Bailout Plan Must Include Corporate Governance Changes

With the shocking collapse of multiple banks and financial institutions in recent months and staggering losses to shareholders, Congress clearly needs to forge a bailout package to stall the economy from further downward spiral.

In my view, the primary factor that got us into this mess is the egregious mismanagement and short-sightedness of boards and CEOs of these institutions, who took inordinate and leveraged risks with stockholders money, not simply external factors like the housing market slump.

Business cycles happen. Obviously, responsible managements should have planned for this possibility and not blindly invested in subprime mortgages and other toxic instruments.

Unfortunately this has been a disaster for shareholders, many of which are pension funds for working people. These shareholders are paying for the mistakes, while managements are leaving with huge bonuses, such as the $2.5 billion package for Lehman executives after the bank collapsed.

I have long maintained that there are too many laws in this country that protect inept managements and don’t give stockholders enough power to throw out these managers. The banking industry is a prime example.

The bailout is one answer. But perhaps the most important solution is to bring private money into these institutions. We need to have management accountability to induce private money to come into the financial industry.

The U.S. Federal Reserve recently relaxed bank ownership rules to allow an investor to buy up to 15 percent voting stake in a financial institution, up from 9.9 percent. In certain circumstances, an investor could have up to two seats on a bank’s board.

These are baby steps in the right direction, but they won’t do enough to attract enough private money that the industry desperately needs during this crisis.

Private equity and hedge funds control hundreds of billions of dollars and many, including Carlyle Group and JC Flowers, have stated that are interested in investing more heavily in the financial services industry.

But now that top buyout fund TPG likely lost $1.35 billion in its minority investment in the failed Washington Mutual, many will be understandably reluctant to pour money in unless laws are changed to allow for more control over their investment.

The financial services industry has historically been one of the most profitable investment sectors. If laws were changed to allow for more private investment and management changes, the sector can be nursed back to health, backstopped by government funds.

Democrats and Republicans alike were right to challenge Treasury Secretary Hank Paulson’s sweeping $700 billion plan to buy the toxic debt of financial institutions – mainly because it contained no provisions to make managements accountable for their mistakes.

If private equity money were allowed to invest more heavily in financial institutions and manage them, they would be better able to value the illiquid assets that got them in trouble to begin with.

The Paulson plan will likely go through in some form, but legislators are right to demand provisions that would allow oversight and review of the Treasury’s action for this kind of taxpayer money.

Importantly, lawmakers should pass enhanced "clawback" provisions that allow for the recovery of CEO bonuses, as well as restrictions on executive compensation for firms that sell their assets to the government.

In my view, there is nothing more egregious than a CEO or other top executive getting multi-million dollar payouts after the company they were overseeing goes under.

This certainly applies to Stan O'Neal, who left Merrill Lynch as CEO last October with about $130 million in stock grants and options at a time when Merrill was deeply involved in the mortgage-backed securities market. The firm took billions of dollars in losses as a result, prompting its sale to Bank of America.

Before the U.S. taxpayer pays a dime to Merrill and Bank of America to buy its junk loans and derivatives, it should explore whether it can take back egregious compensation packages paid to current and former top executives.

That should also apply for any other bank participating in the program, including Citigroup’s former CEO Chuck Prince, Bear Stearns' Jimmy Cayne, Lehman’s current CEO Dick Fuld and all the others.

The hapless taxpayer should not be punished for the mistakes that drove these financial institutions off a cliff.

This clawback should also apply to Lehman, which set aside some $2.5 billion to pay bonuses to top executives of the firm, the bulk of which is being sold to Barclays. Again, they shouldn’t get these bonuses if taxpayers are forced to buy their toxic assets.

Similarly, the government must have the right to take substantial equity stakes in companies that participate in the loan buyout program and demand transparency on the part of the Fed so taxpayers can know what they hold, where the assets were purchased and for what price.

