I've saved the biggest compliance/risk issue for last because it exemplifies, influences, and even encompasses all the others. It is not an exaggeration to say that executive compensation is the most significant indicator and the most significant driver of enterprise risk.
CEO compensation is a critical element of our evaluation of board effectiveness at GMI. If the directors reward poor performance, that is what they will get. The key factor in the financial meltdown was that everyone at every stage from the mortgage originators to the derivative traders to the regulators was paid passed on the quantity of transactions, not the quality of transactions. The obvious consequence, as recognized only by the tiny group Michael Lewis wrote about in his brilliant book, The Big Short, was catastrophe.
We just issued a report on the biggest severance packages of the post-2000 era, with 21 CEOs who received "walk‐away" packages in excess of
$100 million. In total, the 21 CEOs received severance of almost $4 billion. Some of these CEOs had outstanding records of creating shareholder value - for which they were generously rewarded. Others "resigned" after failures or scandals. I support golden parachutes in theory, to give executives incentives to pursue business arrangements that are good for shareholders but perhaps not as good for their own careers. But these payments, including immediate vesting of options, cannot be justified.
Regulators like the Fed and the FDIC are increasingly looking at the structure of incentive compensation as a risk factor and I believe that it will soon be as routine an element of security analysis as cash flows. Companies that rely on compensation consultant-developed "peer group analysis" will have a higher cost of capital than those who recognize that every dollar spent on executive compensation must be assessed just like any other asset allocation, in terms of return on investment. Compensation committee members who are associated with excessive compensation, especially those who are repeat offenders, will be targeted by shareholders.
As we begin the second year of "say on pay" proxy proposals, compensation committees can reduce their exposure to shareholder protest by being careful to avoid some forms of pay that are particularly troubling. Pay plans that include the following are likely to be opposed by shareholders: a base of more than $1 million in salary, multiple cash incentives, pay that is all upside and little or no downside, too large of a gap between the CEO and the other named officers, gross-ups, corporate jet use, and more "all other" payments and perks, and metrics that are vague or overly discretionary.
As I bring to a close my week as a guest, I would like to thank Adam Turteltaub and Eric Newman for their encouragement and support and the whole network for your hospitality, comments, and questions. I hope you will stay in touch via Twitter @gmiratings and contact me any time I can be of help at firstname.lastname@example.org