The Real
Issues: Economics
Issues
in Corporate Governance -- A Response to Mohr's "Where's
My Bonus?!" Article
By Charles Kirchofer, Dec. 2nd,
2008
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As part of my response to Mr. Mohr's comments on corporate
bonuses and severence packages, I wish to quote at length Alan Greenspan's
experience on multiple company boards for a bit of
insight into how shareholders currently input into the corporate
governance system. As Mohr infers, the governance of
corporations, as admitted by Greenspan, is quite nearly authoritarian.
I quote:
“Throughout the nineteenth and early twentieth centuries,
shareholders, in many instances controlling shareholders, actively
participated in governing U.S. corporations. They appointed the board
of directors, who in turn hired the CEO and other officers and, in
general, controlled the strategies of the company. Corporate governance
had the trappings of democratic representative government. But
ownership diffused over the following generations, and the managerial
and entrepreneurial skills of company founders were not always
inherited by their offspring. As financial institutions evolved over
the twentieth century, shareholding became a matter of investment, not
active ownership. If a shareholder did not like the way a company was
managed, he sold his stock. Only rarely was the management of
reasonably profitable corporations challenged. Imperceptibly corporate
governance moved from shareholder control to control by the CEO. Aside
from the outspoken concern of a few academics, the change occurred
quietly and largely by default.
“As shareholders became ever less engaged, the CEOs began to
recommend slates of directors to shareholders, who were soon
rubber-stamping them. Periodically this paradigm went astray when a
company or its management got into trouble. But such episodes were
relatively rare. Democratic corporate governance had morphed into a
type of authoritarianism. The CEO would enter the boardroom, explain
the corporation's new capital investment program, and turn to his chief
financial officer for corroboration. Then, without meaningful
deliberation, the board would approve the project. The CEO of a
profitable corporation today is given vast powers by the board of
directors he essentially appoints.
“Over the decades government agencies and various interest
groups have pressed large institutional investors, especially pension
funds, to vote their shares in a manner that would resurrect the
"corporate democracy" of earlier decades. But these institutions argue
that their responsibility to their pensioners is to invest profitably,
and that their expertise is in judging financial market value, not in
the alien practice of corporate management. Some public pension funds
have become more engaged, but their activities are marginal. Market
forces are driving private equity funds to become increasingly
committed to overseeing the management of the properties they own, but
while the trend is rapidly growing, these funds remain a very small
segment of corporate governance. Market forces are also driving mergers
and acquisitions, processes in which managements rarely survive
unscathed. So-called hostile takeovers may be seen as pure corporate
democracy once we recognize that the only "hostility" is between a set
of new shareholders and the company's entrenched management; the
existing shareholders are voluntarily selling their stock, and in most
instances are eager to do so and presumably delighted with the price
they get.
“It should not come as a surprise that, as with
authoritarianism everywhere, the lack of adequate accountability in
corporate management has spawned abuse. It was pretty clear during my
quarter century on corporate boards that petty abuse was widespread,
and on occasion the abuse rose above the petty.”
He
later says however, "Given the shareholder-management divide, the
autocratic-CEO paradigm appears to be the only arrangement that allows
for the effective functioning of a corporation. We cannot get around
the authoritarian imperative of today's corporate structure. But we can
make sure nonperforming CEOs are removed, if not by current
shareholders, then by making takeovers easier."
He finishes writing, "Ultimate control of American corporations by
their shareholders is essential to our market capitalist system. In
corporations, as in most other human institutions, delegation of
authority leads to a degree of authoritarianism. The proper balancing
of effective control in governing corporations will never be wholly
without controversy."
This shows that Greenspan himself was and is disturbed by the
authoritarian control inherent in today's corporate governance systems,
but does not see any easy way to address the root of the problem:
shareholders are investors, not managers. This being the case, it is
neither possible nor desireable for shareholders to get more closely
involved in governance as it lies outside of their area of expertise.
Mr. Mohr puts forth one possible solution: stock options should be
given instead of cash, and these options should include restrictions on
selling of 15 years or more.
A good solution must effectively treat the problem, but it must also be
feasible. Mr. Mohr proposes that governments should not get involved in
setting these restrictions. However, he gets close to the critical
point in his ponderings about incentives: are these bonuses essential
to attracting the most talented managers? As an astute student of
economic theory, Mr. Mohr knows the answer to that already: yes.
It would be difficult for shareholders to voluntarily enact such
restrictions due to the nature of competition. If you were a
sought-after power CEO, which corporation would you choose to head? The
one that provided bonuses for performance while you are there and
stocks you can sell whenever you please, or the one that pays you no,
or little, cash bonuses, and instead locks them up in stock options you
cannot sell, possibly punishing you for the mistakes of those who come
after you? I think any of us could make the right decision for
ourselves here, and CEOs would do just that. If Mr. Mohr is serious
about his proposition, including one eliminating severance packages,
there is no way around government imperatives.
Although I am generally against such government imperatives, I would
prefer such imperatives to contrived limits on corporate pay and
bonuses. Let the shareholders and boards decide how much compensation
is necessary and possible for the corporation to get the managers it
needs, remembering that managers operate in a truly global environment
-- they can move not only from company to coompany, state to state, but
indeed throughout the world. This is a matter of truly global
competition.
Desperate times call for desperate measures, but these measures should
nonetheless be well thought out. In a time when even Alan Greenspan is
admitting the need for tighter regulation of several markets (see his
address to the Congressional Oversight Committee, link on the economics
main page), it seems a measure that incentivizes long-term stability
and increased accountability for CEOs is not a bad idea. I am not sure,
however, how wise it is to punish CEOs for things that happen to a
corporation 15 years after they have moved on. Getting rid of severance
packages (through legislative action) might not be a bad first step,
however.
Whatever actions are agreed upon, it is absolutely essential in a world
of global competition for talent that these actions are implemented
internationally, preferrably by at least all of the G-20 nations, if
not universally. If the some states were to implement such measures,
they would be shooting themselves in the foot by sending managers away
to places where the profit comes more easily.
The debate about democratic corporate governance is important,
extremely difficult, and will certainly rage on. We have no choice but
to experiment, but let's try to get it right the first time and get it
right universally.
Quotes from:
Greenspan, Alan. The
Age of Turbulence: Adventures in a New World. New York:
Penguin Group, 2007. 424-425, 436.
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