Monday Morning: Boards must rein in exec compensation

Corporate boards of directors still don’t understand the depth of investor skepticism about their ability to oversee the management of companies.

And CEOs still don’t understand that their personal greed helps fuel investor skepticism that companies are being managed for the long-term benefit of shareholders.

This much is clear from some of the recent disclosures of executive compensation packages given in 2002 – and nowhere more so than in the financial sector.

How can anyone have confidence in boards when they grant huge compensation packages to CEOs, even when these companies are performing terribly?

Many of these CEOs have egg on their faces as a result of the collapse of the Internet bubble, and the scandals surrounding it.

In the military, their careers would be over because the problems occurred on their watch. The military view is, if they didn’t know there were problems, they should have.

Out of touch

But in the private sector, the boards reward CEOs with significant bonuses. The members of the boards are clearly out of touch with popular sentiment and even reality.

How can the CEOs in good conscience accept huge bonuses when their companies are performing poorly, and they are laying off employees?

Only two CEOs, both from the same firm, have shown any sensitivity to the perceptions of employees, investors and the general public: Charles R. Schwab and David S. Pottruck, who until recently were co-CEOs of Charles Schwab Corp. of San Francisco. Mr. Schwab, who remains chairman, is no longer co-CEO.

They received no bonuses for 2002, and they gave back their stock option grants for the past three years.

The decision left each with an annual base salary of $883,334 and other compensation valued at $10,250 – not excessive for the top executives at the nation’s largest discount brokerage firm.

Reportedly, their decision was made so there would be more money available for bonuses for other employees. That shows that the two executives are determined to keep employee morale high during a difficult time, and they are managing for the long term.

If I were considering investing in a financial services firm, their decision would certainly lead me to consider Schwab stock. Or if I were considering changing my relationship with my financial adviser, I would definitely move to Schwab.

Not so with The Goldman Sachs Group Inc., J.P. Morgan Chase & Co., Lehman Brothers Holdings Inc. and Morgan Stanley, all of New York.

Goldman’s chairman and CEO, Henry M. Paulson, and Morgan Stanley’s, Philip J. Purcell, both received fiscal 2002 pay packages worth $9.5 million, while Richard S. Fuld Jr., chairman and CEO of Lehman Brothers, received $7.6 million. That doesn’t even include their options grants.

Meanwhile, William B. Harrison Jr., chairman and CEO of J.P. Morgan Chase, received a bonus of $3.1 million on top of his annual salary of $1 million. He also received $2.3 million in stock and more than 300,000 options.

Revenue, earnings and share prices fell at all these companies in 2002 from the levels of 2001 and 2000. Although all the executives’ compensation packages also fell, their compensation is still excessive.

Why, for example, was Mr. Harrison still entitled to a bonus, stock and options when the company’s performance was lousy, and it made embarrassing loans to Enron Corp.?

The boards of these companies have shown they don’t have the courage to rein in the greed of the CEOs and the egos that say, in effect: “We’re worth every penny and more.”

And if the boards can’t rein in that greed, how can investors trust them to ride herd on the decisions these CEOs may make that will be in their own long-term interests rather than those of their shareholders?

Until investors see boards exercising control and actively representing the long-term interests of shareholders, investor confidence won’t return. Boards of financial services companies can show the way.

Mike Clowes is the editorial director of InvestmentNews and sister publication Pensions & Investments.