If you're trying to learn a lot about a company in order to decide whether you want to invest in it, don't neglect its financial statements. A balance sheet, income statement, and statement of cash flows can tell you a lot about the firm's current health as well as its profitability.
Beyond that, though, you can also learn a lot by whipping out your trusty magnifier or your electron microscope, and scrutinizing footnotes. That's what Michelle Leder at footnoted.org does all the time -- frequently with fascinating results. Check out some of her recent notes regarding the practice of gross-ups:
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Colgate-Palmolive (NYSE:CL) recently eliminated gross-ups for its executives. It also reduced severance payments to 24 months from a maximum of 36, and added a provision permitting shareholders to call a special meeting.
- Dow Jones (NYSE:DJ), which has been in play as a potential takeover target of News Corp. (NYSE:NWS), has made gross-up provisions for nine of its executives even more ... gross.
Gross-ups have been getting more attention in the media and are becoming more frowned upon, which is a good development. But since they're of so much value to those who stand to benefit, and since those who give the money away just don't care as much, we're probably looking at a situation that will be hard to change. According to a study of some 1,000 large U.S. companies by Towers Perrin, 77% have gross-ups today, versus just 10% 20 years ago. And if you're thinking, "At least a bunch of companies still don't have them," remember that for those big companies with little chance of being bought out, it's rather a moot point. Intel (NASDAQ:INTC) and Johnson & Johnson (NYSE:JNJ) don't have gross-up clauses, for example, but they probably don't have craven executives craving them.
At his recent shareholder meeting, Berkshire Hathaway CEO Warren Buffett painted a similar picture about CEO compensation, explaining how executive compensation has a natural tendency to spiral upward, because of ratcheting, the publicity of what others get, and a lack of intensity in the bargaining process. Labor contract negotiations can go on for weeks and at all hours with both sides arguing -- "when do you see a compensation committee do this?" He explained that it doesn't happen, because the CEO cares a great deal more than the committee and what really drives the ratcheting is envy: "If you pay $2 million to somebody they can be quite happy -- until they find out the guy next to them made $2.1 million."
A March article in BusinessWeek offered this example: "It's one of the easiest CEO perks to pick on: the so-called tax gross-up when a company is taken over. When SBC snatched up rival AT&T (NYSE:T) in late 2005, outgoing AT&T CEO David Dorman walked away with $29 million in cash and other severance. To help cover Dorman's IRS bill, the board forked over $11 million more."
By now you should be excited about all the things you can learn in company footnotes, even if you're a bit queasy over the gross-up concept. If, though, you're thinking that you don't have time to scour financial reports, consider letting others do some or all of the work for you, by investing in top-notch mutual funds run by smart managers, or by taking advantage of the stock research provided in our investing newsletters. For instance, our Inside Value newsletter focuses on good companies at great prices that offer a margin of safety to get you through tough times in the market. As with all our newsletters, you can try out Inside Valuefree for 30 days.
Longtime Fool contributor Selena Maranjian owns shares of Berkshire Hathaway, Johnson & Johnson, and Microsoft. Berkshire Hathaway, Colgate-Palmolive, Intel, and Microsoft are Motley Fool Inside Value recommendations. Johnson & Johnson is a Motley Fool Income Investor recommendation. Try any one of our investing services free for 30 days. The Motley Fool is Fools writing for Fools.
