Why $100-million Is Too Much

It was widely reported yesterday that former CEO of Nabors Industries Ltd., Gene Isenberg, will be the recipient of a $100 million severance payment. Except, he’s not leaving the company — he’s staying on as Chairman of the Board. Confusion and criticism has ensued.

For the most part, I think that executive compensation, even outlandish executive compensation, is in principle a private matter. If a bunch of shareholders want to pay their CEO a gazillion dollars — whether because they think he’s the one guy who can build long-term value or because they just think he’s a swell guy — well, that’s none of my business. I may think those shareholders are fools, or spendthrifts. But there’s little reason for me to be morally concerned. I don’t tell you how much to spend on your babysitter or your dry cleaning or your car. And I shouldn’t tell you how much to spend on your CEO.

In principle.

But two factors get in the way of applying my in-principle argument to the present case.

One factor begins with the observation that shareholders don’t, in fact, generally make the decisions regarding how much total compensation the CEO gets. That task is delegated to the Board of Directors, who in turn generally delegate it to their Compensation Committee. Now again, in principle, this is purely a private matter. If the Board isn’t serving the shareholders well, the shareholders have cause to complain, and (yet again, in principle) they can always fire the Board if they feel sufficiently poorly served. But we have ample evidence that shareholders very often aren’t well-served by boards. Add to that the fact that proper functioning of corporate governance (and hence of capital markets) is clearly a matter of public concern, and you have at least the beginnings of a public-interest argument for interference in what would otherwise be a private matter.

The other reason why excessive pay isn’t always a purely private matter has to do with the government’s (i.e., the public’s) role (and support of) an industry. Note, for example, that Nabors is an oil-drilling contractor. So the $100 million that Isenberg is getting isn’t merely a share of privately-gained profits. It’s a share of the profits from a heavily-subsidized industry.

So boards of directors do have some public obligations related to how they choose to compensate executives (even if, as I’ve argued before, outsized compensation isn’t automatically unfair). Corporate directors are not just part of private institutions; they’re part of a system justified, in part, by its public benefits. And the more they seek to gain private benefits in the form of subsidies, the greater their obligations to the public become.

3 comments so far

  1. […] an excellent analysis of what is wrong with Isenberg’s bonanza, check out Chris MacDonald’s Business Blog.] Share […]

  2. Kirk Emery on

    I think you disagree with this diamond studded golden handshake, though you hedged your language carefully and appear slightly non-commital.

    Anyway, I take issue with your two reasons.

    First, concerning your “boards don’t serve shareholders well” reason, to accept this as a reason in this case, you’d have to show that, in this case, the board isn’t serving its shareholders well. Now maybe the board isn’t serving the shareholders well – if one bought this stock a decade ago, they’d be by some measures worse off. But you haven’t told us why the board isn’t serving its shareholders here, and, anyway, the shareholders are best suited to answer this question (much of its stock is owned by sophisticated institutional investors).

    Two, concerning your “this industry is heavily subsidized, thus this industry can’t pay employees inane wads of cash” reason, well, again, this isn’t yet a reason. Why does being publicly subsidized mean that corporations lose autonomy? How much was Nabor actually subsidized? Is this industry’s subsidization the correlative to the heavy tax burden this industry carries? Even with this big cheque paid, would the government be worse off but-for Nabor? Do governments care about this? I’d like to see these questions answered before proposing a sweeping generalization (your second reason).

    But, again, you only alluded to this golden handshake being unacceptable, so I half expect a response saying that questions about the particulars of this case don’t matter, because you weren’t applying your two reasons to this case particularly.

    • Chris MacDonald on

      Kirk:

      Of course I’m hedging; it would be irresponsible to do otherwise. This is short-form commentary, not investigative journalism. I can’t possibly evaluate whether, in fact, Nabors’ board has served its shareholders well over the last decade(s).

      But two quick points:

      1) The overwhelming majority of informed opinion is that boards have done lousy on compensation for years, and have too seldom had the independence to stand up to a powerful CEO. The authority that shareholders have is almost never exercised.

      2) Re your second point, I’ll only say that when you ask for handouts, you at least open yourself up to critique from those who provide them. The oil industry’s compensation levels are only marginally more a private matter than were GM’s strategic moves in the weeks immediately following the bailout it received.

      Oh, and do recall that my blog entry began with the sanctity of private contracts as the default. All I did after that was say that in SOME cases it MAY be reasonable for the public to comment & criticize. A small concession, perhaps, but in a polarized debate I think it a point worth making.

      Chris.


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