Tuesday, June 3, 2014

CEO Pay Spinning Out of Control?

Stan Choe of the Associated Press reports, Figuring out how your mutual fund manager votes:
Do you think a particular CEO makes too much money? Would you like to replace the directors who signed off on that salary? Or to vote on a company’s environmental policy?

If you own stock in a company, you get such opportunities. Every year, companies open the polls at their annual meetings, and shareholders elect directors to the board and vote on various policies. At Bank of America’s meeting on Wednesday, for example, shareholders weighed in on executive compensation and whether to force the bank to tally its impact on greenhouse-gas emissions.

But investors who prefer owning mutual funds to individual stocks don’t get to vote. Instead, the managers of their mutual funds do, carrying the weight of all the investors in the fund. Roughly half the companies in the Standard & Poor’s 500 index hold their annual meetings in May, so many of those votes are occurring now.

Investors can see how their mutual funds voted on issues over the prior year: Funds typically list their voting results on their Web sites, and they also file documents with the Securities and Exchange Commission detailing their choices.

Because fund managers would rather spend time buying and selling stocks than studying proposals for each corporate meeting, many funds hire an advisory firm to help them. Institutional Shareholder Services, better known as ISS, is such a company. It has about 1,700 clients and issues vote recommendations on nearly 39,000 companies around the world.

The votes cast by mutual funds carry big weight. Vanguard, which controls more than $2 trillion in assets, is often a company’s largest shareholder after totaling the investments across all of its funds. Vanguard and other large fund families say they vote based on what will drive the best long-term value for their investments. Vanguard prefers that the majority of directors on a company’s board be independent of management, for example.

Consider UPS, in which Vanguard funds collectively own about 5.1 percent of the outstanding shares, according to FactSet. Last year, Vanguard’s Total Stock Market Index fund – the largest mutual fund with $323.7 billion in assets – voted for a proposal to make all shares of stock have the same voting rights. The fund’s managers were hoping to replace the current system under which some UPS shares carry greater influence, with 10 votes per share. The fund voted against the recommendation of UPS management, though the proposal failed to pass. The fund also voted for all 12 nominees recommended for its board.

Vanguard, though, acknowledges “it would be exceedingly difficult, if not impossible” to reflect the social concerns of all shareholders while maximizing returns. It suggests investors who want to put emphasis in their portfolio look to specific mutual funds, ones that are typically called sustainable or socially responsible.

Over the years, corporate America has grown willing to talk with investors about such issues, says Stu Dalheim, the vice president of shareholder advocacy at Calvert. That’s made it easier for socially responsible investors, but it still isn’t easy.

At Leggett & Platt, which makes mattress innersprings and other products, Vanguard’s Total Stock Market Index fund last year voted for a proposal to explicitly prohibit discrimination based on sexual orientation and gender identity at the company. The vote was against the recommendation of the company’s management, which said that it is already an equal-opportunity employer. The company also said that it believes written policies should specifically list only the types of discrimination prohibited by federal law. The proposal failed to pass.

These funds make it part of their investment philosophy to emphasize issues such as executive compensation, climate change and human rights. For example, Calvert Investments focuses on sustainable investments and says it allocates its $13 billion in assets for both principle and performance.

Calvert identifies companies that it sees as strong in business ethics, environmental standards and other issues. It invests in them and tries to highlight those companies as leaders to others at conferences or in meetings with other CEOs.

It also makes proposals to try to advocate for corporate policies: It was among the investors who called on Bank of America to tally the greenhouse gases produced by companies and projects for which it’s a lender. The proposal failed to pass on Wednesday.

Sustainable-investing funds may also own stocks that may surprise some environmentalists, such as Exxon Mobil, Royal Dutch Shell and utility companies that burn a lot of coal. Calvert says it owns such companies in hopes of building long-term relationships and driving change.

“I think the trend is moving in our direction,” Dalheim says. “There’s more acknowledgment from companies and investors broadly that sustainability factors are important, but on some of these major challenges, there’s not enough progress.”
I must admit, I'm highly skeptical of socially responsible investing and I don't think mutual fund companies are driving any meaningful change when it comes to voting in the best interests of their shareholders or for society as a whole.

