By Bob Wood, MMNS
I am now watching on C-Span an amazing spectacle — a Congressional hearing which is looking into inflated CEO compensation. Only in America could some of our most corrupt citizens be so strenuously supported by our elected representatives!
Letâ€™s be fair here: not all Congressional panelists tasked with grilling the countryâ€™s most egregiously overpaid CEOs are rushing to defend them. However, Republican Congressmen Darrell Issa and Tom Davis are leading the expressions of dismay regarding the inconveniences suffered by their CEO pals in enduring such a hearing. The hearing offers just one more example of pure political theatre to hear them tell it.
The defenders of those hugely overpaid CEOs say that all is fair in a capitalist system like ours. If the head of Countrywide Financial can be paid hundreds of millions of dollars while every other stakeholder in the company suffers massive losses, thatâ€™s just an example of how our system operates; winners and losers all exist together.
Issa, in particular, seems almost indignant in stating that these CEOs, who were paid massively while leading companies that suffered disastrously from losses and cratering stock prices, were also harmed. After all, their residual holdings in their respective companies have lost money — just like every other shareholder. Wow, really?
In the case of Angelo Mozilo, CEO of Countrywide Financial, who was paid roughly $250 million since 1998, sold company shares, which he acquired at negligible cost in the form of stock options, to the tune of another $400 million! Yet Issa seems to feel Moziloâ€™s pain, since his remaining shares are now almost worthless. Poor guy, eh?
Another defender of such greedy CEOs pointed out that each company has a board of directors to oversee compensation issues. If these officers were overpaid, the board failed in its oversight function. After all, the board exists to help protect shareholders from any unfair advantage taken by corrupt managers.
A recent article in the Financial Times newspaper delves into this. Relating to the level of shareholder protection offered by directors, the article says:
â€˜â€™In one instance, Mr. Mozilo sought to collect $3 million per year in benefits that he was eligible to receive under retirement while he was still employed at the company. He acknowledged that the request was â€™unusualâ€™.â€
Isnâ€™t that what is called â€˜â€™double dippingâ€™â€™? Itâ€™s also considered illegal — or certainly should be. Wouldnâ€™t you like to start collecting Social Security payments at age 50 while still working?
â€˜â€™In another example, Mozilo said he expected Countrywide to reimburse him for taxes owed when his wife traveled with him on the corporate jet. He threatened to retire if the board did not give in to his demands. Ultimately, the directors capitulated.â€™â€™
Mozilo claimed that he deserved extensive consideration, since he had founded and built the company. While that may well be the case, the fact became irrelevant when his company went public and ownership was transferred at market prices to a wide group of owners — the shareholders.
Maybe this is not such a big deal for most companies. But the big problem at Countrywide was that, as an insider, Mozilo knew more about potential troubles than anyone at the company. And he was selling massive amounts of stock as its price slid from $42/share, less than a year ago, to its current nebulous value of $5/share.
While investors (or shall we call them â€œowners of the companyâ€?) were losing in excess of $20 billion, the CEO was paid well over half a billion! And yet those Republicans on the Congressional panel say he is being treated unfairly?!
Along with the massively overpaid Mozilo is Charles Prince, former head of Citigroup. His company shares have plummeted from $55/share to todayâ€™s price of $21/share, again, in less than a yearâ€™s time. Well over $100 billion has been lost by owners of that company while Prince positioned it for massive losses that are still being discovered.
In all fairness and objectivity, we can say that Prince was massively incompetent in doing his job. We could also argue that Prince, along with all other massively overpaid CEOs, mistook himself as the true owner of the company, with all these rights and benefits expected. These CEOs apparently see their companiesâ€™ real owners as holders of secondary rights and considerations. So who really owns publicly traded companies in America?!
Why do the real owners take a back seat to their employees? One argument says the CEOs are paid so well because of the value the marketplace places in their talents. But does their performance suggest that they should have been paid millions? Were no better candidates available to run Countrywide for a mere $10 million/year? What about the people who took the place of the ousted CEOâ€™s? Werenâ€™t they available before, and at much lower costs to shareholders?
Apologists for these corporate criminals, such as Issa and Davis, argue that company boards of directors make wise and sensible decisions about the pay bestowed upon their CEOs. But would you, as an investor and owner, ever have approved such compensation for any manager?
Top management supporters also point out that any shareholder, when and if disgusted with such massive payouts to mediocre or outright inept managers, can sell his/her shares and move on. Unfortunately for many, they own shares in these large companies within portfolios of passively managed index funds; an example of this situation occurred when Enron fell into the dustbin of history due to its massive incompetence and self-dealing on the part of well-connected managers.
So what is an investor to do? Thatâ€™s an easy call for me and has much to do with why I have advocated investing in international markets. I find the best way to protect my clients from these self dealers is to walk away from them! Currently, I allocate very small amounts in domestic shares, mainly in the energy sector.
I am sure that we have not missed very much. Besides, the domestic market is well into a long-term bear market, and with the S&P 500 still selling at about 18 times earnings, investors are overpaying for shares in companies that offer almost no protections and virtually no regulatory oversight. When was the last time you heard about the SECâ€™s prosecution of companies involved in frauds like these?
Many domestic corporate managers appear to be corrupt. Yet most enablers in the Enron scandal walked away Scot free. Sure, some of its firms paid heavy fines, but those penalties did not come from the pockets of the heads of the financial companies that abetted Enronâ€™s fraud. Fines were paid from company cash â€“ that belonged to shareholders!
As long as Congressional leaders are beholden to large corporate donors for campaign funding, do not expect much in the way of oversight and shareholder protection. The corporate management system, for the most part, is corrupt, and investors are at a distinct disadvantage when buying into any companyâ€™s shares.
Because of my strong opinions about domestic corporations, I am often asked if oversight and other protections are any better at international companies than they are here at home. Thatâ€™s hard to know for sure, but then, how could they be any worse?!
What make international markets a safer bet are the better valuations available in European markets such as Ireland, Norway, Sweden, Austria and Belgium. In Asian markets, Singapore appears to be reasonably priced.
You may want to look away, far away, from the corruption riddled markets here at home. Go far, far away in search of better places to invest and better people to employ as managers of your companiesâ€™ futures.
Have a great week.
Bob Wood ChFC, CLU Yusuf Kadiwala. Registered Investment Advisors, KMA, Inc., firstname.lastname@example.org.