PERSON OF THE WEEK: It is somewhat difficult not to notice that the top executives of the nation's major corporations are not feeling the same sense of wallet-pinching that most Americans are now enduring. Within the financial services world, many high-ranking executives of the large banks that received federal bailout money are raking in seven-digit annual incomes, including extremely generous compensation benefits.
But is there a problem with this situation? MortgageOrb spoke with Nell Minow, board member of GovernanceMetrics International – an independent research firm that rates boards of directors of public companies and compiles research and critical thinking about corporate governance – about the potential problems with excessive generosity in executive pay.
Q: On April 10, The New York Times reported that executive pay, particularly CEO pay, had returned to the pre-2008 levels before the financial crisis. Do you believe this is good news for the U.S. economy?
Minow: It is bad news for the U.S. economy, reminiscent of the quick post-Enron rebound following the enactment of Sarbanes-Oxley.
First, once again, we have failed to tie pay to performance. The primary cause of the financial meltdown was that we permitted the creation of a system where everyone – mortgage companies, those who designed and sold derivative instruments and hedging securities, those who assembled and assisted in the assembly of ‘too big to fail’ conglomerates, ratings agencies, even the regulators – were paid on the quantity of transactions instead of the quality of transactions. It can only be massive denial on the part of the executives, their boards, their shareholders and regulators that has permitted a return to the same kind of rewards for short-term performance at the expense of sustainable growth.Â
Second, the income-disparity increases over the past 15 years are almost unprecedented – with the possible exception of the robber baron era – and deeply destabilizing from a macro-economic perspective. In the short term, they are self-perpetuating, because the more money individuals and corporations have, the more they can use it to pressure the government to let them make and keep even more (as in the unconscionable continuation of the tax cuts for the richest 1%).Â
Q: Also in April, it was revealed that the heads of Fannie Mae and Freddie Mac were paid a total of $17.1 million during the past two years, and the top six executives at the government-sponsored enterprises (GSEs) were paid a total of $35.4 million over the past two years. How can one rationally explain why the heads of two bankrupted entities in federal conservatorship have higher salaries than President Obama?
Minow: The market is better than any other force on Earth for many things. Much of what the market cannot do is best left to the government. And it never works to try to combine the two, as we see when entities that benefit from monopoly power then pay the executives as though they are genuinely competing on a level playing field.Â
I can see the argument that we need to attract top talent away from positions that pay at those levels. But we would do better to either privatize Fannie and Freddie or operate them as government agencies instead of being stuck with the worst of both worlds.
Q: In March, MortgageOrb reported news that Wells Fargo had announced that its senior executive vice president for the home and consumer finance group received $8.8 million in compensation – but the announcement was simultaneous to the company's laying off 1,900 (mostly part-time) employees in its home mortgage division. Is it possible for a financial services provider to justify very generous compensation for one person while laying off thousands of lower-ranking workers?
Minow: I can see paying an executive that kind of money, despite layoffs, depending on what performance is being rewarded. If it were a sales commission, for example, that would be a good sign that might even lead the company to go back to hiring. I like the discipline of incentive compensation based on metrics like cash flow, beating the cost of capital, outperforming the peer group, and other benchmarks that are linked to long-term value and hard to game.Â
But your implication is an important one. ‘Tone at the top’ is what leadership is all about. Companies have to realize that their pay plans are a part of the way they brand themselves to their employees, customers and investors – think about the BP executives who got a safety bonus this year and, after humiliating news reports, were forced to agree to donate them.Â
Q: On The Corporate Library Blog, you reported that two major financial services companies – MDC Holdings and Janus Capital – failed to win majority support for their executive compensation policies. Do you see a trend where shareholders at financial services companies reject overly generous executive compensation policies?
Minow: As of today, a dozen companies have received ‘no’ votes on pay, with a majority of the shareholders rejecting the company's attempts to justify the pay. Keep in mind, these are advisory votes only; no company has to change anything, even with a 100% vote against.Â
But there have been some promising signs. Companies like Monsanto and Disney amended their pay plans to avoid ‘no’ votes. Shareholders at Stanley Black & Decker almost defeated two directors associated with the rejected pay plan when they ran for re-election.
Overwhelmingly, shareholders are opting for annual votes on pay, even at companies that tried to get them to agree to be reviewed every three years. I believe we will increasingly see the incentive compensation, previously considered immaterial, viewed as an indispensable element of securities analysis and investment risk assessment. Eventually, we will see the pushback of market forces here.
Q: Unless I am missing something or reading the wrong newspapers, I am not detecting any great public outrage regarding overly generous executive compensation. Is the public paying attention – and, if so, how are they making their voices heard?
Minow: The ‘no’ votes on pay are one form of public disapproval. And I am betting this will become a more visible topic as the elections heat up.Â