For example, look at median CEO pay in the United States which just crossed $10 million for the first time:
Propelled by a soaring stock market, the median pay package for a CEO rose above eight figures for the first time last year. The head of a typical large public company earned a record $10.5 million, an increase of 8.8 per cent from $9.6 million in 2012, according to an Associated Press/Equilar pay study.
Last year was the fourth straight that CEO compensation rose following a decline during the Great Recession. The median CEO pay package climbed more than 50 per cent over that stretch. A chief executive now makes about 257 times the average worker’s salary, up sharply from 181 times in 2009.

The best paid CEO last year led an oilfield-services company. The highest paid female CEO was Carol Meyrowitz of discount retail giant TJX, owner of TJ Maxx and Marshall’s. And the head of Monster Beverage got a monster of a raise.

Over the last several years, companies’ boards of directors have tweaked executive compensation to answer critics’ calls for CEO pay to be more attuned to performance. They’ve cut back on stock options and cash bonuses, which were criticized for rewarding executives even when a company did poorly. Boards of directors have placed more emphasis on paying CEOs in stock instead of cash and stock options.

The change became a boon for CEOs last year because of a surge in stocks that drove the Standard & Poor’s 500 index up 30 per cent. The stock component of pay packages rose 17 per cent to $4.5 million.

“Companies have been happy with their CEOs’ performance and the stock market has provided a big boost,” says Gary Hewitt, director of research at GMI Ratings, a corporate governance research firm. “But we are still dealing with a situation where CEO compensation has spun out of control and CEOs are being paid extraordinary levels for their work.”

The highest paid CEO was Anthony Petrello of oilfield-services company Nabors Industries, who made $68.3 million in 2013. Petrello’s pay ballooned as a result of a $60 million lump sum that the company paid him to buy out his old contract.

Nabors Industries did not respond to calls from The Associated Press seeking comment.

Petrello was one of a handful of chief executives who received a one-time boost in pay because boards of directors decided to re-negotiate CEO contracts under pressure from shareholders. Freeport-McMoRan Copper & Gold CEO Richard Adkerson also received a one-time payment of $36.7 million to renegotiate his contract. His total pay, $55.3 million, made him the third-highest paid CEO last year.

The second-highest paid CEO among companies in the S&P 500 was Leslie Moonves of CBS. Moonves’ total compensation rose 9 per cent to $65.6 million in 2013, a year when the company’s stock rose nearly 70 per cent.

“CBS’s share appreciation was not only the highest among major media companies, it was near the top of the entire S&P 500,” CBS said in a statement. “Mr. Moonves’ compensation is reflective of his continued strong leadership.”

Media industry CEOs were, once again, paid handsomely. Viacom’s Philippe Dauman made $37.2 million while Walt Disney’s Robert Iger made $34.3 million. Time Warner CEO Jeffrey Bewkes earned $32.5 million.

The industry with the biggest pay bump was banking. The median pay of a Wall Street CEO rose by 22 per cent last year, on top of a 22 per cent increase the year before. BlackRock chief Larry Fink made the most, $22.9 million. Kenneth Chenault of American Express ranked second with earnings of $21.7 million.

Like stock compensation, performance cash bonuses jumped last year as a result of the surging stock market and higher corporate profits. Earnings per share of the S&P 500 rose 5.3 per cent in 2013, according to FactSet. That resulted in an average cash bonus of $1.9 million, a jump of 12.9 per cent from the prior year.

More than two-thirds of CEOs at S&P 500 companies received a raise last year, according to the AP/Equilar study, because of the bigger profits and higher stock prices.

CEO pay remains a divisive issue in the U.S. Large investors and boards of directors argue that they need to offer big pay packages to attract talented men and women who can run multibillion-dollar businesses.

“If you have a good CEO at a company, the wealth he might generate for shareholders could be in the billions,” says Dan Mitchell, a senior fellow at the Cato Institute, a libertarian think tank. “It might be worth paying these guys millions for doing this type of work.”

CEOs are still getting much bigger raises than the average U.S. worker.

The 8.8 per cent increase in total pay that CEOs got last year dwarfed the average raise U.S. workers received. The Bureau of Labor Statistics said average weekly wages for U.S. workers rose 1.3 per cent in 2013. At that rate an employee would have to work 257 years to make what a typical S&P 500 CEO makes in a year.

