By Marilyn Barnewall
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One of the biggest business news stories of 1999 was when Hewlett-Packard Co. (HP) hired the very expensive Carly Fiorina away from Lucent Technologies. One of the biggest business news stories of 2005 may be what happened recently when Fiorina was fired.
She became one of the most visible and important corporate women in America. HP lured Fiorina away from Lucent with a very large salary, plus 1.5 million shares of company stock, plus a $3 million signing bonus. HP’s board made the classic mistake. They gave her everything up-front.
When Fiorina joined HP, her 1.5 million shares of stock was valued at $65.5 million. Since 1999 when she took over the corporate reins, the stock’s value has dropped by 66 percent… for everyone.
According to reports, Fiorina’s severance package from HP totals $21.1 million.
It is true that the stock market entered a slump in early 2000, but that is not an excuse for HP’s lost profits. During the same time frame, Apple Computer’s stock rose by almost 400 percent.
It had nothing to do with being a woman CEO… Meg Whitman, CEO of eBay has consistently increased her company’s profits. In the first quarter 2004, eBay’s revenues doubled to $85 million. When Whitman took over at eBay (three years earlier), the company had $6 million in annual revenues.
There are a lot of poster children that exemplify good examples of why executive compensation should be linked to performance. Bernard Ebbers, was a former milkman in Edmonton, Alberta, Canada. When he was ousted from his executive spot at Worldcom in April 2002, he owed the company $400 million in loans.
According to The New York Times, CEOs at average American companies received $9.2 million in total compensation in 2003. It is ridiculous. Even if these companies were producing profits worthy of that kind of investment (and they are not),one person is not worth that much.
Whatever happened to the 1993 law passed by Congress that limited the corporate tax deduction for executive compensation in publicly owned companies to $1 million per executive? An exception is made if an increase in compensation is directly tied to identifiable performance (like profits). This determination must be made by an independent compensation committee made up of “outside directors.”
Like most tax laws that apply to big business, this one has a loophole. The definition of “outside directors” is pretty loose.
The enforcement of this law was left up to the Internal Revenue Service (IRS) which is evidently too busy hunting down working people to be bothered with these multi-billion dollar potential infractions of tax laws.
People always ask why such large stock option amounts are such a large percentage of executive compensation packages. One reason is that the above-mentioned tax law allows companies to deduct CEO stock option grants but not salaries over $1 million. Today it is not unusual for stock options to make up two-thirds of a CEO’s pay. Even then, few stock option grants are tied to specific company profit performance.
Wow. What an accidental oversight by the Congress!
Nothing has really been done to change the motivation big corporations have to offer stock options rather than giant salaries… and the motivation involves big bucks. For example, the 1.5 million shares made available to Fiorina (worth $65.5 million in 1999) do not really become a liability to the company until exercised by the executive (who may, or may not, exercise them).
Publicly-traded companies do not have to notify stockholders of the liability involving stock that has been optioned. They do not have to carry unexercised stock options on their books as a liability.
If a company’s stock sells at $100 a share and they option to me 1.5 million shares at an exercise price of $50, the cost to the company is $75 million. For those who are unfamiliar with stock options, that is how they generally work. Stock is not given at no charge to executives. There is a cost… but a steeply discounted cost. This is an exaggerated example to make a point, but the $75 million is a rather large liability that does not have to be disclosed to investors until the options are exercised.
In some cases, the company loans the amount required to buy the stock options. Perhaps that is how Bernard Ebbers ended up owing Worldcom $400 million?
One of my personal investment rules: Find out when a company ties executive compensation to specific performance. If not, the board is not careful enough with corporate funds for me to invest mine.
Marilyn Barnewall, in 1978, was the first female to be named vice president in charge of a major loan and deposit portfolio at Denver’s largest bank. She started the nation’s first private bank, resigned to start her own firm and consulted for banks of all sizes in America and other countries. In June 1992, Forbes dubbed Barnewall “the dean of American private banking.” Author of several banking texts, she has written extensively for the American Banker, Bank Marketing Magazine, and was U.S. consulting editor for Private Banker International (Lafferty Publications, London/Dublin). Article originally appeared in the Grand Junction Free Press. Marilyn can be reached at [email protected].
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