This kind of transparency is essential if the program is to achieve its objectives in reviving the debt market and not simply rewarding incompetent managements.

We live in a capitalist, free-market economy. There must be accountability at companies, especially those seeking public aid to discourage further raids on the Treasury. It is the only way our system will survive.

Comments

[Alex - San Pedro, CA]

Mr. Icahn, You could not have said it better. Have you started a petition that constituents can put forth and present to our representatives? Individual shareholders, pension funds, mutual fund companies, and other corporate stakeholders need to stand up and demand that this ridiculous pattern of rewarding subpar performance, reckless and negligent practices of executives and boards stops. The cronyism between executives and the boards must stop. Both have their greedy little hands in the corporate cookie jar. Who is watching the cookies, while the cabinet is stripped bare? Where are the checks and balances?

[David]

Well said.

[Jeffrey Staller]

Mr. Icahn,

Again I couldn't agree more with your philosophies regarding executive compensation and moreover regarding the financial sector accepting private money. If you yourself were able to buy a substantial stake in one of the declining banks minus the toxic subprime mess, a businessman such as yourself could turn it around. Nevermind the current executives acquiring $100+ million compensation packages for running these businesses into the ground, get some businessmen on the boards of these banks and lets turn the financial system around ourselves. If the government decides to get smart about things and you find yourself in leadership at a financial institution, I am always here to help out. :-)

[Dave]

There is obviously a necessity to limit publicly held company board rooms from the protection given within to their 'frat' buddies in high places.

The stock holders are nothing more than the 'laughing stocks' of the fraternity as board members, and upper management maintain rich lifestyles while employees, and stock holders witness the routine in awe.

The proposal for the bailout facilitates these frat buddies, and friends in high places. It is absolutely necessary as you point out to remove the protection, and protect the stock holders in the future.

It is not only the publicly owned financials that require this legislation. Other sectors require the same legislation as many become intertwined, and dependent on each other. The circle of 'frat' protection grows between companies. No stock holders allowed.

I am employed with a retailer who is the victim of just such board room protection. Their stock was at 50+ in January, 2007. Probably over priced then, and possibly now at $11+.

They have become somehow intertwined with Lehman, and have filed a document with Lehman for an unknown reason to me but, relates with the current economic climate.

I have often hoped that Mr. Icahn would rock the board I live with, as their desire for profitability rests primarily on only two or three items out of thousands. Our CEO has rocked another publicly held company in to private ownership prior to setting up shop in his current location.

Any legislation to give the stock holder more rights should apply beyond the current crisis and to all sectors of publicly held companies.

The only way to prevent this from happening again, is to prevent all publicly held 'frat rooms' from operating without stock holder consent.

Appreciate your continued efforts toward this effort. It does mean a lot to the common stock holder, and the employees to a great degree.

[Sonya]

I agree 100%...but I will also add that Gramm Leach Bliley (GLBA) tore down the risk barriers by allowing large banking organizations to assume unacceptable levels of credit, market, and operational risk through M&A activity. It is now evident, particularly in the credit markets, that these risks are now negatively gearing. As an equity trader (sell-side) who has worked within LBOs, I can say more stringent risk management is necessary and even though GLBA seemed like a great idea in 1999, I'm not so sure anymore.

[Trent]

I totally agree. It is truly a pleasure to see (as in past era's when our country was being challenged) that you have chosen to be the one for this era in our country's history. Our country's economic, industrial and educational fabric has always been country first and the improvement of American's way of life. Our allegiance to the flag allowed us (spite our differences) to look for common ground and negotiate prudent legislation, contracts, taxes, business practices, social welfare, etc. Somewhere along the way we have declared war on ourselves (Americans vs. Americans) by not considering the small investor, 401ks, servant leadership, integrity of representation, brother's keeper social concepts and honor among men. This internal war has made us selfish toward ourselves, thieves, cowards, CEO's that come into the job looking for the exit door vs. their responsibility to service/their employees, but the structure was manifested through our lack of educational processes that promoted a lack of ethical decision making.