“There’s this unbalanced approach, where there’s all this energy put into how to reward executives, but little energy being put into ensuring the rest of the workforce is engaged, productive and paid appropriately,” says Richard Clayton, research director at Change to Win Investment Group, which works with labour union-affiliated pension funds.

Petrello was the best-paid CEO largely because the board of directors of Nabors Industries’ wanted to end his previous contract. Under that contract, Petrello could have been owed huge cash bonuses, and the company could have paid out tens of millions of dollars if he were to die or become disabled. The board changed his contract following “say on pay” votes in 2012 and 2013 that showed shareholders were unhappy with how Nabors paid its executives.

To calculate a CEO’s pay package, the AP and Equilar looked at salary as well as perks, bonuses and stock and option awards, using the regulatory filings that companies file each year. Equilar looked at data from 337 companies that had filed their proxies by April 30. It includes CEOs who have been at the company for two years.

One prominent name not included in the data was Oracle CEO Larry Ellison, who is typically one of the best paid CEOs in the country.

Oracle files its salary paperwork later in the year, so Ellison was excluded in the 2013 survey data. He was awarded $76.9 million in stock options for Oracle’s fiscal year ending May 2013, according to proxy filings.

Among other findings:

— Female CEOs had a median pay package worth more than their male counterparts, $11.7 million versus $10.5 million for males. However, there were only 12 female CEOs in the AP/Equilar study compared with 325 male CEOs that were polled.

— The CEO who got the biggest bump in compensation from 2012 to 2013 was Rodney Sacks, the CEO of Monster Beverage. Sacks earned $6.22 million last year, an increase of 679 per cent. Monster’s board of directors awarded Sacks $5.3 million in stock options to supplement his $550,000 salary and $300,000 cash bonus.

Here are the 10 highest-paid CEOs of 2013, as calculated by The Associated Press and Equilar, an executive pay research firm:

1. Anthony Petrello, Nabors Industries, $68.2 million, up 246 per cent

2 .Leslie Moonves, CBS, $65.6 million, up 9 per cent

3. Richard Adkerson, Freeport-McMoRan Copper & Gold, $55.3 million, up 294 per cent

4. Stephen Kaufer, TripAdvisor, $39 million, up 510 per cent

5. Philippe Dauman, Viacom, $37.2 million, up 11 per cent

6. Leonard Schleifer, Regeneron Pharmaceuticals, $36.3 million, up 21 per cent

7. Robert Iger, Walt Disney, $34.3 million, up 46 per cent

8. David Zaslav, Discovery Communications, $33.3 million, down 33 per cent

9. Jeffrey Bewkes, Time Warner, $32.5 million, up 27 per cent

10. Brian Roberts, Comcast, $31.4 million, up 8 per cent
Let's forget about Oracle's Larry Ellison, whose ridiculous $76.9 million pay package last year was based on the “collective subjective judgment” of the board’s compensation committee. And let's even forget about what the WSJ recently reported, namely, Houston-based Cheniere Energy hasn’t made an annual profit in 18 years, pulled in just $267 million in revenue last year, and paid its CEO Charif Souki $142 million in 2013, making him one of America’s best paid executives.

What we see is that a soaring stock market lifts all boats, but some boats are lifted much higher than others. And what has propelled stock prices to record highs? Is it all about corporate profits? Not really. It's mostly about the Fed and more worrisome, soaring share buybacks:
Companies in the Standard and Poor's 500 stock index bought back about $160 billion in stock in the first quarter - the number is an estimate because the first-quarter tallies aren't complete, says Howard Silverblatt, senior index analyst for S&P Dow Jones Indices. If that number's accurate, it would be the second-highest amount of stock repurchases in history, trailing only the $172 billion in the third quarter of 2007.

Students of history will recall that the largest bear market since the Great Depression began in October 2007, which is one reason to view stock buybacks skeptically. Companies rarely buy their own stocks because they think the stock is undervalued, as superstar Warren Buffett pointed out in a 1999 investment letter: "Repurchases are all the rage, but are all too often made for an unstated and, in our view, an ignoble reason: to pump or support the stock price."

Reducing the share count is one way that buybacks pump a stock price. But there's a somewhat more subtle way that repurchases kick up a stock's value. Analysts look at a company's earnings per share. If a company's earnings are the same and the number of its shares fall, the stock magically looks a bit less expensive than it really is.

