Rewarding Losers: GE

It was only last Tuesday that I wrote of my reaction to Fortune Magazine's recent "most admired companies" survey.

At that time, I discussed GE CEO Jeff Immelt's inferior record of shareholder wealth creation, in comparison to the S&P500 index, over the past 5 years. Yesterday's Wall Street Journal provided the particulars.

In a piece buried inside the lead section, Immelt's 2005 compensation is described, along GE's continued lackluster performance. Let me get right to the heart of this piece. The WSJ piece states that Immelt owns just "...800,000 shares of his company's stock, valued at $29.1 million based on GE's $33.06 share price......Mr. Immelt receives quarterly dividends on his performance shares; he received $1 million in cash dividends in 2005, the company said."

What did not surprise me is that Immelt's 2005 salary was $3.2 million, and this year's is set at $3.3 million. He also received a cash bonus of $5.3 million in 2004.

The article goes on to detail Immelt's "request" that various performance, or bonus, shares of GE stock awarded to him be "totally aligned" with shareholders. Measures used are to include revenue, cash flow, earnings/share, and return on capital. Oh, and Immelt said he will not keep half of a 180,000 share bonus grant if total returns on GE stock don't beat those of the S&P500 over a two-year period.

Thus, despite Immelt's apparent concern with his company's shares, and their performance relative to the S&P, we see that Immelt is already a very wealthy man, any GE performance notwithstanding. At roughly $3.2 million per year since 2001, plus the $5.3 million 2004 bonus, he's already cleared at least $21 million pre-tax for heading up GE in the wake of Welch's departure. This is for running the company so that it underperforms the S&P500.

That's right. Some guy down at Vanguard in Philadelphia is getting paid probably no more than hald a million dollars a year, tops, for running a bare-bones index fund that gives its shareholders a better annual return over five years than Immelt has gotten for his shareholders. I'f I'm wrong on the Vanguard manager's compensation by a factor of 2, he's still only getting paid a tenth of Immelt's largesse, although he has outperformed the latter.

This, I maintain, is the real problem with US CEO compensation. Immelt has already "won" the compensation game. He can mouth platitudes about beating the S&P all he wants- it doesn't really matter now. Unless he has gambling, alcohol, or drug addictions, he's pretty much financially set for life right now. Think what you will, it must be hard to actually spend the roughly $15 million after-tax salary he's received, not to mention the upcoming bonuses, special share grants, and lush retirement compensation.

There is no way Immelt is going to take the risks needed to truly turn GE into a market-return-beating large-cap company anytime soon. It didn't do it under Welch over several decades. What makes you think it will happen under a guy who doesn't need the added compensation that would come from outperforming the index? A measly $3 million extra for actually beating the S&P? And, if he risks GE's current business mix to do so and fails, what does he incur? Ignominy, possible dismissal, and a fall from grace. Hardly worth risking those public humiliations for less than a quarter of his cumulative after-tax salary to date as CEO of the company.

I feel sorry for GE's shareholders. They are saddled with a board that is rewarding a loser as CEO, and have little prospect of things improving anytime soon.

What would get my respect and attention? If Immelt had taken the CEO job for $500,000 in annual salary, with the prospect of, say, $10 million of GE stock awarded annually and retroactively, for consistently beating the S&P500 over a five year period, I'd say he was putting his money where his mouth was.

By the way, beating the S&P over a two-year period is, according to my proprietary research, far easier than doing it over five years. The probability of beating the S&P over a two-year period is roughly five times greater than the likelihood of doing it over five years. And consistently outperforming the index for five years requires a much different approach by a CEO and his company's management team than simply aiming for a two-year sprint past the index's return.

As it now stands, Immelt has set a relatively modest performance target, the compensation for which will pale beside his other annual compensation. Some risk taking board and CEO.

It brings to mind Carl Icahn's comment of last summer, when interviewed on the subject of TimeWarner's CEO, and American CEOs in general. Icahn astutely opined that we are in danger of losing our global competitive edge at the CEO level as a result of lush, no-risk compensation packages. How right he is.