Perhaps there's a divine message in the news this week. Lou Rukeyser, one of America's most respected financial media personages, passed away yesterday from cancer. Only days after Maria Bartiromo, the Barbara Walters of financial news anchors, allegedly moved markets with her dinner anecdote involving Ben Bernanke. She reported, second-hand, Fed Chairman Ben Bernanke's musings on how the markets interpreted his recent remarks. This allegedly caused a major selloff in the market earlier this week.
If any financial media reporter/commentator should have been the one to be accorded such weight, it should have been Rukeyser. Anyone who watched his public television, later, CNBC, weekly program, understood that he had a thorough command of economics and free market mechanics.
In contrast, anyone who has watched Bartiromo would see that she often has to pause interviews when she can't see her teleprompter, leaning across a table and squinting in mid-interview with some Wall Street worthy. It's as if she has no understanding of her own questions- a sort of human fax machine. The story comes out, but the source has no understanding of what it just produced.
What scares me is that, of all the people to whom Bernanke is alleged to have given such a market-moving scoop, why someone who has trouble reading her own interview questions? Someone evidently so bereft of economic and financial knowledge as to actually pause during interviews, because she doesn't understand the questions she's firing off?
What was Bernanke thinking? If he couldn't find an informed media outlet at a dinner full of them, why didn't he just keep his mouth shut? It's not like this was a taped or recorded interview. Does anyone really think Bernanke meant that apparent remark to be processed in the markets as "information?"
What this demonstrates to me, once again, is the utter meaningless of any one day's market moves. They are addled by such oddities as a financial talking head passing along a chance remark by our Fed Chairman to a financial reporter whom we can't even be sure understood his remarks.
Once again, we see that there will always be daily headlines. Yet, they don't necessarily have any lasting impact beyond a few days' trading trends.
Thursday, May 04, 2006
Monday, May 01, 2006
AMD & Intel: The "Big MO"
Momentum. Consistent Growth.
Who's got it? Who's lost it? What are the behavioral implications within a firm?
In my prior post, I considered why Intel is in the situation it currently faces. Now, I want to consider that situation, in contrast to its chief competitor, AMD.
For most of my early career, I had a friend at Intel. She became an early Intel millionairess, thanks to their Wall Street-style incentive compensation, at least in the early years. I believe she joined the chip maker in 1980 or thereabouts.
Back then, Jerry Sanders was the flamboyant CEO of AMD. He had a very tough job. The only reason AMD existed was that Intel's customers drew the line at being totally subservient to the chip giant. It was one thing to pay high prices to buy new chips on Intel's schedule. It was quite another to have no other option whatsoever. So device customers kept AMD on life support in order to maintain some slender thread of bargaining power with Intel.
How the worm has turned! But, let's be realistic. Today, as I pointed out in my previous post, Intel is a reasonably diversified chip maker. While its core revenue machine is still pc and laptop chips, it has substantial other applications and, thus, product lines. Which is probably what got it into its recent trouble. AMD is still largely, as I understand it, a conventional PC, server and laptop chip supplier.
So, in discussing this with my partner last night, between squash games, I arrived at an insight lost to me for over 20 years. As it struck me, memories of the years I spent at AT&T suddenly came rushing back. Being on a losing, shrinking team is no fun. Life sucks, and career prospects suddenly look very dim. There is a visceral, human behavioral reaction to momentum in business that goes, I believe unnoticed.
Think of what life at AMD must be like right now. You're in the press, more than ever before, as a charging tiger. You've just grown revenues during a period when your always-imposing, larger competitor shrunk! You're the toast of customers everywhere, for actually listening to their needs and creating product for them. How novel! Growth is abundant. Your share is growing in a stable to declining market. So, for you, it's actually a growth market. It's not the same world Intel sees. At all.
Wouldn't you love to see the electronic flow of communications and resumes from Intel employees to their AMD contacts? I can just envision the sapping of emotional energy among young Intel engineers as they face several months of internal witch-hunting...oops....cost cutting, by Paul Otellini & Co. How paralyzing this is going to be for Intel and its employees.
I would hazard to guess that there is now an intangible energy, an initiative, dare I say, advantage, with AMD. They have, as George Bush used to say early in his failed 1976 race for the Republican presidential nomination, the "big mo." I suspect that, coupled with competent management and Intel's self-inflicted wounds, it should make for continued success for the near term at AMD.
It is, once again, a Schumpterian force. It's consistent growth. For AMD, in a positive direction. For Intel, now, in a downward one. My investment style, and my research focus, have always involved consistent business performance. I have found, contrary to what others seem to believe, that it is its own reward. With this recent competitive story developing between Intel and AMD, I think I have also rediscovered an intangible reason why consistency matters. It is its effect upon humans engaged in business endeavors.
Who's got it? Who's lost it? What are the behavioral implications within a firm?
In my prior post, I considered why Intel is in the situation it currently faces. Now, I want to consider that situation, in contrast to its chief competitor, AMD.
For most of my early career, I had a friend at Intel. She became an early Intel millionairess, thanks to their Wall Street-style incentive compensation, at least in the early years. I believe she joined the chip maker in 1980 or thereabouts.
Back then, Jerry Sanders was the flamboyant CEO of AMD. He had a very tough job. The only reason AMD existed was that Intel's customers drew the line at being totally subservient to the chip giant. It was one thing to pay high prices to buy new chips on Intel's schedule. It was quite another to have no other option whatsoever. So device customers kept AMD on life support in order to maintain some slender thread of bargaining power with Intel.
How the worm has turned! But, let's be realistic. Today, as I pointed out in my previous post, Intel is a reasonably diversified chip maker. While its core revenue machine is still pc and laptop chips, it has substantial other applications and, thus, product lines. Which is probably what got it into its recent trouble. AMD is still largely, as I understand it, a conventional PC, server and laptop chip supplier.
So, in discussing this with my partner last night, between squash games, I arrived at an insight lost to me for over 20 years. As it struck me, memories of the years I spent at AT&T suddenly came rushing back. Being on a losing, shrinking team is no fun. Life sucks, and career prospects suddenly look very dim. There is a visceral, human behavioral reaction to momentum in business that goes, I believe unnoticed.
Think of what life at AMD must be like right now. You're in the press, more than ever before, as a charging tiger. You've just grown revenues during a period when your always-imposing, larger competitor shrunk! You're the toast of customers everywhere, for actually listening to their needs and creating product for them. How novel! Growth is abundant. Your share is growing in a stable to declining market. So, for you, it's actually a growth market. It's not the same world Intel sees. At all.
Wouldn't you love to see the electronic flow of communications and resumes from Intel employees to their AMD contacts? I can just envision the sapping of emotional energy among young Intel engineers as they face several months of internal witch-hunting...oops....cost cutting, by Paul Otellini & Co. How paralyzing this is going to be for Intel and its employees.
I would hazard to guess that there is now an intangible energy, an initiative, dare I say, advantage, with AMD. They have, as George Bush used to say early in his failed 1976 race for the Republican presidential nomination, the "big mo." I suspect that, coupled with competent management and Intel's self-inflicted wounds, it should make for continued success for the near term at AMD.
It is, once again, a Schumpterian force. It's consistent growth. For AMD, in a positive direction. For Intel, now, in a downward one. My investment style, and my research focus, have always involved consistent business performance. I have found, contrary to what others seem to believe, that it is its own reward. With this recent competitive story developing between Intel and AMD, I think I have also rediscovered an intangible reason why consistency matters. It is its effect upon humans engaged in business endeavors.
Intel's Insides
Friday's Wall Street Journal carried a piece concerning Intel's restructuring, amidst revenue declines. A good friend in the consulting sector had alerted me to it on Thursday night, when she read the story elsewhere. She assailed me, in a collegial manner, about the Intel situation and "corporate governance," knowing my stance on the general topic.
I am, frankly, of two minds about it. On one hand, I agree with my friend. Which is to say, 'how could the guys at Intel have messed up so totally?' They surely must track PC and laptop shipments and share. So they must have had earlier warnings of the weaknesses in those markets than just the past few months. My friend's overall attitude was, 'what are these guys being paid for, if not to manage around this type of knowable challenge?' I do agree, in part.
It's sort of inconceivable that as well-run a company as Intel has historically been could stumble so badly on demand assessment as to actually have to freeze hiring and terminate some employees. And I mean, with all the flourish and publicity of a "restructuring," to paraphrase Intel CEO Paul Otellini.
On the other hand, Intel is now long in the tooth. Its big break came from the space program. That's 40 years ago now, friends. They stomped all over the competition at the dawn of the PC era. That's roughly 25 years ago now.
At this point, I am having a serious Proustian moment. I actually recall gazing at a Business Week headline in the late '80s, featuring then-CEO John Opal, or perhaps his successor, John Akers, struggling with appalling losses. And wondering why IBM was so quickly and totally disparaged by the business press. This was very close to the time Bob Stempel got booted out for losing billions of dollars at GM. Recall, if you will, that Lou Gerstner and ex-P&G CEO John Smale stepped in at IBM and GM, respectively, to stem the losses.
What I thought then, as I do now, is that Americans simply have no sense of perspective with regard to business history. The two cases I mentioned, GM under Stempel, and IBM under Akers, literally launched the work that has resulted in this blog, a forthcoming book, and my portfolio strategy. I was shocked at how little understanding the business community, especially the media, had for prior performance. And I asked myself, "what is the mean time, in years, that a US company can sustain consistently superior total returns?" And, allied with that, what is the distribution of experiences surrounding that mean?
Suffice to say, what I subsequently learned is that it is a very, very rare firm that can sustain consistently superior performance, both in terms of total return, and the fundamental operating performances that drive the former. It's easy to sit and carp while a once-great firm, technological or not, dies. Or becomes seriously ill, aged, and never to rise again to its former dominance.
I think it's time to give Intel its due. It reigned supreme in its burgeoning sector for decades. It even managed, while doing that, to attain a time and measure of consistently superior returns for its shareholders. I have even held Intel stock in my portfolio, as a consistently superior firm.
So, while I think the current management is perhaps over-matched by circumstances, it's not, strictly speaking, their fault. If you've read much of the body of writing on this blog since the fall of last year, you may see a number of themes coming together in Intel's current travails. It is so very Schumpterian in nature, that I'm not sure even Bob Noyce could pull Intel out of the ditch this time. It very much matters whether a CEO follows a long line of consistent successes, or not.
Here, I think we have a rather traditional case of technological innovation and progress rendering Intel unable to extend its dominance anymore. Pressures of internal growth, slowing and declining internal competence and passion, coupled with commoditization pressures, and changes in their end-user market, have all combined to bring Intel to this impasse.
