boasting that it was well insulated from the subprime fallout. Then the stock was trading around $160. On Friday the stock closed at $30. It lost nearly half its value in just one day. When Rome burned, it is said that Nero fiddled. When Bear Stearns melted down, its one-time emperor played bridge. We will leave it to others to determine whether any smoke was present at the occasion this time.
It is widely asserted, especially on these pages, that what boards do matters. Yet it seems clear that if Bear Stearns had had no board whatever, the results could not have been any worse. One can understand how utterly lacking in effectiveness Bear’s board is when it is being led by an absentee chairman.
Mr. Cayne, who is 74, would have known the crisis his company faced given the extraordinary nature of the press release it issued on March 10th which denied any liquidity problems. Still, even when Wall Street’s fifth largest investment bank was sitting on a precipice later in the week, a bridge game trumped the fight for corporate survival for the firm’s well paid chairman.
As we have said on more than a few occasions, the stratospheric compensation that many boards award CEOs increasingly shows that both directors and top management are living on another planet. Excessive CEO pay has been a leading indicator of disaster in companies that run the gamut from Enron and Computer Associates to Countrywide and Hollinger. Bear Stearns can now be added to this list. Just last year, many commentators were celebrating the genius of Jimmy Cayne and how he deserved every penny of the $34 million he received for 2006 and the $23 million for 2005. You might think that would entitle shareholders to a little more than the calamity that has been unfolding for the past several months. You might also think it would entitle shareholders to a CEO or a board chairman who clocks in during the hours when disaster has decided to pay a visit.
Bear Stearns also makes the case that if investment banks are now able to enjoy the benefit of the Fed’s intervention -and these firms have already shown that their misjudgments are capable of causing enormous turmoil in the capital markets and ultimately in the wider economy, members of the public have a huge stake in what companies do and how well they govern themselves. They also have a major investment in whether board compensation programs reflect a rational level of thinking or whether they reflect a mentality that says the CEO is king and temps them to pursue high paying subprime-like schemes that cannot be sustained.
With absentee leaders like Jimmy Cayne at the top and a corporate governance culture straight out of the 1920s, the surprise is not that Bear Stearns fell on Friday into a confidence chasm from which it may not recover. The surprise is that calamity did not strike earlier. Which makes the failures of the Bear Stearns board and its chairman our choice for the Outrage of the Week.
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.
The same Napoleonic scale of misjudgments and miscalculations that have dogged his business decisions are now inexorably shaping Conrad Black’s legal destiny. It is one thing not to show remorse for the crimes of which one has been convicted; it is quite another to wear them as a badge of honor while striding into the courtroom on the day of sentencing.
The trial and tribulations of Conrad Black have occupied not an inconsiderable amount of space on these pages. We have tended to view him, unhappily, as a man who, though given every advantage that family, wealth and intellect can offer, has become better known for what he has lost and no longer holds than what he actually created. Now, as he faces the greatest loss of all –his liberty– it seems an apt juncture at which to revisit the depth of his descent. His situation is made even more precarious by his attacks –some remarkably strident– on the very legal system that is only days away from determining how long Mr. Black and his freedom will be estranged.
Under his unchecked control, a colossus of corporate Canada acquired by family connections and privileged access virtually disappeared. Argus, which once ran companies like Massey Ferguson, Dominion Stores, Standard Broadcasting, Domtar and Hollinger Mines became a name you read about only in Greek mythology. His newspaper empire, at one time the third-largest in the world, crumpled, leaving only the Chicago Sun-Times. The stock of what was once called Hollinger International appears headed for oblivion. In a single day last month, and for no discernible reason other than the general mess the company is in, it dropped in value by 23 percent to at slightly more than a dollar. The stock of Hollinger Inc., the corporate parent, trades for pennies. Its landmark headquarters at 10 Toronto Street, an icon of the Canadian business establishment, is also gone from his grasp, like the Canadian citizenship he once held but chose to forsake apparently for something bigger. And it is that very commodity –citizenship in the land where he was born, a rank which he held in common with millions of mostly ordinary Canadians and cost him not a penny, but which he chose to renounce– that may yet prove to be the source of his greatest misjudgment as he faces a long tenure in an American federal prison.
