Would someone please save shareholders from being helped by the government pay czar?

The federal government announced its latest plan to cut back on some of the looting of America by Wall Street (New York Times story). Background: Bank executives paid themselves billions in bonuses up to and beyond the point at which they wiped out their shareholders, then started paying themselves bonuses out of the hundreds of billions of tax dollars shoveled in by the U.S. government. Uncle Scrooge is now saying that a bank executive, even with the support of his or her golfing buddies on the Board, can’t take home $100 million per year in cash anymore… the executive has to take $100 million in restricted stock instead. Sounds like an improvement, except to the shareholders whose interest in the public company will be diluted.

To restore investor confidence in American public companies, how about a rule that says the company can’t issue new stock for employees or promise anything to an employee for future delivery out of future revenues?

Let’s look at some problems that could have been eliminated by this rule:

  • General Motors, which appeared to be healthy and profitable in the 1960s and 70s, was actually bankrupting itself with pension and retiree health care liabilities that were not disclosed to shareholders (more)
  • The New York Stock Exchange, a tax-exempt not-for-profit company, quietly promised to give $140 million to Richard Grasso upon his retirement (Wikipedia)
  • Jack Welch and his golfing buddies at General Electric helped themselves to a 30 percent ownership stake in the company by issuing themselves stock options (he brags about this in his autobiography; see my review)

With a “no printing new stock and no unfunded future promises” rule, executives could not loot from a company more than 100 percent of current profits and cash. Once the looters had retired, the shareholders would have a chance to live and fight another day with a new set of managers.

What about pensions? Under this rule, a company could contribute current cash to a worker’s 401k account. Managers would not be able to subject shareholders to catastrophic risk from an increase in human lifespan, a fall in interest rates, an increase in health care costs, etc.

What about compensation that was tied in some way to the long-term health of the company? The company could use profits to buy its own stock back and put it into an escrow account for employees, with the stock to be released from escrow after a period of years. The company could similarly put aside cash in escrow that would flow out to the employee in the event that the company was profitable over a period of years. If the company prospered, the employee (or former employee) could buy the house in the Hamptons. If the management’s bets failed to pay off and the company floundered, the cash would come back out of escrow and be available to rebuild value for shareholders.

As noted in my economic recovery plan, under the guise of protecting shareholders, the government essentially created the problem of corporate looting by preventing shareholders in public companies from nominating Board members (thus freeing the incumbent managers to nominate their best friends). This latest attempt by the Feds to save shareholders seems likely only to defer their ruin.

What’s wrong with the idea that a public company should not be able to spend more than 100 percent of its current revenue on compensating current employees?

[Update: An October 22 New York Times piece by Joe Nocera noting “the most straightforward way to shrink the oversize pay of Wall Street executives — and, more generally, curb the excesses of executive pay — would be to make directors more accountable to the company’s shareholders.”]


  1. thrill

    October 22, 2009 @ 12:32 pm


    What’s wrong with the idea that a public company should not be able to spend more than 100 percent of its current revenue on compensating current employees?

    … or a government?

  2. FatPedro

    October 23, 2009 @ 4:03 pm


    If the constraint is based on current profits, does that mean no one is paid in a year that the company takes a loss?

    If the constraint is based on current cash, couldn’t the company just issue debt and use the proceeds from the debt issuance to pay big bonuses? Similarly if the constraint is based on current revenue, you could also use the revenue to pay salaries, and pay all other expenses using debt issuance, stock issuance, etc.

    It is hard to craft effective compensation rules when the ones who stand to benefit from high levels of compensation are in control of how compensation is paid. The breakdown of the directors’ responsibility is really the heart of the matter here, but how do you legislate away the old boys club?

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