Within the next few days, some thoughts about AMD. Facing the same markets, why is it different, and what does that imply for both AMD and Intel?
I am, frankly, of two minds about it. On one hand, I agree with my friend. Which is to say, 'how could the guys at Intel have messed up so totally?' They surely must track PC and laptop shipments and share. So they must have had earlier warnings of the weaknesses in those markets than just the past few months. My friend's overall attitude was, 'what are these guys being paid for, if not to manage around this type of knowable challenge?' I do agree, in part.
It's sort of inconceivable that as well-run a company as Intel has historically been could stumble so badly on demand assessment as to actually have to freeze hiring and terminate some employees. And I mean, with all the flourish and publicity of a "restructuring," to paraphrase Intel CEO Paul Otellini.
On the other hand, Intel is now long in the tooth. Its big break came from the space program. That's 40 years ago now, friends. They stomped all over the competition at the dawn of the PC era. That's roughly 25 years ago now.
At this point, I am having a serious Proustian moment. I actually recall gazing at a Business Week headline in the late '80s, featuring then-CEO John Opal, or perhaps his successor, John Akers, struggling with appalling losses. And wondering why IBM was so quickly and totally disparaged by the business press. This was very close to the time Bob Stempel got booted out for losing billions of dollars at GM. Recall, if you will, that Lou Gerstner and ex-P&G CEO John Smale stepped in at IBM and GM, respectively, to stem the losses.
What I thought then, as I do now, is that Americans simply have no sense of perspective with regard to business history. The two cases I mentioned, GM under Stempel, and IBM under Akers, literally launched the work that has resulted in this blog, a forthcoming book, and my portfolio strategy. I was shocked at how little understanding the business community, especially the media, had for prior performance. And I asked myself, "what is the mean time, in years, that a US company can sustain consistently superior total returns?" And, allied with that, what is the distribution of experiences surrounding that mean?
Suffice to say, what I subsequently learned is that it is a very, very rare firm that can sustain consistently superior performance, both in terms of total return, and the fundamental operating performances that drive the former. It's easy to sit and carp while a once-great firm, technological or not, dies. Or becomes seriously ill, aged, and never to rise again to its former dominance.
I think it's time to give Intel its due. It reigned supreme in its burgeoning sector for decades. It even managed, while doing that, to attain a time and measure of consistently superior returns for its shareholders. I have even held Intel stock in my portfolio, as a consistently superior firm.
So, while I think the current management is perhaps over-matched by circumstances, it's not, strictly speaking, their fault. If you've read much of the body of writing on this blog since the fall of last year, you may see a number of themes coming together in Intel's current travails. It is so very Schumpterian in nature, that I'm not sure even Bob Noyce could pull Intel out of the ditch this time. It very much matters whether a CEO follows a long line of consistent successes, or not.
Here, I think we have a rather traditional case of technological innovation and progress rendering Intel unable to extend its dominance anymore. Pressures of internal growth, slowing and declining internal competence and passion, coupled with commoditization pressures, and changes in their end-user market, have all combined to bring Intel to this impasse.
Within the next few days, some thoughts about AMD. Facing the same markets, why is it different, and what does that imply for both AMD and Intel?
Thursday, April 27, 2006
More Sand in the Gears...and Maybe in Your Coffee?
My business partner quoted an incredible statistic the other day. He told me that Starbucks is hiring 200 people per day! According to information available on their website, they now have 3,205 company-owned stores, and recently opened 266 stores in the 21 weeks prior to February 26 of this year. The numbers are 10,985 and 744, respectively, including licensee locations.
So Howard Schultz is opening more than 10 company stores per week, which would account for the employee growth. That is, 2 company stores per day, plus 5 licensee stores per day, plus turnover. With 'more than 100,000' employees currently, they are adding roughly 1% to their employee base per week. Allow for some Kentucky windage, and they are growing like topsy.
At these rates, I would guess Schultz lies awake nights wondering how his company's culture can withstand this sort of dilution and explosion among its ranks. When the US military saw these levels of growth during WWII, they employed the "cadre" system- seeding new units with experienced combat veterans. Is Starbucks doing this? Can they afford to, if they are moving into new locales?
This exemplifies my point in a prior post regarding how rapid growth necessarily creates a counterbalancing inertia of mediocrity resulting from a tidal wave of new, "foreign" influences who are new employees. How long has Starbucks to grow before the inevitable slowdown from unmotivated human "sand" in the corporate gears occurs? Will quality suffer? Turnover rise? Margins thin to pay for adequate talent and training at breakneck speeds?
So Howard Schultz is opening more than 10 company stores per week, which would account for the employee growth. That is, 2 company stores per day, plus 5 licensee stores per day, plus turnover. With 'more than 100,000' employees currently, they are adding roughly 1% to their employee base per week. Allow for some Kentucky windage, and they are growing like topsy.
At these rates, I would guess Schultz lies awake nights wondering how his company's culture can withstand this sort of dilution and explosion among its ranks. When the US military saw these levels of growth during WWII, they employed the "cadre" system- seeding new units with experienced combat veterans. Is Starbucks doing this? Can they afford to, if they are moving into new locales?
This exemplifies my point in a prior post regarding how rapid growth necessarily creates a counterbalancing inertia of mediocrity resulting from a tidal wave of new, "foreign" influences who are new employees. How long has Starbucks to grow before the inevitable slowdown from unmotivated human "sand" in the corporate gears occurs? Will quality suffer? Turnover rise? Margins thin to pay for adequate talent and training at breakneck speeds?
To once again paraphrase Tom Wolfe from "The Right Stuff," at which "seam" will it blow?
It's only a matter of time. As I write this, I've just read of Intel's big reorganization, and Microsoft's losing 11% of its market value just today in trading.
Don't ever say "it can't happen here.....or there." Schumpeter taught us that it happens "everywhere" in time.
Wednesday, April 26, 2006
How McKinsey "Helped" EBay Ignore Google
Last week's Wall Street Journal contained an article discussing how EBay had, to its chagrin, ignored Google as a competitive threat. Of note was a passage noting that McKinsey produced a report for EBay in 2003 which allayed the latter's fears of Google moving into ecommerce.
So much for relying on one of our country's most expensive consulting firms' strategy advice. I think there is an important lesson to be learned from this situation.
When I consider which are the current leading technology firms which dominate and shape the business landscape, five names come to mind: Google, EBay, Yahoo, Apple and Microsoft.
What disappoints me is that EBay, with corporate veteran Meg Whitman at the helm, would honestly think McKinsey could possibly teach her management team anything, when her firm is already at the vanguard of business experience. Along with the other four I mentioned, EBay is virtually changing and writing the rules as they go along.
It would seem sensible for Whitman to choose 3-4 wise "greybeards" of her acquaintance to come help role play some of the other four companies with her management team at their offsite meetings. I could see EBay learning how others would think to employ the assets of Google or EBay in various scenarios.
But asking McKinsey for a "report" on Google's probable moves and intentions? I can't understand it. If Whitman and her team aren't the best-positioned people to provide these answers, with a little perspective from a few carefully-chosen individuals, how is an outside consulting firm going to do it?
My partner and I, in chatting about this story, unexpectedly swapped identical McKinsey anecdotes. He was at Merrill Lynch some years ago, and I was with Chase Manhattan Bank. We both witnessed McKinsey come in about every 4 years and recommend changing some organizational aspects of our respective firms to what they were 4 years earlier. I'm not joking about this. At Chase, McKinsey reorganized Corporate Lending between market segment and product lines about three times while I was there. They are legendary for creating revenue streams on the thinnest of rationales.
If you were the CEO of EBay, would you really have ignored Google for the last three years? In an industry sector rife with boarding house reaches such as Microsoft grabbing browsers from Netscape, and Apple jumping into applied digital music devices and online content systems, would you truly expect Google to restrict itself to search engine product/markets?
I wrote a few months ago that I believe Google understands the vulnerability of its, and any, temporal search engine. That is why they have been extending their brand like crazy onto anything remotely addressable from their current competence.
In a way, though, this WSJ story might be very good for the US business community. With such a glaring gaffe by McKinsey, on behalf of a technology leader like EBay, perhaps other companies will be more judicious in their use of, and choice of, consulting "help" when they deliberate on their strategic directions and threats thereto.
So much for relying on one of our country's most expensive consulting firms' strategy advice. I think there is an important lesson to be learned from this situation.
When I consider which are the current leading technology firms which dominate and shape the business landscape, five names come to mind: Google, EBay, Yahoo, Apple and Microsoft.
What disappoints me is that EBay, with corporate veteran Meg Whitman at the helm, would honestly think McKinsey could possibly teach her management team anything, when her firm is already at the vanguard of business experience. Along with the other four I mentioned, EBay is virtually changing and writing the rules as they go along.
It would seem sensible for Whitman to choose 3-4 wise "greybeards" of her acquaintance to come help role play some of the other four companies with her management team at their offsite meetings. I could see EBay learning how others would think to employ the assets of Google or EBay in various scenarios.
But asking McKinsey for a "report" on Google's probable moves and intentions? I can't understand it. If Whitman and her team aren't the best-positioned people to provide these answers, with a little perspective from a few carefully-chosen individuals, how is an outside consulting firm going to do it?
My partner and I, in chatting about this story, unexpectedly swapped identical McKinsey anecdotes. He was at Merrill Lynch some years ago, and I was with Chase Manhattan Bank. We both witnessed McKinsey come in about every 4 years and recommend changing some organizational aspects of our respective firms to what they were 4 years earlier. I'm not joking about this. At Chase, McKinsey reorganized Corporate Lending between market segment and product lines about three times while I was there. They are legendary for creating revenue streams on the thinnest of rationales.
If you were the CEO of EBay, would you really have ignored Google for the last three years? In an industry sector rife with boarding house reaches such as Microsoft grabbing browsers from Netscape, and Apple jumping into applied digital music devices and online content systems, would you truly expect Google to restrict itself to search engine product/markets?
I wrote a few months ago that I believe Google understands the vulnerability of its, and any, temporal search engine. That is why they have been extending their brand like crazy onto anything remotely addressable from their current competence.
In a way, though, this WSJ story might be very good for the US business community. With such a glaring gaffe by McKinsey, on behalf of a technology leader like EBay, perhaps other companies will be more judicious in their use of, and choice of, consulting "help" when they deliberate on their strategic directions and threats thereto.
