July 03, 2002
From the desk of Jane Galt:My post on stock options
My post on stock options stirred up quite a hornet's nest.
First Robert Musil posted this excellent piece, pointing out the flaws in my suggestions for corporate governance, such as that a lengthy blackout periods (years, not months) before executives could sell their stock grants would once again dis-align the interests of management and shareholders, because a share that you are restricted from selling is not the same security as a liquid share. He's right, but as Mindles Dreck rejoinders, we aren't looking for the perfect compensation system, because honey, there ain't no such animal. We're looking for a better compensation system. And my personal feeling is that if management is too liquid, they are likely to divest in favor of a more diversified portfolio. This is the utterly rational course, and what I've been recommending for all of you out there with your 95% equity portfolios. However, the ostensible purpose of the stock grants is to give management a stake in the company, not turn them into billionaires -- unless they also turn some of their shareholders into billionaires at the same time.
(Many of you will now stop to tell me that if we don't turn them into billionaires, they'll go to some other company that will. You're missing the point. I'm not talking about the level of compensation; I'm talking about the type. From the point of view of shareholders, a stock grant that is rapidly sold is worse than just handing off a wad o' cash to their modern day Robin Hood, because the short term holding of company stock provides an apparently irresistable temptation to pump 'n dump. If you want to give them more cash, fine. But short-term stock holdings seem to me to be the worst of all possible schemes, short of handing the CEO some major chunks of physical plant to cart off and sell.)
Which brought me to email Mindles, who is in the money management biz, a related question: where the hell were the institutional investors?
Let me explain, for those of you who to whom this question seems somewhat random, why it is important.
The largest holdings by far in almost any company are institutional investors, with the exception of founder-operated firms, such as Oracle, and family operated firms, such as Ford, where voting control rests with the proprietors. Now, efficient market theory rests on the presumption that owners care what the managers of their firms do, and will take action against incompetent managers. However, in the modern corporation, ownership is very widespread, and most people with appropriately diversified portfolios have neither the time nor the inclination, nor the expertise, to watchdog the managers of all the companies they own.
They therefore expect to free-ride off the large investors, who are presumably doing their job, part of which is to make sure that the board protects the interests of the shareholders. Yet this wasn't happening. The boards at all of these companies were essentially extensions of the management, rubberstamping whatever the CEO and his merry band of marauders thought up. A quick look at Enron, for example, yields the revelation that the audit committee was mostly staffed by the members of the board least likely to know anything about accounting. Yet the institutional investors, who could have caught this, and would have caught it if they'd acted like owners instead of speculators, did nothing.
Mindles has some answers, but not as many as I'd like. And that's not criticism of Mindles -- if you aren't reading More Than Zero Sum every day, you should have your head examined. (Of course, some people go there for the cat pictures, but I read it for the articles. But I digress.) The point is, there's a serious failure in the system right now. The market for corporate governance seems to have gone horribly awry. And we don't know how to fix it.
Posted by Jane Galt at July 3, 2002 06:38 AM | TrackBack | Technorati inbound links