We teach our potential leaders of the world, companies, government, etc. to learn how to disconnect with the tough choices. Most often that relates to people; how can we become better as a people when we teach to disconnect with others at all cost in business? We must end this War on Americans by Americans and restore trust in the above mentioned entities that made other countries admire our history. Just imagine what we're teaching our children, what we're forcing them to become. I don't think we'll be very proud of ourselves when history is written. The weapon of mass destruction is on our land not abroad. What motivated us to become so selfish toward one another to disconnect? That's the root cause behind the war. I really appreciate your leadership and voice on this matter because you are well respected by individuals that can change the tide of our corporate metrics of performance and educational institutions. The weapons of mass destruction is our mindset of appropriate business practices.

(Ignorance, Greed, Hate, Lack of Respect/Compassion for the Common Man, Lack of Integrity, Ethical Decision Making, Lack of Solid Education Systems, Lack of Service, just to name a few)

We must declare a TRUCE to this WAR of Americans against Americans.....Too many of us are motivated toward at what we have to Gain rather what we have to LOSE (Cost of our business direction). Who will care for our Children? They are acting just like us! Imagine that?

Thanks MR. ICAHN,
I hope your mission statements have success!

[KENT OWENS]

Mr. Icahn you are on target with your comments about the bail-out, I hope your voice is heard.
Honestly Sir I have not been a fan of yours because as a St. Louisan you took TWA from us but you have mellowed so have I . As a 76 year old, not financially smart but looking for investment help can you suggest a good newsletter to subscribe to so I can become a better investor, Sincerely, Kent Owens.

[Greg S]

You are so correct. What of the thought that Mr. Fishman can "run" WaMu for 17 days and walk away with #13.5mm? Did they think if they offered him $7mm as a signing and NO "your fired" bonus he would NOT have taken the job, of course he would, it should be a bonus if he can get the bank out or receivership or sold for real money. This will not go over well as it happens as the gov't is arguing the bailout bill...it should be addressed and I'm sure it will. What a fiasco.

[Dave R]

Interesting analysis of the corporate governance aspect of the plan; I quote you in my blog post: Just Say No to the Bailout Plan; I've come across lots of other reasons why this plan is a bad deal for the American taxpayer.

I posted earlier in the year on corporate governance, would be interested in any additional insights you would have on that topic.

Dave
http://www.islandersoftware.com/weblog/2008/09/27/just-say-no-to-the-bailout-plan/
http://www.islandersoftware.com/weblog/2008/08/25/corporate-governance-insights/

[DomainDiva]

Accountability and responsibility by the major players are assumed in a de-regulated environment. This is not always the case.

Perhaps reading the book, "Moral Intelligence, Enhancing Business Performance & Leadership Success by Doug Lennick & Fred Kiel, Ph.D." may serve to teach future generations that it really is a 'one another' world and that true leadership is much more than than enhancing a personal checking account.

[Robert R. Zellers Sr.]

I feel it is about time to break up the good old boy network in this country and put these guys in jail instead of in a mansion. These people have been ripping off the investors in this country for the last 20 or so years. Starting with the Reagan era and lasting til this day. When are these politicians going to start working for the people instead of for the special interests in this country?
I say it is time for a clean sweep of government in this country. Limit terms, strip or reduce the benefits that they get for ruining our economy. These guys get lifetime benefits for doing nothing to get this economy running in the right direction.

[SG]

These bailouts are highly inflationary. The government is buying these assets only to write them down to zero at some point.

This reckless money printing will only drive the dollar lower and commodity prices much much higher. Gold and oil prices have already put in significant bottom and are headed much higher.

In 1980, a barrel of oil in Zimbabwe cost 20 Zimbabwe dollars. That same exact barrel of oil today costs $3 TRILLION in the original currency.