Tuesday, April 25, 2006
Financial Utilities
My friend B is a truly prescient guy. He's had an enviable career in various parts of the financial service industry, the details of which I will spare the reader, in deference to B's wish for continued anonymity. He still does some consulting, and values his public persona, vis a vis his rather more unvarnished candor with me.I can vividly recall my phone call with him in early 1996, when I was the first Director of Research for Oliver, Wyman & Co., now the financial services consulting unit of Mercer Management Consulting. As I was sitting in the firm's computer room, watching over the crunching of some data on my large-scale study of what accounted for superior returns in financial services companies, B and I were discussing trends in the industry. He predicted that, henceforth, the money center banks of the day would conglomerate further into only 3-4 financial "utilities." By that he meant money center banks plus ancillary businesses- brokerage, asset management, and insurance. Or variants thereof.
Well, we're there now. With Citigroup as the vanguard of the then-illegal union of banking and securities businesses, there are now three roughly interchangeable giant financial utilities in the US: Citi, BofA, and Chase. BofA acquired MBNA, and Chase's merger with Banc One combined a huge chunk of midwestern bank assets with the second-largest New York City banking company.
In a recent exchange of phone calls and emails, B commented that in the most recent quarter, all three companies had similar results, proportionally, with likewise similar strong and weak unit performances. He wondered aloud whether we are now at a point where these financial utilities are essentially on autopilot, and need not really be "led" by anyone. In short, the CEOs have become largely irrelevant and interchangeable.
I think B is right. The current CEOs of Chase and Citi are very, very pale shadows of David Rockefeller and Walter Wriston, titans who led much more dynamic and unique institutions in their days. I don't even know offhand who runs BofA, but I see from its Yahoo profile page that it is indeed Ken Lewis, the surviving CEO of what was once, long ago, NCNB. Or First Union. I can't recall which of them eventually got BofA, and which is now "Wachovia."
Even the second-tier utilities are pretty similar as well. Conglomerations of what we used to call "regional" banks. Wells Fargo and Wachovia are all that remain of First Interstate, Security Pacific, First Bank System, Wachovia, and one of the two Charlotte-based banks that isn't now BofA.
To continue, B suggested I go check the market performance of the three major financial utilities to see if those performances, too, have become very similar. I did, and I think one would say, "yes," they are not so very different now.
The top of this post features a Yahoo-generated price chart for some 30 years, as a sort of long-term secular trend reference. While it is not, technically, a total return chart, the change in stock prices, assuming reasonably similar dividend policies, is close.
What I note from the very long term is that, distortions of compounding on very recent years aside, the performances of Chase and Citi have been nearly identical since 1995. Since roughly 1992, all three seem to perform similarly.
Very recently, Chase seems to have gained a bit more acceleration. But with the recent spate of acquisitions, it's not clear what the longer-term, steady-state performances will be.
Overall, though, I think my colleague B's observations and insights are correct. It really doesn't much matter who is at the helm of these utilities anymore. With a few exceptions, such as Citi's recent swap of asset management for a brokerage business, they are now subject to the same global and US forces, have similar business and asset bases, face similar raw material (i.e., money) and operating costs. And thus, I would be surprised if any of the three financial utilities, Citi, Chase and BofA, achieve consistently superior total returns in the future that none of them have attained in the past. It's not something one usually sees in diversified financial service firms alone, let alone 'this' diversified and gargantuan.
Monday, April 24, 2006
Chase Manhattan Bank: A Reunion
A little-known integration occurred this past year. When Banc One and Chase (ok, JP Morgan Chase) merged, two former Chase-executive-led pieces of banking were rejoined. Banc One contained, among its various components, the old First Chicago Bank.
A few years before I joined Chase Manhattan, in 1983, it experienced an internal conflict which, to judge from the then still-audible echoes, rivaled that of the English Reformation. Chase's eventual COO, Tom Labrecque, had marshalled support to defeat an opposing team of senior executives in order to claim the mantle of succession passed down from, and through, the legendary David Rockefeller. David's presence was still felt at the bank, if only as a guiding spirit. The losing faction, led by Barry Sullivan, departed to run First Chicago. As I was told, such was the animosity, that Sullivan's compensation package allegedly included the provision that he would be paid slightly more than whatever the CEO of Chase Manhattan was earning.
From a longer-term perspective, the re-integration of these two Chase management teams reinforces a lesson for me. Strategies, size and specific economic conditions notwithstanding, the split didn't really matter after all.
Now, those two asset bases, and much, much more, including the very large and also mediocre old Chemical and Manufacturers Hanover Banks, are all one larger group of unremarkably-managed assets and businesses. In the end, to this point, it didn't matter what route the businesses took, nor who ran them. A consolidating industry slammed them all together under ever more colorless and less strategically innovative management.
Thus, the observations of my friend and colleague, B (he still plies his trade in parts of the industry) have come to pass. A few very large, faceless, nearly-identical financial "utilities" now dominate the sector.
More on this in my next post.
A few years before I joined Chase Manhattan, in 1983, it experienced an internal conflict which, to judge from the then still-audible echoes, rivaled that of the English Reformation. Chase's eventual COO, Tom Labrecque, had marshalled support to defeat an opposing team of senior executives in order to claim the mantle of succession passed down from, and through, the legendary David Rockefeller. David's presence was still felt at the bank, if only as a guiding spirit. The losing faction, led by Barry Sullivan, departed to run First Chicago. As I was told, such was the animosity, that Sullivan's compensation package allegedly included the provision that he would be paid slightly more than whatever the CEO of Chase Manhattan was earning.
From a longer-term perspective, the re-integration of these two Chase management teams reinforces a lesson for me. Strategies, size and specific economic conditions notwithstanding, the split didn't really matter after all.
Now, those two asset bases, and much, much more, including the very large and also mediocre old Chemical and Manufacturers Hanover Banks, are all one larger group of unremarkably-managed assets and businesses. In the end, to this point, it didn't matter what route the businesses took, nor who ran them. A consolidating industry slammed them all together under ever more colorless and less strategically innovative management.
Thus, the observations of my friend and colleague, B (he still plies his trade in parts of the industry) have come to pass. A few very large, faceless, nearly-identical financial "utilities" now dominate the sector.
More on this in my next post.
Thursday, April 20, 2006
WSJ's SmartMoney's Fuzzy Thinking
Efficiency. Effectiveness. Productivity. Oh, what the heck...does it matter which term we use?
Actually, it matters very much. As I first realized ten years ago, when I wrote a paper on the detailed relationships between these terms, their misuse has been the source of much bad thinking and writing in business publications.
This past Thursday, the Wall Street Journal featured its "SmartMoney Stock Screen" on page D3. The subtitle of the boxed piece was, "Efficiency Experts." It discussed how to use and interpret ROE for a company, alternately describing it as "managerial effectiveness," and "how efficiently its managers are using the plants, equipment and other resources...."
Well, it can't be both. So which is it?
I prefer to call ROE a "total factor productivity" measure. It can be deconstructed into labor productivity (Value Added/# Employees), operating efficiency (Net Income/Value Added), and Capital Intensity (# Employees/Equity). The benefit of this decomposition is to provide a view of the resources typically used by any business: people, capital, and expense dollars. Using value added removes the distorting effects of revenue attributed to a business that was, in fact, merely passed through as a purchase from a vendor.
Thus, ROE, or ROI, for that matter, as it was also mentioned in the WSJ article, may be interpreted as both total factor productivity measures, as well as simple equity or capital employed productivity measures.
I have found that efficiency typically refers to inputs. As such, what most economists and business writers call "efficiency," and measure with dollars/input unit, I find more sensibly called "volume efficiency" and measured with units/input unit. How a firm efficiently produces a product or service may be understood irrespective of the market-provided value of that product or service. I find this leads to clearer appreciation of the production efficiency issues typically under consideration when discussing "efficiency."
For labor productivity, I prefer value added divided by the number of employees, as this does provide a valuation measure for an input. The same is true for operating efficiency, which measures the productivity of expense dollars in producing a dollar of net income.
After much thinking and wrestling with the terms I found at hand in 1996, it became clear that more terms were needed, not fewer.
And certainly not a perspective that equates "efficiency" and "effectiveness." Good Lord! Can you get any fuzzier than that?
By the way, as is this deliberate, or, more sadly, unrecognized obfuscation was not sufficient, the writer, Jack Hough, concluded with the comforting sentence, "As always, please remember that stock screens produce research lists, not buy lists." What the heck does that mean? I just wasted my time reading his piece, only to find he really doesn't believe anything he just wrote? That he wants to publish his "research," but for God's sake, don't use it to actually, you know, buy a stock! Just mull it over, and talk about it at your next weekend dinner party.
No wonder the public is better-served by just buying managed funds, rather than individual stocks. With "help" like this, can you blame them?
Actually, it matters very much. As I first realized ten years ago, when I wrote a paper on the detailed relationships between these terms, their misuse has been the source of much bad thinking and writing in business publications.
This past Thursday, the Wall Street Journal featured its "SmartMoney Stock Screen" on page D3. The subtitle of the boxed piece was, "Efficiency Experts." It discussed how to use and interpret ROE for a company, alternately describing it as "managerial effectiveness," and "how efficiently its managers are using the plants, equipment and other resources...."
Well, it can't be both. So which is it?
I prefer to call ROE a "total factor productivity" measure. It can be deconstructed into labor productivity (Value Added/# Employees), operating efficiency (Net Income/Value Added), and Capital Intensity (# Employees/Equity). The benefit of this decomposition is to provide a view of the resources typically used by any business: people, capital, and expense dollars. Using value added removes the distorting effects of revenue attributed to a business that was, in fact, merely passed through as a purchase from a vendor.
Thus, ROE, or ROI, for that matter, as it was also mentioned in the WSJ article, may be interpreted as both total factor productivity measures, as well as simple equity or capital employed productivity measures.
I have found that efficiency typically refers to inputs. As such, what most economists and business writers call "efficiency," and measure with dollars/input unit, I find more sensibly called "volume efficiency" and measured with units/input unit. How a firm efficiently produces a product or service may be understood irrespective of the market-provided value of that product or service. I find this leads to clearer appreciation of the production efficiency issues typically under consideration when discussing "efficiency."
For labor productivity, I prefer value added divided by the number of employees, as this does provide a valuation measure for an input. The same is true for operating efficiency, which measures the productivity of expense dollars in producing a dollar of net income.
After much thinking and wrestling with the terms I found at hand in 1996, it became clear that more terms were needed, not fewer.
And certainly not a perspective that equates "efficiency" and "effectiveness." Good Lord! Can you get any fuzzier than that?