It may not be a shock that the people who benefit most from higher stock prices are executives, because much of their compensation comes in the form of stock grants and options. And yes, those executives have a big say in when a company repurchases its stock. "The people who make those decisions have a big incentive to keep stock prices high," says William Lazonick, professor at the University of Massachusetts at Lowell.

Thus, big surges in share repurchases often happen when stock prices are high, not when they're a bargain. That may have happened in the first quarter of 2014, when earnings were widely expected to slow. "Companies may have decided to spend extra money getting a tailwind going into the first quarter," Silverblatt says.

That's not unusual, Lazonick argues. Looking over four decades of data, Lazonick found that buybacks peak at market peaks, and tail off in bear markets. But he makes other, powerful arguments against corporate stock buybacks:
  • Even companies that buy back shares because they think the stock is a bargain don't sell it to lock in a profit. Doing so would be a signal that management thinks the stock is overvalued.
  • Companies that depend on research and development for future earnings squander their money by buying back stocks. Pfizer, for example, depends on developing new drugs. Yet, from 2003-2012, the equivalent of 71% of Pfizer's profits went to buybacks, Lazonick says. Similarly, Hewlett-Packard spent $11 billion on buybacks in 2010, $10.1 billion in 2011, then took a $12.7 billion loss in 2012.
  • Buybacks are probably the least productive use of a company's money. Companies have any number of things they can do with their cash, borrowings and profits. They can invest in people, plants and equipment. Or they can buy other companies. "It shows a lack of imagination," Lazonick says.
"We use it as an explanation of why earnings are holding up," says Sam Stovall, managing director of U.S. equity strategy at S&P Capital IQ. "Companies buy back stocks because management doesn't feel it has a better use for its funds."

The past five years, the PowerShares Buyback Achievers fund (ticker: PKW), has beaten the SPDR S&P 500 ETF trust by 3.91 percentage points a year, according to Morningstar, the Chicago investment trackers. So far this year, however, the fund has lagged behind the index by 2.28 percentage points - a sign that Wall Street may be getting less impressed by buybacks.

What should investors look for instead of repurchases? Stovall suggests investments in plant and equipment. Factory capacity utilization is at 80% now, about the point where companies start replacing old equipment, Stovall says. Investment in equipment grew 3.1% last year and is expected to grow 5.2% this year. Next year? a sizzling 10.4%.

Buying back stock is more of a sugar high than anything else. But wouldn't you prefer to own a company that has better ideas for using its cash?
The irony is that companies hoarding record levels of cash are buying back their shares to prop up earnings per share and boost the performance of their shares so CEOs can justify their bloated compensation. And we think capitalism is working just fine?!

What a joke! The entire corporate system in the United States is highly corrupt, leading to massive income and wealth inequality. The widening pay gap between CEOs and average workers is insane but the gap in total comp among CEOs is also very disturbing.

In recent weeks, I criticized the ludicrous compensation of hedge fund and private equity gurus, the chief beneficiaries of the big alternatives gamble and a culture that idolizes hedge fund hot shots.

In my last comment going over the day of reckoning for pensions, I openly questioned the extremely generous -- and in some some cases egregious -- compensation packages being doled out for the senior executives at Canada's large public pension funds.

I believe in pay for performance but we really need to look at performance much more carefully and understand where it's coming from. We also need to rein in excessive compensation everywhere and contrary to what critics think, sometimes asking tough questions on compensation is the most capitalistic thing to do. Why pay hedge fund gurus billions for gathering assets? Why pay CEOs who are buying back shares to boost their comp? Why pay public pension fund managers with captive clients millions for beating bogus benchmarks over a rolling four-year period?

Below,  French economist Thomas Piketty talks about wealth inequality and his book, "Capital in the Twenty-First Century." Piketty, a professor at the Paris School of Economics, speaks with Erik Schatzker on Bloomberg Television's "Street Smart."

Piketty said that if given the opportunity to revise his best-selling book, he would provide data showing a wider gap in wealth inequality than he previously thought. Professor Piketty has read some of my recent comments, including the 1% and Piketty, and he thanked me for highlighting how public pension funds are contributing to massive wealth inequality.