The end result will be less disposable income to service mortgage, credit card, auto and student loan debt. THIS WILL ONLY SERVE TO DRIVE UNEMPLOYMENT MUCH HIGHER and there will be MORE people that will default on their mortgage.

The monetization of 700 billion of mortgages is only the first step. Lets not forget about the 5 trillion of debt owed by FNM/FRE that will also be monetized as the economy worsens.

A RUN ON THE US DOLLAR is a forgone conclusion,especially if interest rates start to rise. Similar to the spike in commercial paper rates for GS and MS paper last week, we are likely to see a spike in US T-bill rates.

Study the currencies and stock-markets Thailand, Korea, and Russia in 1998 and Argentina in 2001 and the endgame for the US becomes abundantly clear.

[Phil Goldstein]

You are absuloutely right.

The 800-pound gorilla in the room is the boards of these failed companies. The problem is state laws that allow them to exercise control over vast aggregations of other people's money with little fear of legal reprisals or of being ousted by the stockholders.

As Adam Smith said in 1776 in The Wealth of Nations, "The directors of [corporations] being the managers rather of other people’s money than of their own will not watch over it with the same anxious vigilance with which the partners in a private copartnery frequently watch over their own. Negligence and profusion therefore must always prevail in such a company." He added: "No other sovereigns ever were, or from the nature of things, ever could be, so perfectly indifferent about the happiness or misery of their subjects as the proprietors of such a mercantile company are, and necessarily must be."

A system that concentrates so much power in one governing body while simultaneously shielding its members from liability is a breeding ground for corruption and negligence. As Lord Acton observed, “Power tends to corrupt and absolute power corrupts absolutely.”

There is clearly a race to the bottom in state corporate law. Why are the directors of Fannie Mae, Lehman etc. still there? If directors continue to enjoy immunity from the business judgment rule they at least need to be held accountable by shareholders when they make bad decisions.

I see two possible solutions: a federal corporate law or a North Dakota-type shareholder friendly state law that applies to any corporation that has shareholders in that state. That state law would apply to corporations regardless of where they are registered. There is precedent for this. A New York State law requires companies that do business in New York to provide a shareholder list to any NY shareholder that requests it -- regardless of where the corporation is officially domiciled.

[Brett S]

Rahm Emanuel put it very eloquently when he said “…an ideology run amok…” has caused this problem. An accident waiting to happen long before 9/11. The unregulated explosion of the derivatives market has finally come home to roost.

With great respect to you sir, our “free market” capitalist system is largely license for those with excessive greed to change our world forever, and for the worse. It’s dangerous enough to allow 12 times leverage, let alone the insanity of 40 times. Strange that there US banks doing very well, and have provided solid yearly returns on 3 times leverage. The whole notion of fractional banking has to be looked at, and regulated, to save ourselves from ourselves, so to speak!

[Tom]

Communism-

As a political movement, communism sought to overthrow capitalism through a workers’ revolution and establish a system in which property is owned by the community as a whole rather than by individuals. In theory, communism would create a classless society of abundance and freedom, in which all people enjoy equal social and economic status. In practice, communist regimes have taken the form of coercive, authoritarian governments that cared little for the plight of the working class and sought above all else to preserve their own hold on power.

[Dan]

Mr. Icahn,

I first would like to say I very much enjoy your blog and appreciate your advocacy for the little guy. Any move to increase transparency of corporate boards and their responsiveness to shareholder concerns rather than the concerns of the CEO's wallet is a welcome benefit to all.

I wonder if there is any correlation to the decline of unions and exploding CEO pay. While I am generally opposed to unions (they decrease labor mobility and skew Capital/Labor investments inefficiently), I think a corporation would be in a disadvantageous position in contract negotiations if the executives of said corporation were receiving outsized pay.