By the way, as is this deliberate, or, more sadly, unrecognized obfuscation was not sufficient, the writer, Jack Hough, concluded with the comforting sentence, "As always, please remember that stock screens produce research lists, not buy lists." What the heck does that mean? I just wasted my time reading his piece, only to find he really doesn't believe anything he just wrote? That he wants to publish his "research," but for God's sake, don't use it to actually, you know, buy a stock! Just mull it over, and talk about it at your next weekend dinner party.
No wonder the public is better-served by just buying managed funds, rather than individual stocks. With "help" like this, can you blame them?
Wednesday, April 19, 2006
Wal-Mart: Further Insights on Retail Brand Repositioning
Given the recent pieces I've written regarding Wal-Mart, and the piece I wrote back in September, I thought I'd check my thinking with a friend who has vast retail experience.
I ran into Bob two days ago at the squash club. Bob is a retired retail executive and consultant. He's worked for many major retailers, as well as consulted them and others. Plus he's older than me, which I like, because he remembers things of which I am not even aware.
When I queried him about "the wheel of retailing," retailers moving upmarket, and Wal-Mart, he was guarded in his remarks. Essentially, he feels that a retailer may, if they move very slowly, creep upmarket. But he was much less optimistic about doing so in a consistently profitable manner.
As I expected, he dwelt on the omnipresent risks in such a strategy of losing one's original market segment, especially when the move is on economic dimensions, rather than on, say, pure style or even product niche. He nodded vigorously when I suggested that maybe Les Wexner's Limited was a better example of how to reach new customer segments, via added brands, rather than repositioning your current one.
So, after that discussion, and from even the past two days' news concerning Wal-Mart's fears regarding inventory management, gasoline prices, and sales growth, I still feel comfortable with my comments in September of last year. I do not believe Wal-Mart will be able to successfully reposition itself by moving upmarket and perform with consistent profitability and consistently superior returns for shareholders.
That's my expectation, and I'm sticking to it.
I ran into Bob two days ago at the squash club. Bob is a retired retail executive and consultant. He's worked for many major retailers, as well as consulted them and others. Plus he's older than me, which I like, because he remembers things of which I am not even aware.
When I queried him about "the wheel of retailing," retailers moving upmarket, and Wal-Mart, he was guarded in his remarks. Essentially, he feels that a retailer may, if they move very slowly, creep upmarket. But he was much less optimistic about doing so in a consistently profitable manner.
As I expected, he dwelt on the omnipresent risks in such a strategy of losing one's original market segment, especially when the move is on economic dimensions, rather than on, say, pure style or even product niche. He nodded vigorously when I suggested that maybe Les Wexner's Limited was a better example of how to reach new customer segments, via added brands, rather than repositioning your current one.
So, after that discussion, and from even the past two days' news concerning Wal-Mart's fears regarding inventory management, gasoline prices, and sales growth, I still feel comfortable with my comments in September of last year. I do not believe Wal-Mart will be able to successfully reposition itself by moving upmarket and perform with consistent profitability and consistently superior returns for shareholders.
That's my expectation, and I'm sticking to it.
Ayn Rand & CEO Compensation
The fever pitch of media frenzy concerning CEO compensation have brought a couple of new thoughts to my mind in the past day.
First, the entire topic has taken on a kind of Randian quality now. Witness yesterday's, and today's, prominent pieces in the Wall Street Journal focusing on Dr. William McGuire, CEO of the very successful UnitedHealth Group. Dr. McGuire is one of the few large-cap CEOs to have actually earned his considerable compensation, by consistently creating superior shareholder returns during his tenure. However, by yesterday afternoon, he was already giving an interview on CNBC, pointing out that he had recommended to his board that he and other senior executives have now earned 'enough,' and need no more options grants.
Does this not remind you of "Atlas Shrugged," wherein the masses enjoy the fruits of an inventive few, but demand to control how those value-creators are compensated? The WSJ article pinpointed the concern that, while many pay rising health care costs, the publicly-held UNG has chosen to pay, from its shareholders' pockets, very large amounts of compensation to Dr. McGuire for creating stunningly large amounts of shareholder value.
The nerve!!!!! That private individuals, in their role as common shareholders, should decide how to spend their own money! Can you imagine? Why, it smacks of....of..... capitalism!
It has crossed my mind frequently in the past few days that the obvious solution for this is going to be a marriage of successful companies and private equity. What if the masses, through political and regulatory intimidation, excessively constrain compensation for those who successfully perform the very difficult task of consistently earning superior total returns for large company shareholders? Would this not be an ideal situation for private equity owners to take such a firm out of public hands, compensate the CEO appropriately, and enjoy the subsequent shareholder returns split among fewer owners? Out of the public spotlight?
Ironically, the net result, taken to the extreme, could be fewer well-run firms left among public companies, thus denying "the masses" the opportunity to profit, as small shareholders in well-run large-cap firms. I do not think that is a healthy development for American capital markets, nor its economy in general. It strike me instead as a short-sighted, bone-headed move to encumber otherwise-competitive US corporations.
Why didn't the WSJ, in conjunction with some compensation 'experts,' instead spotlight the most over-compensated CEOs in the US, relative to the shareholder wealth they have created for the past 5-10 years? That is the real problem. Boards of underperforming companies which continue to pay their CEOs as if they are creating value, when they are not. But except for Alan Murray, in his column in today's WSJ, and in his appearance on CNBC, nobody else seems to really be focusing on this part of the problem.
Sadly, I'm afraid that Ayn Rand would be smiling at all this and nodding her head in understanding.
First, the entire topic has taken on a kind of Randian quality now. Witness yesterday's, and today's, prominent pieces in the Wall Street Journal focusing on Dr. William McGuire, CEO of the very successful UnitedHealth Group. Dr. McGuire is one of the few large-cap CEOs to have actually earned his considerable compensation, by consistently creating superior shareholder returns during his tenure. However, by yesterday afternoon, he was already giving an interview on CNBC, pointing out that he had recommended to his board that he and other senior executives have now earned 'enough,' and need no more options grants.
Does this not remind you of "Atlas Shrugged," wherein the masses enjoy the fruits of an inventive few, but demand to control how those value-creators are compensated? The WSJ article pinpointed the concern that, while many pay rising health care costs, the publicly-held UNG has chosen to pay, from its shareholders' pockets, very large amounts of compensation to Dr. McGuire for creating stunningly large amounts of shareholder value.
The nerve!!!!! That private individuals, in their role as common shareholders, should decide how to spend their own money! Can you imagine? Why, it smacks of....of..... capitalism!
It has crossed my mind frequently in the past few days that the obvious solution for this is going to be a marriage of successful companies and private equity. What if the masses, through political and regulatory intimidation, excessively constrain compensation for those who successfully perform the very difficult task of consistently earning superior total returns for large company shareholders? Would this not be an ideal situation for private equity owners to take such a firm out of public hands, compensate the CEO appropriately, and enjoy the subsequent shareholder returns split among fewer owners? Out of the public spotlight?
Ironically, the net result, taken to the extreme, could be fewer well-run firms left among public companies, thus denying "the masses" the opportunity to profit, as small shareholders in well-run large-cap firms. I do not think that is a healthy development for American capital markets, nor its economy in general. It strike me instead as a short-sighted, bone-headed move to encumber otherwise-competitive US corporations.
Why didn't the WSJ, in conjunction with some compensation 'experts,' instead spotlight the most over-compensated CEOs in the US, relative to the shareholder wealth they have created for the past 5-10 years? That is the real problem. Boards of underperforming companies which continue to pay their CEOs as if they are creating value, when they are not. But except for Alan Murray, in his column in today's WSJ, and in his appearance on CNBC, nobody else seems to really be focusing on this part of the problem.
Sadly, I'm afraid that Ayn Rand would be smiling at all this and nodding her head in understanding.
Tuesday, April 18, 2006
CEO Compensation- Again.....and again...
My partner was right. This topic just doesn't quit. This morning, CNBC coordinated with the Wall Street Journal to target the CEO of UnitedHealth Group, Bill McGuire. Dr. McGuire has commited the sin of having a board of directors who have now paid him options totalling in excess of $1.5 billion.
According to just the price charts alone, the company's stock has risen some 300% in the past five years, and has a current market value of $67.4 billion. By my reckoning, the company's market value was in the neighborhood of $20B five years ago, to account for the total return in the interim. Thus, it appears that Dr. McGuire led the firm to increase shareholder wealth by roughly a factor of 48 times the value of the options granted to him for said performance.
Not a bad deal for the shareholders, actually.
On CNBC this morning, they asserted that various UNG investors who had been interviewed held a range of opinions. Some, like me, felt McGuire had earned his compensation, and were happy to have had the opportunity to pay him for the performance. Others were outraged.
What was of more interest, though, was some of what the 'executive compensation' expert, invited on the program for this segment, had to report. Among founder-led firms, such as Dell and Microsoft, there is no single policy. Gates gets no stock, nor options. Michael Dell, on the other hand, receives options from his board.
I think this alone is very insightful. There simply is no "right" answer. But everyone agreed that the board was responsible and accountable for the compensation situation. The "expert" then went on to babble about more disclosure of options granted, rescinded, etc. It sounded like maybe the SEC has something afoot here.
Taking all this together, plus my earlier posts, I think the situation boils down to this.
1. Boards have created this mess by having retired CEOs, most of whom were probably overcompensated in their time, continue the tradition of overpaying the CEOs of the firms on whose boards they sit for similarly mediocre performance, i.e., it is a learned trait.
2. CEOs who consistently create superior returns for their shareholders deserve extraordinary compensation for their extraordinary performance.
3. CEOs who do not consistently create superior returns deserve modest fixed compensation. Their bonus compensation should definitely depend upon the superior shareholder returns they cause to occur. No superior returns, no wealthy CEOs.
4. Change takes time. Americans aren't particularly good at being patient. But, if one would give market forces a chance, and not rush to legislation, this "problem" of CEO (over)compensation should be self-correcting in not too long a time. I have suggested how this might happen here.
It reminds me of the mess that our politicians have created with Federal election campaign finance "reform." The more they have tinkered with it, the worse the problem has become. Had they simply opted for full disclosure of campaign financing to begin with, the whole matter would probably have been self-correcting there, too.
Sometimes, you have to let markets, even "information" markets, take a little time to work. But they do. Rushing them usually creates unintended consequences of significant proportions.
According to just the price charts alone, the company's stock has risen some 300% in the past five years, and has a current market value of $67.4 billion. By my reckoning, the company's market value was in the neighborhood of $20B five years ago, to account for the total return in the interim. Thus, it appears that Dr. McGuire led the firm to increase shareholder wealth by roughly a factor of 48 times the value of the options granted to him for said performance.
