The Globe and Mail

  High exec pay means we don't play


Friday, October 3, 2008

During the last few years, we Contra Guys have held a cash percentage on the sidelines that, in Yogiesque terms, was "higher than the average bear." And way more, of course, than virtually all of the bulls.

The point of this real-life exercise was to have lots of money available when the carnage hit. As we wrote in July 2005, we feared an upcoming "darkness." Welcome to the Twilight Zone, so to speak.

One harbinger of a company to avoid, and one we have railed about for years, is outrageous executive pay. Back in 2003, we opined it was an excellent reason to avoid Magna International, where chairman Frank Stronach received about $58 million in compensation. Based on a 40-hour work week, this translated to $28,000 or so per hour. Assuming he worked, ate, slept and lived the corporation 24 hours a day, including February 29, that number toned down to a mere $6,603 an hour.

Is anyone worth that? Not in our books. Ultimately, we concluded that the company, then cruising at $92, "could prove a mighty attractive play for short sellers." It did teeter after that and now is under $50. Magna is still unattractive to us.

In April 2007, we proclaimed, "Blackstone IPO defies logic." It appeared to us that the top management was cashing out at a huge excessive price and selling the possibility of good returns to the unsuspecting dupes. The $35 a share those marks paid is now worth less than $15 (U.S.). Short sellers also could have made out like bandits there.

It is interesting to note the companies that underwrote and profited from this latter deal: Citigroup and Morgan Stanley, with supporting roles to Credit Suisse, Deutsche Bank, Lehman Brothers and Merrill Lynch. Yes, very well-known names now, even to those who do not invest.

In situations like these, under our Point Tally System we subtract one point for companies where the interests of management and shareholders are not strictly aligned. Given that a score of 10 is needed for our dollars to be placed, losing 10 percent is quite a bit.

Given that executive compensation is front and centre, the question of what is reasonable also moves to the forefront. It's a tricky one, especially since the top brass of many organizations have been receiving salaries, bonuses, etc., that are ridiculous. How does one rein in the absurd?

Here is one solution, although it is unlikely that it will pass muster either in Canada or our southern neighbour: to create a more equitable system, link the highest income of a public corporation to the federal minimum wage. As of July, the minimum wage in the United States, where executive pay is more contemptible, was $6.55 (U.S.) an hour.

We suggest that a multiple of 100 be used, meaning the top brass can earn up to $655 an hour. Benefits and options, which many working at low wages can only dream of, should be capped at 10 percent of the salary. If an executive is fired, with or without cause, or is involved in a takeover where a golden parachute can take effect, we propose a maximum of four weeks' salary for every year the individual has worked with the corporation.

Of course, the question arises of how corporations will attract top talent for a wage that works out to about $1.5 million at the top end. Certainly, lots of qualified people would be willing to work for this salary. Plus, this would equalize the competitive ground to some degree; and, if someone wants to work for a public corporation, they will no longer be able to jump ship for a huge compensation increase at another. And quite frankly, looking at the carcasses and scarred remains of the various financial institutions, it is hard to argue that the excessive salaries were worthwhile.

Now, even amongst contrarians, there is not always agreement. While one of us believes that the above plan would ultimately reduce systemic risk, the other thinks that tying corporate salaries to the minimum wage would simply lead to corporations doing an end run around the regulations by inventing new ways to compensate management — as has been done in the past. He also holds that it would give private corporations an undeserved advantage over public ones. Ultimately, he opines, it is the duty of shareholders — the owners — to restrain excessive compensation.

Would the plan destroy the capitalist system? Not at all, given how tarred and feathered it already is. But yes, it would give it a more human face, curb some excess and create more egalitarianism, something that is definitely needed.

Certainly, such a system would expand the number of stocks that we might purchase, for our fear of the darkness has our money bags loaded to the point where we might easily triple the amount of money that the Contra the Heard portfolio has invested in stocks.

As the market moves into tax-loss selling season, we know that this year there will be way more stock dumping than usual. Plus, institutions will be forced to unload due to redemptions, and individuals will be selling to raise cash to cover debts. We'll be there, selectively cherry-picking the carnage, to beef up our portfolio.