The Hindu Business Line : Kleptocracy in corporate world

Mobuto Sese Seko was a classic kleptocrat. Inheriting a country that had already been ravaged by Leopold II of Belgium, he rose to the occasion and behaved like his predecessor. Mobuto is estimated to have stolen about $5 billion (Rs 22,500 crore) from his country, Congo, leaving it in shambles. Other kleptocrats did much better, both for themselves and for their country. President Suharto, of Indonesia, is believed to have pocketed at least $ 15 billion (Rs 67,500 crore) for himself and his family, but he also oversaw rapid economic growth and his country was hailed around the world as a `tiger' economy worthy of emulation.

Corporate America

Guess who has been emulating Mobutu and Suharto? Corporate America.The CEOs have replicated that behaviour in the companies they manage. There are those who run their companies into the ground and line their pockets in the process, and others who do well for their company and feel justified taking a generous share for themselves. The common pre-requisite is just having the power to do so. The latest round of executive pay disclosures of top management give evidence of both models.

Let's look at the more benign Suharto model first.

Individuals at top firms such as Morgan Stanley, Goldman Sachs, and Merrill Lynch have received compensation for 2006 of sums such as $ 20-30 million each (Rs 90-135 crore). Salary increases of 40 per cent over the previous year are considered justified in their circles since the profit of the companies they run increased significantly, some as high as 50 per cent. The argument goes that their superior management skills resulted in such performance and therefore the leaders deserve such compensation.

The alternative model

Mr Bob Nardelli of Home Depot decided to follow the alternative model of Mobutu. Nardelli quit (was sacked?) at the beginning of this year with a severance pay of about $210 million (Rs 945 crore). During the six years he headed the company, a retailer of home repair and improvement goods, he collected about $24 million (Rs 108 crore) as annual compensation. The stock price even dropped during the years he was in charge but that did not seem to matter. Another company, EMC Corporation's stock price hardly budged during 2005 yet its chief executive received $26 million (Rs 117 crore) in compensation. United for a Fair Economy, a non-profit lobbying group, calculates that the average CEO to the average worker pay is now 411 to 1 in the US (in the 1970s, this was about 30 times).

Debate over CEO compensation

There have been heated debates over CEO compensation over the years. Some justify that it must bear a relation to the performance of the organisation they lead, but without any sense of a limit, this has led to gross over-compensation. There have even been several attempts by top managements to back-date stock options to ensure they got their money irrespective of how their companies did. Many of those companies are under investigation now. Other observers contend that the compensation must be in line with comparable organisations, and this has resulted in competing increases, again without any limit.

Sure, one may argue that compensation of top management is the business of the owners of the corporation, it is a private matter, and of no concern to the public at large. Kleptocracy is only relevant in the governance of the state, not the running of a private corporation. But, aren't the issues the same? A small group of people, with the power over resources that have been given to them to manage on behalf of a larger number, exploit their power for personal benefit.

One can argue till the cows come home as to how much is too much, but the simple smell test says that if that small group has to justify to the larger group that the compensation is not too much, then it is a definite sign that it is.

Kleptocracy in sharper focus

Kleptocracy in the corporate world has come into even sharper focus this year as it is seen as reflecting the growing inequality in incomes and wealth in the US. Recent data from the Federal Government's Bureau of Census provides glaring statistics about the increasingly skewed distribution in the country. The top 1 per cent of Americans increased their share of total income from 1 per cent to 16 per cent between 1980 and 2004.

If you divide the population into quintiles (groups of 20 per cent), the share of the household income of the top quintile has increased consistently between 1975 and 2005 (and much of that went to the top 5 per cent). The share of all the other groups in society has consistently fallen, and the bottom 40 per cent saw a drop in real terms, that is, after adjustment for inflation.

The ripples are beginning to be felt even by the political right, the Republicans, who worship at the altar of the free market. Yet, while they are concerned with the worsening income inequality in the country, they do not have any answers. They cannot recommend regulation since it is against their political credo, but the morality of it seems to hurt for they are beginning to speak up.

Income inequalities

The US President, Mr George Bush, in his State of the Economy speech delivered this January in New York admitted that income inequality is real and has been increasing for 25 years. He wanted corporate boards to pay attention to the compensation packages they approve. He also wanted compensation packages to have some relation to the success of the CEOs in improving their companies.

Corporate boards are in no hurry to do that. A stockholder proposal for a vote at the forthcoming annual meeting on 14 March of Hewlett-Packard Company specifically requests that long-term equity compensation should be performance based. The stockholder, in his explanation, complains that the current CEOs pay is too high and the former CEO was also paid in excess. The management, of course, would have none of it and recommends against the proposal.

The organisation, Institutional Shareholder Services, which monitors these things, reports that such proposals have been submitted at 60 companies this year. Stay tuned, the proletariat has begun to stir.

Top few performers

Some justify high compensation by saying that they did well by their stockholders. That may be so. But what management theory can justify that it is the extraordinary performance of a few at the top that led to that great performance of the organisation? Moreover, where is the moral position in all this discussion, on whether it is appropriate in the society for a few to take such significant compensation for themselves?

Another argument is that you need to pay that kind of compensation to attract good talent. Good talent? It is a blind man's bluff!

Ask the shareholders of Hewlett Packard and Home Depot is the good performance they saw! Coming to think of it, the shareholders of GE must be heaving a sigh of relief. Nardelli, a long-time GE executive, was a finalist for the top job at GE, which was finally won by Jeffrey Immelt and Nardelli left to join Home Depot.

Stepping up training

The Federal Reserve Chairman, Ben Bernanke, has also seen it fit to comment on the widening inequality in the country. Being a Republican, he does not want controls on salary but warns that education and training needs to be stepped up to allow others to acquire the skills to climb the ladder and reduce the gap.

Some of these people truly believe that all it takes is more education and training before a retail manager earning $15,000 (Rs 6.75 crore) a year begins to earn $15 million (Rs 67.5 crore) a year! The legislature, not wanting to be left behind in the debate, is wondering if they need to tweak income tax deductions so as to make excessive compensation expensive for the companies.

Is any of the huffing and puffing going to produce any significant change in the trend? Don't hold your breath. One is just warming up to presidential elections next year and it is expected to cost about $ 1 billion (Rs 4500 crore), and each of the candidates seeking a nomination from the party will have to raise about $ 100 million (Rs 450 crore) to be taken seriously. You know who they are going to call for that kind of money, so they will be in no hurry to support measures that hurt the birds that lay those kind of eggs.

(The author is a professor of international business and strategic management at Suffolk University, Boston, US. He can be reached at cgopinat@suffolk.edu)

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