Not a bad deal for the shareholders, actually.
On CNBC this morning, they asserted that various UNG investors who had been interviewed held a range of opinions. Some, like me, felt McGuire had earned his compensation, and were happy to have had the opportunity to pay him for the performance. Others were outraged.
What was of more interest, though, was some of what the 'executive compensation' expert, invited on the program for this segment, had to report. Among founder-led firms, such as Dell and Microsoft, there is no single policy. Gates gets no stock, nor options. Michael Dell, on the other hand, receives options from his board.
I think this alone is very insightful. There simply is no "right" answer. But everyone agreed that the board was responsible and accountable for the compensation situation. The "expert" then went on to babble about more disclosure of options granted, rescinded, etc. It sounded like maybe the SEC has something afoot here.
Taking all this together, plus my earlier posts, I think the situation boils down to this.
1. Boards have created this mess by having retired CEOs, most of whom were probably overcompensated in their time, continue the tradition of overpaying the CEOs of the firms on whose boards they sit for similarly mediocre performance, i.e., it is a learned trait.
2. CEOs who consistently create superior returns for their shareholders deserve extraordinary compensation for their extraordinary performance.
3. CEOs who do not consistently create superior returns deserve modest fixed compensation. Their bonus compensation should definitely depend upon the superior shareholder returns they cause to occur. No superior returns, no wealthy CEOs.
4. Change takes time. Americans aren't particularly good at being patient. But, if one would give market forces a chance, and not rush to legislation, this "problem" of CEO (over)compensation should be self-correcting in not too long a time. I have suggested how this might happen here.
It reminds me of the mess that our politicians have created with Federal election campaign finance "reform." The more they have tinkered with it, the worse the problem has become. Had they simply opted for full disclosure of campaign financing to begin with, the whole matter would probably have been self-correcting there, too.
Sometimes, you have to let markets, even "information" markets, take a little time to work. But they do. Rushing them usually creates unintended consequences of significant proportions.
Wal-Mart: Consistently Superior Success or Failure ?
As I read yesterday's comment on my Wal-Mart post, it occurred to me to revisit my thoughts of last fall concerning the company.
When I read the two posts together, they portray me as perhaps a bit schizophrenic in my assessment of the company's fortunes. Back in September, I classified Wal-Mart as an aging and no-longer consistently superior performing retail giant which will probably not regain its luster. I noted that it has not been in my equity portfolio selections for many years. Yesterday, I referred to it as having usually outperformed the S&P during the last 25 years.
Some clarification is in order.
My proprietary research unearthed performance benchmarks which, when applied to large-cap companies, increased the probabilities that a given firm could outperform the S&P's total return consistently over a period of multiple years. The benchmarks differ for low-growth and high-growth firms. However, firms that would adhere to their respective operating benchmarks would have statistically significant increases in the likelihood that investors would reward such performance with consistently superior total returns, in the form of stock price increases.
When these insights are applied to the selection of equity portfolios, some adjustments must be made. A CEO may, or may not, adhere to my benchmarks, and still enjoy some periods of superior total returns. Further, whether or not the firm meets my investment criteria, it may still do better than the S&P over various periods.
However, as an investor, I need to use better quality criteria for portfolio construction than I would advise a CEO to use for actually running his company. This is because the CEO has some control, or at least influence, over his firm's operating characteristics and performance. Thus, the level of certainty of achieving the recommended operating benchmarks is probably higher for the CEO than for me as an investor. I don't have any control over the assets I own, whereas the CEO has control, via business strategies and resource allocation.
So a company, such as Wal-Mart, may, ex post, have outperformed the S&P for some years, yet still not, ex ante, have displayed investment quality performances that would have merited its inclusion in my equity portfolios.
Thus, as a business strategist and observer, I observe that Wal-Mart has created shareholder value at a superior rate, relative to the S&P, for most of the past 25 years. As a disciplined equity investor, however, I observe that the company's evolving performance characterisitics over the same time period did not warrant risking investment in the firm, relative to other opportunities in the S&P500, in order to construct portfolios which had significant likelihoods of consistently outperforming the same index.
I still doubt that Wal-Mart's new thrust to move upmarket with its retail brand will succeed. By "succeed," I mean consistently create superior total returns for shareholders over the next 5-10 years. The company may eventually move its brand franchise up the "wheel of retailing," but I believe the time and cost will not, in the end, have been warranted, relative to other strategic opportunities available to the firm. I wrote of these in my earlier piece.
This is not to say that I think it cannot occasionally realize better total returns than the S&P in the next few years. However, my guess is that its fundamental performance will continue to keep it out of my equity portfolios. Its current strategy is, in my opinion, unlikely to provide the performance consistencies which I have found to be the hallmarks of desirable investment opportunities among large-cap companies in the S&P500.
This is one of the conundrums of using the same shareholder return performance measure from inside a company, as opposed to an investor's perspective. The CEO may achieve above-average, though statistically unlikely, total return performances for a while, thus rewarding shareholders. But the chances of that occurring consistently may be so low as to make owning those shares too risky, from a disciplined investment process perspective. The CEO will have succeeded, and done well for some shareholders at certain times. But that does not mean, ex ante, it was an attractive stock to own.
When I read the two posts together, they portray me as perhaps a bit schizophrenic in my assessment of the company's fortunes. Back in September, I classified Wal-Mart as an aging and no-longer consistently superior performing retail giant which will probably not regain its luster. I noted that it has not been in my equity portfolio selections for many years. Yesterday, I referred to it as having usually outperformed the S&P during the last 25 years.
Some clarification is in order.
My proprietary research unearthed performance benchmarks which, when applied to large-cap companies, increased the probabilities that a given firm could outperform the S&P's total return consistently over a period of multiple years. The benchmarks differ for low-growth and high-growth firms. However, firms that would adhere to their respective operating benchmarks would have statistically significant increases in the likelihood that investors would reward such performance with consistently superior total returns, in the form of stock price increases.
When these insights are applied to the selection of equity portfolios, some adjustments must be made. A CEO may, or may not, adhere to my benchmarks, and still enjoy some periods of superior total returns. Further, whether or not the firm meets my investment criteria, it may still do better than the S&P over various periods.
However, as an investor, I need to use better quality criteria for portfolio construction than I would advise a CEO to use for actually running his company. This is because the CEO has some control, or at least influence, over his firm's operating characteristics and performance. Thus, the level of certainty of achieving the recommended operating benchmarks is probably higher for the CEO than for me as an investor. I don't have any control over the assets I own, whereas the CEO has control, via business strategies and resource allocation.
So a company, such as Wal-Mart, may, ex post, have outperformed the S&P for some years, yet still not, ex ante, have displayed investment quality performances that would have merited its inclusion in my equity portfolios.
Thus, as a business strategist and observer, I observe that Wal-Mart has created shareholder value at a superior rate, relative to the S&P, for most of the past 25 years. As a disciplined equity investor, however, I observe that the company's evolving performance characterisitics over the same time period did not warrant risking investment in the firm, relative to other opportunities in the S&P500, in order to construct portfolios which had significant likelihoods of consistently outperforming the same index.
I still doubt that Wal-Mart's new thrust to move upmarket with its retail brand will succeed. By "succeed," I mean consistently create superior total returns for shareholders over the next 5-10 years. The company may eventually move its brand franchise up the "wheel of retailing," but I believe the time and cost will not, in the end, have been warranted, relative to other strategic opportunities available to the firm. I wrote of these in my earlier piece.
This is not to say that I think it cannot occasionally realize better total returns than the S&P in the next few years. However, my guess is that its fundamental performance will continue to keep it out of my equity portfolios. Its current strategy is, in my opinion, unlikely to provide the performance consistencies which I have found to be the hallmarks of desirable investment opportunities among large-cap companies in the S&P500.
This is one of the conundrums of using the same shareholder return performance measure from inside a company, as opposed to an investor's perspective. The CEO may achieve above-average, though statistically unlikely, total return performances for a while, thus rewarding shareholders. But the chances of that occurring consistently may be so low as to make owning those shares too risky, from a disciplined investment process perspective. The CEO will have succeeded, and done well for some shareholders at certain times. But that does not mean, ex ante, it was an attractive stock to own.
Monday, April 17, 2006
Mediocrity, Discipline, & Long Term Performance
I've written recently of my insights on why corporations continue to exhibit so much mediocrity and inability to, it would seem, to learn from their experiences. My piece on Ford discussed why, even when the owner is still in control, consistently excellent performance remains a rarity.
On Friday, CNBC aired various reruns to fill time, as the markets were closed for the Good Friday holiday. One of these is their old standby, David Faber's program about Wal-Mart.
I have seen some of this piece before, as it is by now at least a year old. However, the portion which I viewed Friday left me awestruck. A former chairman of the firm, whose name I do not recall, related in an interview that the senior management of Wal-Mart "...wakes up everyday worrying about how the company is going to survive and continue to grow...." Seldom have I seen such a visceral statement of an attitude which must be present in a firm which has a chance at attaining consistently superior total returns for its shareholders.
Of course, no company can control all the variables which affect its success. In Wal-Mart's case, it appears that two things happened to cause this failure to continue its attainment of consistently superior total returns.
One has been, evidently, the ever-present "wheel of retailing" phenomenon, in which customers move up the retail ladder to more expensive, more service-intensive and better assortment-offering chains. In the middle of last year, as the business media began to grudgingly admit that maybe the US was in the midst of a continued low-inflation, solid expansion, concern began to arise that perhaps Wal-Mart's target market was leaving it behind and moving upscale.
The second challenge Wal-Mart has begun to face is, quite simply, the penalty for large-scale success in the US. Like IBM, CDC, Xerox, and Microsoft before it, to name but a few, Wal-Mart has drawn the ire of various consumer and governmental organizations. "Follow the money," as it were.
Nevertheless, it was refreshing to see interviews with former and current senior officers of a company that "gets it." That they can never become complacent, resting on their laurels. That they continue to manage and execute with discipline. Whether Wal-Mart's planned move upmarket into more fashionable goods will succeed (and I have argued here that it is unlikely to do so) or not, I give them credit for being hungry and concerned all the time. It's a trait a few other large US companies, such as Ford, GM and Time Warner, would do well to emulate.
On Friday, CNBC aired various reruns to fill time, as the markets were closed for the Good Friday holiday. One of these is their old standby, David Faber's program about Wal-Mart.
