Last week, I presented to a group of telecom and media professionals in Denver. The topic of the speech followed the theme of this blog: the “Great Telecom Boom, Meltdown, and Resurgence: What have we learned?” During the talk, I presented my four key management ethics (see “Ethics according the the Bear”). The first of my ethics is:
“Treat shareholders as long term business partners, and view management as managing partners. An enterprise must be managed with the perspective that investors (not management) own the assets contained within the company. It is management’s responsibility to ensure all executive compensation and perks are clearly understood and approved by its investors.”
In the Q&A, a person who identified themselves as a shareholder activist (I think) asked: what should be done about excessive executive compensation? Hmmm. Good question.
The first thing that crossed my mind was what should be done about how much money Scott Boros wants the Yankees to pay Alex Rodriguez? From my perspective, only the owners of the Yankees and A-Rod can answer that question. If by having A-Rod, the Yankees are no more valuable than without him, then (if profit is the motive) the Yanks shouldn’t pay him anymore than another decent third basemen. However, assume both the owners and A-Rod believe the Yanks are worth a lot more with the reigning MVP on the team. For example, if the the franchise is worth $40M more a year, should A-Rod feel guilty if he demands $20M a year? If ownership gets him for far less than $20M, the owners simply get to keep the delta for themselves. Would that make a shareholder activist happier? Not if the activist is trying to look out for the little guy. That is, A-Rod forging $10M of the $20M means is unlikely to mean the grounds crew will get a big raise.
So my answer was two-fold. I adamantly believe that it is a CEO’s responsibility to ensure his or her investors fully understand and approve executive compensation and perks. No fine print. No footnotes. No ambiguity. Please know that purposeful ambiguity regarding executive comp and perks was a huge problem in the telecom boom. Often this played out in the form of ridiculous severence agreements. To me, this is unethical. The CEO is responsible for being clear and complete in ensuring his or her investors understand all forms of executive pay. In public companies, this should be clearly communicated in annual reports and proxies.
So (assuming the CEO does a great job in ensuring his or her owners understand executive compensation) what is excessive? Let’s circle back to the Yankees and A-Rod. It is whatever the owners are willing to pay. Warren Buffett is extremely vocal in how rare, special and incredibly valuable a great CEO is. Such a CEO is just as entitled to his or her fair share of value creation as a great athlete.
With this backdrop, though, let me emphasize the following: investors took their eye way off the ball during the boom. Boards, in many cases, did not do their job. They did not represent the public shareholders (or their limited partners) suffiicently in negotiating deals. Often, board members let themselves be put in compromising situations. Boards allowed confusing and incomplete disclosures regarding perks and pay. Perhaps most sinful of them all, they did a poor job of distinguishing a talent akin to an A-Rod from a untested and unproven executive. They allowed ridiculous amounts of a company’s wealth to be paid to these unproven executives, even if performance was poor.
Blame the executives if they are not forthcoming on pay and perks. Blame board members if they do not manage pay and perks appropriately. Blame yourself if you invest in a company that appropriately discloses compensation but, at the same time, you think executive pay and perks are excessive.
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