The Black touch of this most unMidas-like figure is seen elsewhere to varying degrees. Mr. Black was an outside director of now defunct Confederation Life, which, when it collapsed, was the largest financial casualty in Canadian history. And he served on the board of Livent, another disgraced and failed company whose founders face charges of accounting fraud and securities law violations in the United States and Canada. Ravelston, the private holding company he once controlled but which was established by a previous generation of business leaders who managed to stay out of the criminal courts, is not only a convicted corporate felon but has been ordered to pay $13 million in restitution to the shareholders whose money it unlawfully took. That is in addition to the $7 million fine it was ordered to pay last summer. To cap his business career, Mr. Black headed a board where four directors (Radler, Atkinson and Boultbee, in addition to himself) became convicted felons as a result of their crimes in the company they oversaw. Now, on top of the various honors and titles he enjoys in Canada and elsewhere, Mr. Black holds the distinction of having founded and run a publicly traded company that set a record in modern corporate history for the number of future felons it had sitting around the boardroom table. You don’t have to be a corporate governance zealot, a group which Mr. Black continues to rail against even at the eleventh hour before his sentencing, to realize that there is something staggeringly deficient in the character of a company’s leadership when it achieves this kind of milestone. Has there ever been a company so unlucky in its choice of directors? First, there was the Chicago four in the boardroom, then the hapless members of the audit committee who did not read or merely skimmed their financial reports, and finally the current crew that faces an onslaught of legal bills from the Black era now exceeding $100 million.
And yet with all of this, Mr. Black tells the BBC that he may consider a return to business in finance. “This is not an honour I sought, but it has been my honour to show the shortcomings of the plea-bargain system and the shortcomings of the corporate governance zealots” the British peer said in an interview.
Not even Lord Kylsant of Carmarthen, the towering British shipping magnate of the 1920s known for an even more towering ego –and, as we previously observed on these pages– the only British Peer beside Lord Black of Crossharbour to be convicted of fraud in a publicly traded company, displayed this scale of hubris. There was no second act for Lord Kylsant, in finance or anywhere else in society, after he was found guilty in 1931. He knew he was disgraced and at least had the good sense not to contemplate a return to the world of business where he was found to have betrayed the trust he held, much less openly speculate about it on the eve of his sentencing.
I do not intend that the foregoing be seen as anything approaching a tally of the full man. There are dimensions to Conrad Black, as there are to most people, that remain out of the public eye. Some may be reflected in his pre-sentencing submission to the court, which saw tributes and commendations flowing from significant personages. Mr. Black always portrayed himself as a proprietor, not some buy and flip LBO king. His mission was never understood or claimed to be one of selling off assets, but rather of building upon them and acquiring others. But his business achievements seem whittled down to a barely recognizable shell of their early beginnings, and nowhere near the potential that drifted into his early grasp.
Conrad Black sat at the very pinnacle of the Canadian business establishment and enjoyed every opportunity and honor it –and his native Canada– could bestow. Power, privilege and prestige were pretty much his birthright. But ultimately so much of what he has touched in business has turned from pure gold to black dust. More poignant than perhaps even what the law has declared he has done is the forever unfinished and unwritten chapter of what might have been.
It has been a painful spectacle to witness. The Napoleonic scale of misjudgments and miscalculations that have dogged his business decisions are now inexorably shaping Mr. Black’s legal destiny. With his torrent of emails, interviews, book signings and newspaper columns since his conviction in July, and now his internationally broadcasted musings about a return to business, it is hard to imagine that this is the same Conrad Black who had absolutely nothing to say to the jury in his own defence, when his words might have counted in the outcome. His combative tone and continuing attacks on the American legal system –a subject that never once moved his mighty pen before his personal legal problems began– may not cause his term in prison to be lengthened, but it is doubtful that they will assist in shortening it. It is one thing not to show remorse for the crimes of which one has been convicted; it is quite another to wear them as a badge of honor while striding into the courtroom on the day of sentencing. Why he was ever permitted by his fabled team of lawyers to steer his own bombastic ship into the legal minefield that holds his fate will always be a mystery.
When all is said and done by Mr. Black, it remains impossible to comprehend at what level of consciousness he is working. He cannot return to Canada or England. The court has ordered that he reside in either Chicago or Florida while awaiting his sentence. But in reality, it appears that Conrad Black is living in denial.