I have seen some of this piece before, as it is by now at least a year old. However, the portion which I viewed Friday left me awestruck. A former chairman of the firm, whose name I do not recall, related in an interview that the senior management of Wal-Mart "...wakes up everyday worrying about how the company is going to survive and continue to grow...." Seldom have I seen such a visceral statement of an attitude which must be present in a firm which has a chance at attaining consistently superior total returns for its shareholders.
The Faber piece also featured video clips of Wal-Mart's intensive focus on employee (yes, I know, "associate") training and the sharing of best practices. These people are nothing if not commited to learning from their mistakes, as well as their successes. When asked about some recent public gaffes, CEO Lee Scott freely admitted that, even in Wal-Mart, some managers are going to be "knuckle heads," and he could not control that. However, it was clear that the firm assiduously tries to minimize its mistakes, both in hiring and managing, as it moves forward in time.
This discipline shows in the company's performance history. While, like Ford, Wal-Mart has had periods of underperformance, over 25 years, they have pretty consistently outperformed the S&P500 index. For the past 5 years, they have only begun to experience a performance decline about 12 months ago.Of course, no company can control all the variables which affect its success. In Wal-Mart's case, it appears that two things happened to cause this failure to continue its attainment of consistently superior total returns.
One has been, evidently, the ever-present "wheel of retailing" phenomenon, in which customers move up the retail ladder to more expensive, more service-intensive and better assortment-offering chains. In the middle of last year, as the business media began to grudgingly admit that maybe the US was in the midst of a continued low-inflation, solid expansion, concern began to arise that perhaps Wal-Mart's target market was leaving it behind and moving upscale.
The second challenge Wal-Mart has begun to face is, quite simply, the penalty for large-scale success in the US. Like IBM, CDC, Xerox, and Microsoft before it, to name but a few, Wal-Mart has drawn the ire of various consumer and governmental organizations. "Follow the money," as it were.
Nevertheless, it was refreshing to see interviews with former and current senior officers of a company that "gets it." That they can never become complacent, resting on their laurels. That they continue to manage and execute with discipline. Whether Wal-Mart's planned move upmarket into more fashionable goods will succeed (and I have argued here that it is unlikely to do so) or not, I give them credit for being hungry and concerned all the time. It's a trait a few other large US companies, such as Ford, GM and Time Warner, would do well to emulate.
Sunday, April 16, 2006
HP Under Hurd Shows New Promise
First, let me apologize for incorrectly dating the announcement of Coca Cola's new board compensation policies. I was off by a week, as I read an older Wall Street Journal while catching up on back issues. Never the less, my post concerning this topic did precede my becoming aware of the change.
In another article from the WSJ pages of recent weeks, I read with great interest, and admiration, how Mark Hurd, late of NCR, now CEO at HP, is revamping the sales force.
What was of particular interest to me is the depth of focus Hurd is reported to have given to an issue that, allegedly, Carly Fiorina acknowledged, and failed to solve, on her multi-year watch at the helm of the ailing tech firm. Kudos to Hurd for quickly assessing the situation, diagnosing the problem, and, most importantly, ramming home changes in the sales organization to both trim unproductive middle-layers, and realign the function with the way HP markets to its customers.
This is the kind of CEO performance which, when effective, can be worth whatever price the shareholders pay for it. While I do not own HP, I genuinely hope Hurd successfully restores it to a high-revenue growth path, with consistently superior total returns following not far behind.
It gives me great satisfaction to see a company have the courage to oust an ineffective CEO, hire a new one, and have done a good job recruiting a new CEO who will actually fix the company's problems, rather than merely enjoy his lucrative new compensation package.
In another article from the WSJ pages of recent weeks, I read with great interest, and admiration, how Mark Hurd, late of NCR, now CEO at HP, is revamping the sales force.
What was of particular interest to me is the depth of focus Hurd is reported to have given to an issue that, allegedly, Carly Fiorina acknowledged, and failed to solve, on her multi-year watch at the helm of the ailing tech firm. Kudos to Hurd for quickly assessing the situation, diagnosing the problem, and, most importantly, ramming home changes in the sales organization to both trim unproductive middle-layers, and realign the function with the way HP markets to its customers.
This is the kind of CEO performance which, when effective, can be worth whatever price the shareholders pay for it. While I do not own HP, I genuinely hope Hurd successfully restores it to a high-revenue growth path, with consistently superior total returns following not far behind.
It gives me great satisfaction to see a company have the courage to oust an ineffective CEO, hire a new one, and have done a good job recruiting a new CEO who will actually fix the company's problems, rather than merely enjoy his lucrative new compensation package.
Thursday, April 13, 2006
Corporate Governance in a Liquid Market
My recent series of posts concerning CEO and board compensation, and corporate governance, has led me to a heretofore unrealized question. Is "corporate governance" a viable or relevant concept in our modern financial markets?
Generally, when I have read pieces on corporate governance, going back at least a decade, they typically assume, it seems, some long-term, faceless group of ever-present shareholders. Or, worse, a "stakeholder" group, only some of which are assumed to be shareholders. Thus, the perspective of these writings is usually more political in nature. By that I mean, they deal with corporate policy within the context of our socio-economic and governmental environments in the US.
However, it occurs to me that the existence of deep, liquid financial markets in the US, available at very low prices, changes this perspective radically.
What is the relevance of long-term "corporate governance," and the debates about how to affect it, when any disappointed shareholder can become a non-shareholder in a matter of seconds, for about $9/trade, at retail. For institutional investors, the cost is pennies per share.
Why does there need to be any debate over CEO compensation, board compensation, etc? If you, as an investor, don't like a company's policies, but its performance is superior, do you really care? If a company is a paragon of corporate governance excellence, but can't outperform the S&P500, are you still going to hold its shares?
It seems to me that an overlooked aspect of the corporate governance debate, and the debate over CEO compensation, is that the exit cost for even a small shareholder is de minimus. It's far easier to fix the problem by selling the shares than it is to attempt corporate "reform."
As I have noted elsewhere, it seems to me that some investors have an inability to accept their limits as investors in, rather than as employees or majority owners of a firm. To me, liquidity is a Godsend. If the companies whose stocks I own do not perform up to expectations, selling them is a trivial matter. What could be a better remedy than this?
To follow this logic, if many investors felt similarly, the stock of the company in question would fall. If this would not galvanize a board into action, what would?
As with many aspects of our relatively free-market economy, I suspect that, in the matter of excessive and inappropriate CEO compensation, and other board-originated problems, too, price signals are much more effective than any regulatory or political "solutions."
Generally, when I have read pieces on corporate governance, going back at least a decade, they typically assume, it seems, some long-term, faceless group of ever-present shareholders. Or, worse, a "stakeholder" group, only some of which are assumed to be shareholders. Thus, the perspective of these writings is usually more political in nature. By that I mean, they deal with corporate policy within the context of our socio-economic and governmental environments in the US.
However, it occurs to me that the existence of deep, liquid financial markets in the US, available at very low prices, changes this perspective radically.
What is the relevance of long-term "corporate governance," and the debates about how to affect it, when any disappointed shareholder can become a non-shareholder in a matter of seconds, for about $9/trade, at retail. For institutional investors, the cost is pennies per share.
Why does there need to be any debate over CEO compensation, board compensation, etc? If you, as an investor, don't like a company's policies, but its performance is superior, do you really care? If a company is a paragon of corporate governance excellence, but can't outperform the S&P500, are you still going to hold its shares?
It seems to me that an overlooked aspect of the corporate governance debate, and the debate over CEO compensation, is that the exit cost for even a small shareholder is de minimus. It's far easier to fix the problem by selling the shares than it is to attempt corporate "reform."
As I have noted elsewhere, it seems to me that some investors have an inability to accept their limits as investors in, rather than as employees or majority owners of a firm. To me, liquidity is a Godsend. If the companies whose stocks I own do not perform up to expectations, selling them is a trivial matter. What could be a better remedy than this?
To follow this logic, if many investors felt similarly, the stock of the company in question would fall. If this would not galvanize a board into action, what would?
As with many aspects of our relatively free-market economy, I suspect that, in the matter of excessive and inappropriate CEO compensation, and other board-originated problems, too, price signals are much more effective than any regulatory or political "solutions."
Coca Cola’s New Board Compensation Changes
In a feat of truly incredible timing, I wrote yesterday of some changes in corporate board requirements and management that I feel would have positive effects for shareholders. Incidentally, I believe such changes as I suggested may help curb the current epidemic of overpaid, underperforming CEOs. It was my intention to write next about how a company might transition from current common CEO and board compensation practices to those which I suggested. However, the recent Coca Cola announcement is too good to pass up as a topic for this piece.
Coca Cola has just announced, as reported in this morning’s Wall Street Journal, new board compensation policies aimed at placing directors in nearly the same position as the shareholders whom they are elected to represent. Henceforth, most of a Coke board member’s compensation will be dependent upon the fundamental operating performance of the company over several years.
This is a good start, but still woefully inadequate. Coke should have tied the directors’ compensation to total returns of the company’s stock, relative to that of the S&P500 for the same, multi-year time period.
For example, in a recent article in Business Week, entitled, “Blue Chip Blues,” the author alleges that
“…What exasperates the leaders of these corporations is that it seems there's little they can do about (it)…….delivering the earnings growth, but investors aren't responding. At work are forces largely beyond their control.”
If this is true, then Coke is targeting the wrong performance measure. However, regarding the BW article’s contention, I beg to disagree. A sizable portion of the valuation response of investors is, in fact, very much within the control of a CEO.
My proprietary research has shown, conclusively, that investors respond to long-term revenue growth more than simply to earnings growth alone. It’s up to the incredibly-well-compensated CEO to know this, and to figure out what performance will move his firm’s stock price. Then deliver that performance.
It is my contention that CEOs and board members should be compensated only for total return performance above that which investors could experience in an S&P500 Index fund.
Having discussed why total return performance is the relevant measure for shareholders to use for CEO and board member performance, rather than a fundamental target such as earnings growth, I wish to next return to the issue of whether “corporate governance”, per se, should be of concern to shareholders.
Coca Cola has just announced, as reported in this morning’s Wall Street Journal, new board compensation policies aimed at placing directors in nearly the same position as the shareholders whom they are elected to represent. Henceforth, most of a Coke board member’s compensation will be dependent upon the fundamental operating performance of the company over several years.
This is a good start, but still woefully inadequate. Coke should have tied the directors’ compensation to total returns of the company’s stock, relative to that of the S&P500 for the same, multi-year time period.
For example, in a recent article in Business Week, entitled, “Blue Chip Blues,” the author alleges that
“…What exasperates the leaders of these corporations is that it seems there's little they can do about (it)…….delivering the earnings growth, but investors aren't responding. At work are forces largely beyond their control.”