For instance Lehman setting aside $2.5 billion for bonuses (disregarding their current financial straits) would lead to union membership seeking a generous compensation package in a following negotiation, leading to labor disruptions or ceding to union demands. Awarding a generous union contract or a strike could negatively affect the company, which in turn reflects poorly on top management. Thus an incentive is created for management to limit their own pay in the short term to avoid long term damage, the union and top management need to meet in the middle and shareholders are left holding the bag or more likely union and management agree to a more market friendly compensation package and shareholders benefit vs. the current situation.

Please, Keep up the Excellent Work!
Thanks,
Dan

[Cangrande]

Right on Carl, now that the senate has passed the 'bill' in it's most recent form, the need for good corporate governance is without question. Thank you for your commentary.

[Marc]

It is high time the $2.5 billion bonus accrued immediately prior to the Lehman bankruptcy is accorded the scrutiny it so richly deserves. Whether or not government funds are utilized to soften the crush of Lehman's Chapter filing, I was appalled by the cash-grab manipulated by Mr. Fuld and his subordinates. This is a perfect occasion to "grab-back" a bonus which, in addition to never having been earned, underscores precisely the brazen attitudes of interlocked directors and those CEOs who pull their strings.

[Brandon]

There are alot of issues I have with the markets and "the bailout" right now. Ive done alot of good reading on the subject. Most of the reading has been from one site but it has alot of important information and stats on it. The first thing I want to share is on the bailouts and some of the reasons we arent seeing a boost from them. Here is the information http://www.gotoguy.com/?p=368 . Today we closed under 10,000 for the first time in years and thats scary. These are the reasons why this is happening. http://www.gotoguy.com/?p=402 . Good luck to everyone, we all need it right now!

[fred sardella]

T.Boone in 1986 started a United Shareholders of America, it appears.

He should join you.

Maybe United Shareholder/OWNERS of American would drive home the point of just who it is who owns the businesses.

Good Luck Carl. I will help if possible.

[Sam]

I became aware of your blog while listening to you on CNBC today. Well done! Well said with respect to the need for corporate governance changes. I joined United Shareholders of America and hope you gather enough support where it can make a difference as change in making CEOs much more accountable to their stockholders money is desperately needed. Hopefully the future metrics for accountability are clear as well as the consequences. Sarbanes-Oxley is joke! If in 2002 it was properly designed to align with its purpose we probably wouldn’t be in the mess we are currently in.

[Anthony D'Ambrosia]

I've been a business application programmer for over 18 years. Every company I've ever worked for (except one) had a pay for performance compensation process. If you made mistakes in your work, were difficult to work with, were always late or took extra long lunches without making up the time - when it came time for compensation adjustments you wouldn't get a raise and in most cases you were terminated.

Management expects high performance from their employees. Employees & shareholders should expect high performance from management and executives. Lets face it, if CEO's and board members screw up it's the employees who get hit with a layoff and it's the shareholders who lose money. While the poorly performed responsibilites of CEO's, board members and other executives continue to make millions.

These people need to be held responsible. They are stealing our money and it really pisses me off.

[anthony comi]

Cronyism, Buddyism etc. We've seen it all before.
How can we as Americans, the small investor, the working class upon whose backs this country has been built and defended not revolt and revile our government leaders. The process of cronyism begins there and is nourished along the way right down to the executive suites and boards.
Government and puny oversight which allows investors to only express their feelings is nothing more than a dike with a hole. This non-accountability needs Truman-esque leadership...The Buck Stops Here!!
Wake up Congress! Wake up Public Corporations!
The clarion call for your inaction is growing daily and our silence will be deafening.

Thank you for the opportunity to join your blog.

[Richard Rappa]

When compensation committees are comprised of other corporate executives, it's no wonder that there is an ever escalating level of salaries and perks. The foxes are guarding the chicken coupe. Make these committee meetings public and reqire them to justify and be liable to the shareholders for their decisions.

[Marsha Harris Scott]

Mr. Icahn...what exactly, would you have done with the likes of a Dick Fuld in one of your companies?