Who Says CEOs Are Worth Their Compensation?


Another tiresome Op-Ed piece in the Washington Post about
executive compensation, this one by professor of finance, Roy C. Smith,
at New York University. Roy’s claim to a stake in this controversy is
co-authorship of Governing the Modern Corporation. Not to
short-change his authority, Smith is a former general partner at
Goldman Sachs.

Roysmith
Another tiresome Op-Ed piece in the Washington Post about
executive compensation, this one by professor of finance, Roy C. Smith,
at New York University. Roy’s claim to a stake in this controversy is
co-authorship of Governing the Modern Corporation. Not to
short-change his authority, Smith is a former general partner at
Goldman Sachs. He is also the author of Comeback, The Money Wars, and
The Global Bankers.
All of which gives him serious-authority-status in peering through
the microscope at business, taking business’s temperature, evaluating
the potential of business to cough as he juggles its testicles. Roy
Smith isn’t exactly an Adam Smith, but he publishes on the creation of
investor wealth, peels the onion of corporate sloth back to its core
and stakes a position on comebacks, money-wars and international
banking.
Roysmithbook1
But it’s an observer’s position. Without knowing Smith more personally
than his available bio (and meaning him no individual injustice), I’m
compelled to put forward the argument that the observation of business and the skimming of cream from its efforts is exactly what has contributed to its decline.
Decline? Are you mad? With the Dow-Jones at all time highs and American business at an apex of world domination, you dare to speak of decline?
Yeah, I dare.
My credentials are not academic, nor are they derived from the heady
raking in of chips that attend partner status at investment banking
firms. I come from considerably further down the food-chain, the murky
waters of small-business ownership and its under-funded,
scratching-for-payroll, sweaty, entrepreneurial warfare. Those like me
form the great undefined and undefended underbelly of American private
enterprise—half the U.S. economy by some estimates.
The steady half—the half that frequently struggles, that hopes to
pass something of value to sons and daughters and stumbles, but seldom
crashes.
Let me define decline. For me, it’s evident that the business climate is measurably in decline when

  • A particular enterprise is worth more chop-shopped down to its spare-part value than it is as a viable, whole company
  • Stock value is measured by quarterly earnings rather than the
    long-term considerations of product viability, research and
    development, financial stability and market penetration
  • Investor confidence and share-price depends more upon herd-mentality than underlying strength.
  • Profitability depends solely upon lowest cost, lowest quality and lowest investment to force-feed highest profit
  • CEOs concentrate on the game of corporate musical-chairs, with both
    eyes focused on nailing own their next job when the music stops

Roysmithbook2
Each of these points has in common the chilling fact that the Harvard
Business School model promotes its worst aspects as evidence of profit
potential. Like automobile-theft, the profits are made, not in the car
itself, but in the bits and pieces
of the car. Investors, in an act of metaphoric corporate car-theft,
thus maximize their profits. But don’t expect the consequent rusted
hulk to run on all eight cylinders or get you to the church on time.
The miracle of capitalism has always been its ability to attract
capital, reward excellence and punish error. For centuries, that
attraction was tempered by the steadiness (longevity) of continued
value. We used to have an informal class of stocks called ‘blue chip’
that was the repository of conservative ‘old money.’ Old money didn’t
like volatility. Old money liked railroads, steel companies, coal-mines
and all the heavy industrial trappings of yesteryear.
The fall began, not with the obsolescence of steel and cotton mills,
but with the increasing dependence for profit on consumer-driven
products. We no longer made the steel, but we sold the cars, even if
they were Japanese. Consumerism, in all its glory, drives

  • the consumer to max-out his seven credit cards,
  • the producers to treat product development like fashion accessories
  • and the investors to reward only the quick, the conglomerators and the deconstructionists.

If that sounds pessimistic, read Smith’s column  further;

If
you want to blame anything for today’s inflated compensation packages,
blame the hostile takeovers and the leveraged buyouts of the 1980s.
Remember the days of the corporate raiders? Twenty years ago, those
guys were everywhere, cruising the market for likely takeover targets
and offering hostile bids, at premium prices, on well-known but poorly
performing companies. The raiders would claim that management had
failed to perform its basic duty to the companies’ shareholders, which
was to increase the value of their investment. These bids put
management on the defensive, forcing it to justify both past
performance and future plans.

The takeover effort led to a
prolonged legal struggle to determine what managers could and could not
do to defend themselves against hostile offers. But in the end,
investors supported the bidders. And in doing so, they revolutionized
corporate boardrooms, establishing the principle that if boards and
managers did not create shareholder value, then shareholders would seek
others who would.

By the mid-1980s, leveraged buyout (LBO) firms
joined the pursuit of large underperforming companies using borrowed
money. The LBO operators, however, believed that if certain management
principles were followed, the risk of carrying all that debt could be
greatly reduced. One of these principles required all-out managerial
attention to increasing the company’s operating cash flow so that debt
could be repaid as quickly as possible. This in turn would improve
profitability and increase the value of shareholders’ equity.

Another
principle was that the firm should retain the most effective managers
it could find. That meant providing powerful compensation incentives.
Managers who succeeded in meeting the LBO firms’ performance benchmarks
would be paid handsomely in company stock or options.

Roysmithbook3
Listen to that crap and weep. Corporate
raiders, leveraged buyout, hostile takeover, performing their basic
duty to the companies’ shareholders, which was to increase the value of
their investment.
Not a word about duty to product or employee.
This clap-trap made stockholder billionaires and wrecked companies. Not
a single influence that worked against a CEO/worker compensation ratio
nearing 500 to one. Not one contribution to good governance or a single
reward of improved product. The corporate cowboys of the last two
decades rewarded quarterly earnings and destroyed long-range planning.
Talk about quarterly results! The last quarter of the last century all but did us in as a producing power. Now we try to ride the bucking bronco to the bell by rearranging products produced elsewhere.
They have made of America a first-rate earner and a third-rate producer. What we have done with those earnings
is to fracture employee compensation into haves and have-nots—a near
classic description of a banana republic. We have thus contributed to
and witnessed the destabilization of family income, wrecking of the
pension and medical insurance benefits, polarization of politics,
off-shored everything worth keeping, while celebrating a get-while the getting’s good mentality.
Small wonder ex-Goldman Sachs’ partners are the revered go-to guys when a discussion of corporate governance is afoot.
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Media comment;

1 thought on “Who Says CEOs Are Worth Their Compensation?

  1. Well, I'm a year late, but here goes:
    As a retired CPA, I can also assure you that any competent accountant can manufacture paper profits from red ink for enough quarters to get the CEO a shipload of compensation and a golden parachute by the time the "stuff" floats to the top. Even the short-term profits are an illusion.

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