If this is true, then Coke is targeting the wrong performance measure. However, regarding the BW article’s contention, I beg to disagree. A sizable portion of the valuation response of investors is, in fact, very much within the control of a CEO.
My proprietary research has shown, conclusively, that investors respond to long-term revenue growth more than simply to earnings growth alone. It’s up to the incredibly-well-compensated CEO to know this, and to figure out what performance will move his firm’s stock price. Then deliver that performance.
It is my contention that CEOs and board members should be compensated only for total return performance above that which investors could experience in an S&P500 Index fund.
Having discussed why total return performance is the relevant measure for shareholders to use for CEO and board member performance, rather than a fundamental target such as earnings growth, I wish to next return to the issue of whether “corporate governance”, per se, should be of concern to shareholders.
Wednesday, April 12, 2006
The "Real" CEO Compensation Issue: Boards of Directors
As I reread my post on CEO compensation of the other day, it occurred to me that I am guilty of leaving you, the reader, hanging on an important aspect of this issue.
I attributed the mess to board members, particularly those on the compensation committees, but failed to suggest solutions for their actions. If it was not for their dereliction, on behalf of shareholders, more underperforming CEOs would be shown the exits, and shareholders would be better served. At least they would theoretically pay less for the underperformance they receive from a poorly-performing CEO.
So the question we should ask is, how do shareholders affect the recruitment, retention and behavior of board members, so that the boards behave effectively and responsibly in their oversight of the company and its CEO?
I doubt I'm going to solve this rather momentous question in one post on this blog. However, I intend to begin, as Einstein would call them, "thought experiments" on the subject. Chances are, musings about various solutions may uncover key attributes of what the solution should contain and "look like."
The overwhelmingly attractive alternative in my mind is to truly align the board members' interests with the shareholders, i.e., not stopping with doing so for the CEO, but extending this concept to his/her overseers. I would propose, and feel better about companies which, required board members to own and retain voting control of, some minimum number of shares or value of shares of the company. Today, it's a rare board member who is not already a retired CEO or a sitting senior executive or CEO of another firm. So, requiring someone to have a lot of money to be a director is really not such a major departure from current practices. About the only people it would weed out would be token appointments of unqualified, but politically acceptable directors, for public relations reasons.
This alternative makes being a board member into a rather interesting, and potentially lucrative, job. Someone could, in theory, borrow money to buy shares and run for a corporate board, intending to exercise effective oversight, in order to profit from the company's presumed increased total return.
It seems very clear to me, as I write this, that the major problem with today's corporate board structure is that it fails to require the board members to share the most important interest of the shareholders- personal financial gain or loss of a significant nature, based upon the firm's performance. In this regard, Ed Lampert's role in Sears and K Mart are a good example of expecting to make money by buying your way onto a board. In his case, he didn't stop with only "another" board seat, but became CEO.
If you think about it, the modern corporate form began in an era when most other company CEOs had contributed a significant amount to their own firm's success. Thus, filling a board with other CEOs usually meant recruiting active, successful talent on whom you could rely to know how to get superior performance from a company and its CEO.
Nowadays, though, with so much ineffectual overcompensation of underperforming CEOs, I suspect most boards are comprised of members who both have not actually demonstrated the success they are meant to foster on the board on which they serve, and who do not have a truly material interest in the success of the company in the first place. And the result is self-propagating. We see learned behavior of rewarding incompetence spread from company to company.
If a company actively publicized that its board was filled with people who met my qualifications, perhaps they would become a more attractive company to own, simply because the overseers of the CEO had the shareholders' interests as their own. And would, in time, cause better returns, which would reward shareholders appropriately.
So, at this point in my thinking, I believe that CEO compensation is simply an outgrowth of a deeper problem- incompetent, insensitive corporate boards. If board members had to own substantial amounts of a company's stock to serve, and, thus, profit, as a board member, I think the CEO compensation issue would resolve itself in short order.
My next piece on this topic will probably address how a company makes the transition from one with an ineffectual board, to the type of firm I am envisioning in this post. Perhaps a good case would be to imagine how one would transform GE from what it is now, to a truly well-run company. One which compensated its CEO appropriately for his performance, rather than rewarding him for consistent underperformance, as it now does?
I attributed the mess to board members, particularly those on the compensation committees, but failed to suggest solutions for their actions. If it was not for their dereliction, on behalf of shareholders, more underperforming CEOs would be shown the exits, and shareholders would be better served. At least they would theoretically pay less for the underperformance they receive from a poorly-performing CEO.
So the question we should ask is, how do shareholders affect the recruitment, retention and behavior of board members, so that the boards behave effectively and responsibly in their oversight of the company and its CEO?
I doubt I'm going to solve this rather momentous question in one post on this blog. However, I intend to begin, as Einstein would call them, "thought experiments" on the subject. Chances are, musings about various solutions may uncover key attributes of what the solution should contain and "look like."
The overwhelmingly attractive alternative in my mind is to truly align the board members' interests with the shareholders, i.e., not stopping with doing so for the CEO, but extending this concept to his/her overseers. I would propose, and feel better about companies which, required board members to own and retain voting control of, some minimum number of shares or value of shares of the company. Today, it's a rare board member who is not already a retired CEO or a sitting senior executive or CEO of another firm. So, requiring someone to have a lot of money to be a director is really not such a major departure from current practices. About the only people it would weed out would be token appointments of unqualified, but politically acceptable directors, for public relations reasons.
This alternative makes being a board member into a rather interesting, and potentially lucrative, job. Someone could, in theory, borrow money to buy shares and run for a corporate board, intending to exercise effective oversight, in order to profit from the company's presumed increased total return.
It seems very clear to me, as I write this, that the major problem with today's corporate board structure is that it fails to require the board members to share the most important interest of the shareholders- personal financial gain or loss of a significant nature, based upon the firm's performance. In this regard, Ed Lampert's role in Sears and K Mart are a good example of expecting to make money by buying your way onto a board. In his case, he didn't stop with only "another" board seat, but became CEO.
If you think about it, the modern corporate form began in an era when most other company CEOs had contributed a significant amount to their own firm's success. Thus, filling a board with other CEOs usually meant recruiting active, successful talent on whom you could rely to know how to get superior performance from a company and its CEO.
Nowadays, though, with so much ineffectual overcompensation of underperforming CEOs, I suspect most boards are comprised of members who both have not actually demonstrated the success they are meant to foster on the board on which they serve, and who do not have a truly material interest in the success of the company in the first place. And the result is self-propagating. We see learned behavior of rewarding incompetence spread from company to company.
If a company actively publicized that its board was filled with people who met my qualifications, perhaps they would become a more attractive company to own, simply because the overseers of the CEO had the shareholders' interests as their own. And would, in time, cause better returns, which would reward shareholders appropriately.
So, at this point in my thinking, I believe that CEO compensation is simply an outgrowth of a deeper problem- incompetent, insensitive corporate boards. If board members had to own substantial amounts of a company's stock to serve, and, thus, profit, as a board member, I think the CEO compensation issue would resolve itself in short order.
My next piece on this topic will probably address how a company makes the transition from one with an ineffectual board, to the type of firm I am envisioning in this post. Perhaps a good case would be to imagine how one would transform GE from what it is now, to a truly well-run company. One which compensated its CEO appropriately for his performance, rather than rewarding him for consistent underperformance, as it now does?
Tuesday, April 11, 2006
If Only It Were That Easy: CNBC Advises GM
CNBC has been running a special series this week, featuring their automotive sector reporter, Phil Lebeau. He has been providing the answers on how GM should build better cars "and" a better car company.
If this weren't so hysterically ridiculous, it would be merely good comedy.
I'm guessing at least half a dozen of the country's larger consulting firms- McKinsey, Bain, Accenture, Booz Allen, BCG, AT Kearny - are calling on Rick Wagoner to pitch their solutions. While I may not believe they can cure what ails GM, I'm pretty sure doing so involves more of what they will do than what Phil Lebeau is doing.
I can just imagine the producer(s) at CNBC huddling with the staff to discuss how to capitalize on GM's troubles....."and let's have Phil do some pieces on how they should get out of this mess. After all, he's our auto guy....."
If only it were that simple. Lebeau basically stands in Toyota factories and solemnly intones that GM should "be more like Toyota, which is doing GREAT!" He must know that what he is saying sounds superficial and silly. How can one lightweight, on air sector reporter really suggest that he can deliver the solution for GM in a few 3-minute blurbs?
Suffice to say, some consulting firms will be booking millions in fees before GM bites the dust, or staggers into some semblance of life as a much-shrunken vehicle assembler. It's not going to be because Rick Wagoner was watching CNBC this week.
I think it's pretty embarrassing for CNBC. It suggests that they aim so low in order to reach their audience's level of comprehension. Or, they simply are filling up air time because they have nothing better to offer. The truth is probably somewhere in between.
Either way, I think GM needs more than a news reporter telling them to make better cars with more cool features and fewer defects.
If this weren't so hysterically ridiculous, it would be merely good comedy.
I'm guessing at least half a dozen of the country's larger consulting firms- McKinsey, Bain, Accenture, Booz Allen, BCG, AT Kearny - are calling on Rick Wagoner to pitch their solutions. While I may not believe they can cure what ails GM, I'm pretty sure doing so involves more of what they will do than what Phil Lebeau is doing.
I can just imagine the producer(s) at CNBC huddling with the staff to discuss how to capitalize on GM's troubles....."and let's have Phil do some pieces on how they should get out of this mess. After all, he's our auto guy....."
If only it were that simple. Lebeau basically stands in Toyota factories and solemnly intones that GM should "be more like Toyota, which is doing GREAT!" He must know that what he is saying sounds superficial and silly. How can one lightweight, on air sector reporter really suggest that he can deliver the solution for GM in a few 3-minute blurbs?
Suffice to say, some consulting firms will be booking millions in fees before GM bites the dust, or staggers into some semblance of life as a much-shrunken vehicle assembler. It's not going to be because Rick Wagoner was watching CNBC this week.
I think it's pretty embarrassing for CNBC. It suggests that they aim so low in order to reach their audience's level of comprehension. Or, they simply are filling up air time because they have nothing better to offer. The truth is probably somewhere in between.
Either way, I think GM needs more than a news reporter telling them to make better cars with more cool features and fewer defects.
Sunday, April 09, 2006
Overpaid CEOs: Does It Really Matter?
Once again, the issue of CEO compensation is in the headlines. I wrote a piece on this topic here a few months ago. My feelings and thoughts have not changed. However, they have gotten a little more nuanced.
