Stupid CEO Tricks

Well, it's all over but the sentencing, folks. Show of hands: How many of you followed the Dennis Kozlowski Trial, Part Deux?

Huh. Well, that's about what I expected. It wasn't nearly as much fun the second time around, was it? No networks showing film of an icy David whizzing Cristal this time. In the Kozlowski retrial, necessitated by the ex-Tyco (NYSE: TYC  ) CEO's April 2004 mistrial, most of the news came in numerical form, and numbers make for bad TV.

But listen up. We're investors. We're not here to watch TV. And telegenic or not, the numbers from the Kozlowski trial tell us something pretty darned important: Our CEOs are robbing us blind.

Oh, you mean that $25 million!
Take, for instance, this little bit of trivia: When the fabled Tyco ex-CEO received his W-2 form for tax year 1999, he failed to notice that a $25 million "bonus" he received had somehow not been reported to the IRS.

Stop. Read that again. Now ignore the manifest silliness of Kozlowski's assertion for a moment, and focus on the fact that the guy made $25 million. Then understand that whether he noticed it or not, that $25 million was just part of his salary for the year. Aside from the bonus, Kozlowski's 1999 tax return reported $21 million in other compensation. That's $46 million in one year -- nice work if you can get it, eh? But as it turns out, 1999 was actually a lean year. Kozlowski's total compensation in 2000 rang in at $80 million. Executive PayWatch (an arm of the AFL-CIO labor union) puts his 2001 salary, bonus, stock rights, and other benefits at more than $62 million.

Follow the money
Kozlowski is a hard act to follow. After all, he and his sidekick, ex-CFO Mark Swartz, were convicted of stealing a total of $600 million from their company over a period of several years. But as shocking as that might be, what's more shocking is that such gluttonous pay packages appear to be par for the course among large, Wall-Street-listed firms.

In fiscal 2003 (the most recent for which I have statistics available), the average CEO of an S&P 500 company raked in nearly $9 million in total compensation, including cash, benefits, and stock options. Even if you take out the stock options and other benefits, these guys are paying themselves cash compensation of more than $3.5 million per year. $9,590 per day. $400 an hour. (Assuming you believe them when they say they're working 24/7 "to maximize shareholder value.")

Is it "pay for performance" or ...
Yeah, right. That's the common argument used to justify the enormous pay packages most CEOs pull down -- if you want a public company run right, if you want it to generate profits for shareholders, you need to pay for performance. But what kind of performance are we talking about here?

Over the past quarter-century, the U.S. stock market grew like a mighty oak, with the S&P 500 index rising from 116 to 1,202 -- a 936% increase in value. Executives certainly played a role in those gains, and it's only fair that they should share in the rewards. But just how big should their take be? According to Executive PayWatch, over the same 25-year period, average CEO compensation has exploded -- up 1,996% and growing more than twice as fast as the returns these CEOs have created for their shareholders. Hmm.

... "pay poor performance?"
And how are those CEOs -- the ones reaping that 20-fold increase in salaries and benefits today -- performing? Let's take a look at the recent performance of, say, the first five companies listed on the S&P 500 index to find out:

Agilent Alcoa

Apple

Ameri-source-Bergen Applera
52-week stock performance -21% -20% +130% +15% -5%
CEO's 2004 cash comp. $1.24 million $2.83 million $0 $1.54 million $2.2 million
CEO's 2004 total comp.(including options grants) $5.3 million $9.6 million $86.3 million $3.3 million $10.5 million
Price and cash compensation data as reported on Yahoo! Finance. Total compensation as reported on Executive PayWatch.

The CEOs' performance in this random sampling of S&P component companies lies all over the map, from Agilent's and Alcoa's disheartening declines, to the stellar performance of iPod, Inc. But one thing all five CEOs have in common: Their compensation bears little relation to how well they're steering the corporate steamboat.

It seems that steering a 20% decline in stock price can actually net you pretty decent compensation. Increase your stock price 15% and outpace the S&P, as AmerisourceBergen did, and you're likely to do far worse. But if you really hit it out of the park -- if you "pull an Apple" -- then your compensation drifts upward into the heady realm of the truly surreal -- $86 million for a part-time Jobs? Really? (Hint: Think Pixar (Nasdaq: PIXR  ) .)

Don't pay for poor performance. You can do better.
Now, CEO compensation is just one aspect to consider when deciding whether you should invest in a company. There's also stock dilution, strength of the balance sheet, and profits, of course. But I submit that CEO compensation is, if nothing else, one of the most clearly visible signs of where a company's priorities lie. And when viewed in conjunction with performance numbers, it's an invaluable tool for determining whether a company puts shareholder interests at the forefront in its corporate thinking, or whether it first thinks of rewarding its insiders.

So when making that crucial decision -- to buy or not to buy -- ask yourself: Are you paying for performance? Or are you paying poor performance?

At Motley Fool Hidden Gems, the Fool's small-cap newsletter service, we prefer the former. Of the 28 Hidden Gems companies for which compensation data are listed on Yahoo! Finance, our companies' leaders earned average cash compensation of $1.2 million. Not chump change, I'll grant you. But still, the average boss of a Hidden Gems company charges just one-third the going rate among the "elite" executives on Wall Street. And how are "our" CEOs performing? Since June 2003, when Hidden Gems began operations, our CEOs have created four times more profits for shareholders than the S&P crew has created for their own owners. That's what I call a real bang for your buck.

And speaking of deals, have we got one for you. Right now, you can try out Hidden Gems for one month -- absolutely free of charge. See our list of recommended companies. Read the interviews we've conducted with the bargain-priced, superefficient CEOs running our companies. And if you're not as impressed with them as we are, you can cancel your subscription without paying a dime. You have our word on it.

Fool contributor Rich Smith does not own shares in any company mentioned in this article. Pixar is a Motley Fool Stock Advisor recommendation. The Fool's disclosure policy is very, very smart.


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