I was preparing a post on employee compensation and performance reviews heading into the end of the year review period when I came across a pretty extraordinary article from Bloomberg News about executive compensation on Wall Street during the past few years of the mortgage backed securities boom.
The article opens with the statement that the five biggest firms on Wall Street paid their top executives over $3 billion during the past five years. Merrill Lynch led the way, paying Stanley O’Neal over $170 million over five years, and his successor John Thain was paid nearly $90 million from the end of 2007 until Merrill was acquired by Bank of America. Bear Stearns’ James Cayne made some big dough as well until the company became the first of the investment banks to fall over in the current cycle and be acquired by JPMorgan in February.
One of the big holdups with the $700 billion loan bailout being negotiated in Washington is the issue of executive compensation. While the investment banks pushed compensation pretty far down into the ranks (average compensation was some $350,000 per employee), the incentive structures of the firms, with their heavy cash components based on short term performance, ultimately were not aligned with the interests of shareholders and arguably the public.
While Wall Street investment bankers were motivated and paid according to business generated in current periods, they were leveraging up with everyone else’s money – shareholders following their public offering and cheap debt available from 2002-06. In addition to simply not understanding the markets they were creating and then investing in, risk was not properly factored in to their moves. Simply put, if you’re in Vegas playing with somebody else’s money and you only get to keep a piece of the action and the winnings, your incentive is not to conserve their money – it’s to push it as hard as you can get away with.
Figuring out how to limit compensation for executives whose companies participate in the bailout plan is going to be quite challenging. With much less financial incentive to stick around and make things work, the test will be figuring out how to keep the most talented executives from fleeing the Street and finding something better to do besides leveraging up the country’s balance sheet.
If you’re interested in taking a look at some of these employment agreements, you can find them at www.RealDealDocs.com.