Rather than rewrite what you can read by following the link in the first paragraph, let me address a few aspects of the public outcry over this topic.
First, I do not think it is an appropriate matter for any type of legislative or governmental interference. These are publicly-held companies, with boards of directors and bylaws governing their behavior. The companies in question have stock listed on exchanges where a shareholder may easily dispose of his stake in the firm, if he dislikes the way the firm is managed or directed.
Second, I think this issues is moot for any firm whose total return performance has consistently exceeded or is exceeding the S&P500 index return for a period of five years. When a CEO delivers the goods, who cares how much he was paid? This type of performance is so rare that, if a CEO actually enriches his shareholders, continually, at an above-market rate, those shareholders should be thrilled to pay that CEO very handsomely.
Third, the "issue," as it exists, exists only for those companies whose total returns are either consistently below the index for 5 years or so, or inconsistenly not much different than the index. Simply put, why should anyone pay excessive amounts of compensation for the right to hold a single stock, with its attendant concentration risk, and earn no more than the market return?
But, even here, the culprits are not the CEO. No, the culprits are the board members- particularly the compensation committe members. These snoozing guardians of the corporate treasuries abet the "excessive CEO compensation crisis" by failing to set realistic and appropriate corporate total return requirements for the CEO to achieve in order to enrich himself. For more details, see my post on Jeff Immelt, the overpaid, underperforming CEO of GE.
Realistically, pragmatically, what is the average shareholder to do? Or even, for that matter, the average institutional fund manager to do? As I wrote on a related topic recently, it baffles me why any investor honestly thinks s/he can affect the behavior of a large corporation in which s/he owns shares. Or why s/he should even try. Does it not make more sense to simply sell shares of a poorly-run company, and buy shares of one whose performance, or prospective performance, you prefer?
Thus, my "final" answer is, I think the spotlight being shone on these overpaid loser CEOs is great. The Wall Street Journal's "CEO Compensation" section in yesterday's issue is about as good as it gets. Provide sunshine, full information, and let shareholders make their choice with their investment dollars.
After all, we want free, liquid, fully-informed markets and investors, right? Why should anyone be doing anything but applying the "disinfectant" of fully-disclosed performance and compensation information for the benefit of investors?
Followed to its logical conclusion, I suppose, in a perfect world, a company like, say, GE, which consistently overpays its CEO for poor performance, would see investors head for the exits, and its stock price and total return plunge. Then, ideally, that CEO would be dismissed, a la my prior post guidelines. And if the new CEO got things back on track, s/he would be amply rewarded, and investors would return to hold a consistently-superior performing stock.
So I stand by my earlier recommendations: handsomely reward performers, and fire the already-wealthy underperformers. Pay all the CEOs with less cash and more stock. Make them wealthy by leading a company to consistently-superior total return performance, and nothing less.
Rather than rewrite what you can read by following the link in the first paragraph, let me address a few aspects of the public outcry over this topic.
First, I do not think it is an appropriate matter for any type of legislative or governmental interference. These are publicly-held companies, with boards of directors and bylaws governing their behavior. The companies in question have stock listed on exchanges where a shareholder may easily dispose of his stake in the firm, if he dislikes the way the firm is managed or directed.
Second, I think this issues is moot for any firm whose total return performance has consistently exceeded or is exceeding the S&P500 index return for a period of five years. When a CEO delivers the goods, who cares how much he was paid? This type of performance is so rare that, if a CEO actually enriches his shareholders, continually, at an above-market rate, those shareholders should be thrilled to pay that CEO very handsomely.
Third, the "issue," as it exists, exists only for those companies whose total returns are either consistently below the index for 5 years or so, or inconsistenly not much different than the index. Simply put, why should anyone pay excessive amounts of compensation for the right to hold a single stock, with its attendant concentration risk, and earn no more than the market return?
But, even here, the culprits are not the CEO. No, the culprits are the board members- particularly the compensation committe members. These snoozing guardians of the corporate treasuries abet the "excessive CEO compensation crisis" by failing to set realistic and appropriate corporate total return requirements for the CEO to achieve in order to enrich himself. For more details, see my post on Jeff Immelt, the overpaid, underperforming CEO of GE.
Realistically, pragmatically, what is the average shareholder to do? Or even, for that matter, the average institutional fund manager to do? As I wrote on a related topic recently, it baffles me why any investor honestly thinks s/he can affect the behavior of a large corporation in which s/he owns shares. Or why s/he should even try. Does it not make more sense to simply sell shares of a poorly-run company, and buy shares of one whose performance, or prospective performance, you prefer?
Thus, my "final" answer is, I think the spotlight being shone on these overpaid loser CEOs is great. The Wall Street Journal's "CEO Compensation" section in yesterday's issue is about as good as it gets. Provide sunshine, full information, and let shareholders make their choice with their investment dollars.
After all, we want free, liquid, fully-informed markets and investors, right? Why should anyone be doing anything but applying the "disinfectant" of fully-disclosed performance and compensation information for the benefit of investors?
Followed to its logical conclusion, I suppose, in a perfect world, a company like, say, GE, which consistently overpays its CEO for poor performance, would see investors head for the exits, and its stock price and total return plunge. Then, ideally, that CEO would be dismissed, a la my prior post guidelines. And if the new CEO got things back on track, s/he would be amply rewarded, and investors would return to hold a consistently-superior performing stock.
So I stand by my earlier recommendations: handsomely reward performers, and fire the already-wealthy underperformers. Pay all the CEOs with less cash and more stock. Make them wealthy by leading a company to consistently-superior total return performance, and nothing less.
Friday, April 07, 2006
Ford: When The Founding Family Still Cares
Two news stories today concerning Ford caught my attention. The first concerned the departure of their President, Jim Padilla. He is credited with an earlier "turnaround" at Ford, but is stepping down now, and will not be replaced. The other story concerned Ford's pulling all of its professional golf-related advertising and promotion spending, to focus on another sport (the identity of which, frankly, has already passed from my mind).
These stories caused a flurry of discussion on CNBC's Squawkbox concerning Ford's current turnaround attempts. Hearing this, I pulled up a couple of stock performance charts for Ford and the S&P500 for the last 5 and 25 years, to ascertain the firm's total return consistency over those periods.
The recent 5 years look pretty ghastly, as I expected. Except for a brief period during 2003, the firm has underperformed the index throughout the period. For the entire timeframe, Ford underperformed the S&P500 by about 85 percentage points. It would appear to be a consistently inferior-performing firm for the last half-decade.
The picture for the past 25 years, however, is noticeably better. For the period from 1985-2000, Ford usually matched the index, and briefly outperformed it during 1986-1989. It also had a brief run of superior performance during the mid-1980s and early 1990s.
Taken together, the Ford situation leads me back to my earlier post about UAL, the preponderance of mediocre employees in many, if not most, large US companies, and long-term performance. How is it that so many firms lose competitive advantage, become complacent, and slip into mediocrity? Or worse, recent inferiority, as is the case with Ford.
It seems to me that a firm with the same name as the CEO's would be the least likely to suffer from a simple case of caretaker-CEO neglect. Ford has had a succession (although not unbroken) of family members running the company since its founding. If these guys are not motivated stay on top, and preserve their pride and fortune, who is?
I think the Ford performance picture shows us what is probably "natural" for an attentively-led firm. Even when the founding family is involved, a firm's fortunes wax and wane over time. Ford has had its periods of triumphs, such as the massive overhaul in the early 1980s. But even they became complacent, and by the early 1990s, had slipped in terms of total return performance.
By comparison, GM, for the same period, did much worse. On a percentage basis since roughly 1978, the S&P rose 1000%, Ford to near 250%, while GM slipped to a loss. Both companies reached a nadir of performance in the early 1980s, but whereas Ford took off to run with the index for most of 15-16 years, GM remained stuck with a nearly 0% total return for the entire period. Could this be the cost of disinterested, nameless CEOs paid handsomely, without risk, to run a large firm full of mediocre, dispassionate employees?
My hypothesis is precisely this. Left with a procession of bean-counters becoming well-paid CEOs, regardless of their successes or failures, GM has seen no performance cycles for over 20 years. Ford has.
Next, I'll offer some insights on why businesses seem to have to go through the same lessons and crises repeatedly, as we've seen in the cases of Ford and UAL.
These stories caused a flurry of discussion on CNBC's Squawkbox concerning Ford's current turnaround attempts. Hearing this, I pulled up a couple of stock performance charts for Ford and the S&P500 for the last 5 and 25 years, to ascertain the firm's total return consistency over those periods.
The recent 5 years look pretty ghastly, as I expected. Except for a brief period during 2003, the firm has underperformed the index throughout the period. For the entire timeframe, Ford underperformed the S&P500 by about 85 percentage points. It would appear to be a consistently inferior-performing firm for the last half-decade.
The picture for the past 25 years, however, is noticeably better. For the period from 1985-2000, Ford usually matched the index, and briefly outperformed it during 1986-1989. It also had a brief run of superior performance during the mid-1980s and early 1990s.
Taken together, the Ford situation leads me back to my earlier post about UAL, the preponderance of mediocre employees in many, if not most, large US companies, and long-term performance. How is it that so many firms lose competitive advantage, become complacent, and slip into mediocrity? Or worse, recent inferiority, as is the case with Ford.
It seems to me that a firm with the same name as the CEO's would be the least likely to suffer from a simple case of caretaker-CEO neglect. Ford has had a succession (although not unbroken) of family members running the company since its founding. If these guys are not motivated stay on top, and preserve their pride and fortune, who is?
I think the Ford performance picture shows us what is probably "natural" for an attentively-led firm. Even when the founding family is involved, a firm's fortunes wax and wane over time. Ford has had its periods of triumphs, such as the massive overhaul in the early 1980s. But even they became complacent, and by the early 1990s, had slipped in terms of total return performance.
By comparison, GM, for the same period, did much worse. On a percentage basis since roughly 1978, the S&P rose 1000%, Ford to near 250%, while GM slipped to a loss. Both companies reached a nadir of performance in the early 1980s, but whereas Ford took off to run with the index for most of 15-16 years, GM remained stuck with a nearly 0% total return for the entire period. Could this be the cost of disinterested, nameless CEOs paid handsomely, without risk, to run a large firm full of mediocre, dispassionate employees?
My hypothesis is precisely this. Left with a procession of bean-counters becoming well-paid CEOs, regardless of their successes or failures, GM has seen no performance cycles for over 20 years. Ford has.
Next, I'll offer some insights on why businesses seem to have to go through the same lessons and crises repeatedly, as we've seen in the cases of Ford and UAL.
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