By Don MacRae It's the worst fallout ever from corporate fraud. Trillions of dollars in value has been ripped from the stock market -- more than the GDP of many countries. Investors have been had by corporate leaders whose moral compasses were confounded by greed. The execs' lack of conscience set back the hopes and dreams of millions who believed the self-serving pronouncements of a few culpable CEOs and their supporting cast of co-conspirators -- bankers, stockbrokers, accountants, and consultants.
We, who trusted them, have lost our innocence. We are paying with real dollars and real pain. The guilty must be held accountable and -- if there's any justice -- suffer the same pain they've inflicted on millions of families whose pensions and savings have been pilfered.
STERN MEASURES. President Bush has at last said as much, and federal prosecutors seem inclined to follow through with a vengeance. They must maintain their resolve, meting out punishment that investors and execs alike will remember for decades, if the markets are to recover and the economy is to avoid a double-dip recession.
How did we get into this mess? The primary purpose of the board and management of a public company is to serve and protect the interests of shareholders. Yet now we find that corporate officers have used some of America's best-known public companies as their personal banks.
America's version of capitalism has evolved into a system that creates an extraordinarily strong incentive to manipulate financial information in order to boost stock prices for fast, huge returns. Executives who each year receive a million stock options are far more interested in making the stock rise quickly than in building a sustainable business.
SCAMS 101. If they can't improve a company's performance -- or if they do and the stock doesn't move -- they're tempted to achieve that goal with short-term measures, fraudulent or otherwise, that may put the company and its shareholders at risk. And the execs who go down this path are more than willing to share the wealth with the financial engineers who have helped them achieve their ends. In other words, there have been many at the trough.
Their scams aren't rocket science, just elementary market manipulation. First they might borrow money from the corporate treasury to buy discounted company stock. Then, they would increase the price of that stock by various means -- including a dizzying array of bogus swaps, partnerships, and accounting trickery designed to camouflage the company's true condition by overstating earnings and
Voila! The stock price rose -- and the execs sold their stock before the market could catch up with the con. If they were caught, the strategy was simple. Point the finger at everyone else, shed crocodile tears for shareholders -- and plead their Fifth Amendment right to avoid incriminating themselves. What gutless, unconscionable creeps.
GOLD-PLATED TEMPTATIONS. Significant changes must now be made to restore investor trust in public companies. Yes, we need longer jail sentences for corporate fraud and a stronger watchdog agency to catch accounting misdeeds and even oversee the profession, all now provided to some extent by new legislation. But ways must also be found to stamp out the greed and gluttony of the schemers.
Compensation rules must be changed. All financial dealings between corporate officers and their companies must be at arms' length. There should be no more loans that give highly compensated execs a low-cost way to build a portfolio of company stock.
Compensation of salary and bonus based on corporate performance plus stock options must all be expensed and be included in the calculation of earnings. A recent Merrill Lynch study of the 500 largest U.S. companies found that reported profits would have been 21% lower in 2001 if options had been expensed -- 39% lower in the high tech sector.
SHAREHOLDERS' VOICES. Such reforms should be just the start: CEOs should have to wait longer -- five years is a good, round number -- before exercising their stock options. A period of this sort should be sufficient to make insider self-dealing much harder to pull off. Ken Lay, the former Enron chairman, sold about $70 million worth of Enron shares just before the corrupt energy company went bust -- a failure that robbed employees and shareholders of about $40 billion.
Compensation for corporate officers must be more transparent. Compensation committees must be chaired by high profile, highly respected and independent board menders. Board-approved pay packages must be voted on by shareholders. It's time for shareholders to take back control of their companies -- and of the officers who run them.
The playing field must be leveled in other respects. There should be no more golden parachutes, for example -- severance packages worth millions, ladled out to people who by virtue of their wealth are least in need of such largesse. Let CEOs get out of the plane the same way the rest of us do -- when it lands safely.
ETHICAL PARAGONS. And if anybody tells you it'll be impossible to find good CEOs to run large public companies under these conditions, have them look over their shoulder at the young, bright, scrupulous people lining up for the job.
Corporate leaders must embrace higher ethical and business standards -- that's clear. And if they violate those, they should be precluded from ever again holding a position of such authority and influence.
The big lesson, though, is that corporate officers must learn to lead by example. When making important decisions they must listen to their inner voice, whether that be their conscience or their God, and be prepared to act accordingly. Do you really think that the inner voices of Kenneth Lay, Jeffrey Skilling, Bernie Ebbers and the others caught in a variety of frauds told them: "Cook the books. Take as much out of the company as you can. Pretend you are sorry for any part you might have played in destroying the lives of people who served you well. Plead the Fifth."
"SET OF YOUR SAILS". The good news is that the assault on the integrity of our free market system, though perpetrated by a significant number of corporate leaders, doesn't seem to be systemic. The Securities & Exchange Commission's requirement that CEOs personally certify the accuracy of their companies' financial reports, starting Aug. 14, will pose no general problem for top execs. Most will have little difficulty in putting their reputations on the
line to vouch for the integrity of their financial information.
There's an old saying: "It's the set of your sails and not the gales that determine your direction." Over the past 30 years I have worked with a wide variety of CEOs and CFOs from the largest to the smallest of public companies. Without exception, each had his or her moral compass set on serving the best interests of shareholders.
These are not the corporate leaders that you are hearing about today. But they are the ones that you will be hearing about in the future. For your sake and that of the organization you lead, make sure you are one of them. MacRae is president of the Lachlan Group, a management consultancy in Toronto. He has taught and worked with corporate leaders for the past 25 years