Paid to Star not to Mar

down graph IISome commentators on the doings of the banking royal commission figuratively raise their eyebrows at the salaries paid to senior bankers. “A nice earner if you can get it.” Me, I don’t get fussed about some businesses willingly and legally paying certain employees large sums of money. That’s their call. On the other hand, it is galling when those receiving such sums prove to be negligent or, worse, shady; particularly when they cause collateral damage to ‘innocent civilians’. That’s the real crime.

The salaries of all those in the upper echelons of corporate life are nowadays far above what they were in earlier times. Rounded, the latest figure which I have found show CEOs of top companies earn around 300 times a worker’s average salary in the US, 130 times in the UK and 80 times in Australia. If we were to go back fifty years the gaps were far smaller; for example, about 20 times in the US. A similar story of rising disparity applies in the UK, in Australia and elsewhere in the developed world. What to make of it?

I was once chief economist for the largest state-based bank in the 1980s. The bank had been in existence since the late 19th century. As with all Australian state and regional banks at the time, it specialised in accepting retail deposits and lending for housing. This was by far the most of its business. It was a profitable and safe business which required no great intellectual or entrepreneurial firepower to run it.

The new CEO and those he brought in (which included me as a peripheral actor) had a brief to expand the bank’s operations into corporate lending. It was rumoured that sizeable salaries had been paid to attract the requisite corporate talent. What a disaster it all turned out to be.

The bank went down in 1991. Australian banks suffered badly during the 1990/91 recession. Arguably, others would have gone down but for the support of the Reserve Bank. Most held poor quality assets, put on their books by highly paid bankers. The defining catastrophe for the bank that I worked for was its ruinous ownership of a merchant bank subsidiary; run by a highly-paid Young Businessman of the Year (1986) who “made reckless [lending] decisions on inadequate information.” (Woodward Royal Commission)

Why am I telling this tale of woe? It is to point out that the price of failure can be very high in the business world. Undoubtedly, in retrospect, in view of the bank collapsing, the salaries of those brought in to take the bank to new horizons were, to put it mildly, excessive. But this has to be also looked at from a different angle. Exactly how much would someone be worth who could have prevented the bank’s failure and turned the situation around? “A lot” is the answer.

Boards and shareholders face a stark choice. Take the CBA (which I have chosen only for illustrative purposes). Its market capitalisation is about $126 billion and, at last count, its net profit was near to $10 billion or 8% of its market capitalisation. The board knows, from experience of the corporate world, that a new CEO could potentially take profitability up to 9% or down to 7%. That is a swing of $2.5 billion. Now how much is the right person worth? My illustration is not in the least stretched.

Businesses of all kinds risk putting people in senior positions whose decision-making might turn out to be seriously wayward. I have singled out banking because I have first-hand experience. But take mining. I owned shares in BHP when it bought shale oil assets in the US and lost billions and when a tailings dam in Brazil, for which it had shared responsibility, burst killing nineteen people and covering villages in a deluge of unpleasant mud. As a shareholder (part owner) I ‘deservedly’ lost a considerable amount of money (for me). My dividend at one point was cut from 60 cents to 16 cents per share. I can’t recall the directors or the senior executives correspondingly cutting their salaries by three-quarters. The chairman of the company during this period of my loss was named a Companion of the Order of Australia in June 2017, in part for his leadership in mining. During his tenure the share price of BHP fell from around $38 in March 2010 to a little over $26 in August 2017.

As soon as Wesfarmers bought the Homebase chain in the UK, I sold my shares. I’m a slow learner but a learner. I know the UK and thought that it didn’t match well with the Bunnings model. But some highly-paid executives evidently thought that it did. The result, in early 2018, a write down of over $1 billion.

Better people in charge of BHP and Wesfarmers might have made decisions which would have saved many, many multiples of whatever sized salaries were paid to them. Equally better people in senior positions in banks might have avoided letting financial advisors and planners dud their customers.

Larger businesses are larger than they were decades ago and operate globally much more than they did. Competition is stiffer. There is less room for error. The rewards for success and the penalties for failure are more evident. Getting the right people at the top is defining. Whether they are paid, say, $5 million or $10 million or more is a trivial detail. An English football analogy is apropos.

When I was a lad supporting Liverpool FC, the club’s leading player was my hero Billy Liddell. He was paid £20 a week, about 60% more than the average working wage at the time. Liverpool signed Mohamed Salah from Roma last year for £34 million and gave him a salary of £90,000 per week on a five-year contract. His salary pales against the value he has brought to the club. It is reported that he will be offered a new contract worth £200,000 per week. Is this too much? Supporters on an average wage of a little over £500 a week don’t think so. They don’t want to lose him.

In a market economy, top-end salaries are set by competitive forces. We should not get into a funk about CEOs taking home millions, even tens of millions of dollars. Leave that to nutty left-wing economists and politicians rabbiting on endlessly and mindlessly about inequality. An individual worker at ‘the coal face’ has no measurable influence on the performance of a large business. A CEO and those immediately around him (or her) have a defining influence. We should reserve our ire for those paid a lot who deliver losses and injury.

11 thoughts on “Paid to Star not to Mar

  • Rob Brighton says:

    Great article Peter.

  • Geoffrey Luck says:

    There is a lot of sound observation in Peter’s piece. Perhaps I could add some context to his oblique references to his erstwhile employer, the State Bank of Victoria. Its collapse became a case study of the incompatibility of old-fashioned banking (deposit-taking and housing lending, as Peter describes) and the new high fashion gung-ho merchant banking gig which became so popular in the mad ‘80s.

    I knew Bill Moyle, Managing Director of SBV as a sound respectable banker. But the acquisition of Tricontinental brought in Ian Johns, a risk-taker chasing high rewards in a decade of commercial greed by lending freely to businesses that did not have addresses at the top end of town. The Royal Commission into the collapse criticized Johns’ “arrogant self-confidence, lack of business acumen, naivety when dealking with well-known entrepreneurs, lack of candour amounting at times to deviousness and unwillingness to admit error.” Moyle and his board were too weak to restrain him. (Tricontinental: The Rise and Fall of a Merchant Bank, 1995).

    Nothing illustrates better the excesses of that era than the selection of Johns as Entrepreneur of the Year by Kerry Packer’s magazine Australian Business. A prominent member of the judging panel was Christopher Skase.

  • Lewis P Buckingham says:

    The recent ‘news’, rather old but covered up,of a massive data leak at the CBA, may explain an interesting anomalous debit from one of my accounts.’http://www.news.com.au/finance/business/banking/does-commonwealth-banks-massive-data-loss-put-you-at-risk/news-story/0d74b286f29ed651fe6a6de2d469fa60

    A company called Blue Sky debited my account and the investigation, so far, has been silent.
    Blue Sky, now that’s a novel idea.

    The description of the data leak is coy about what actually was lost.
    It was not pin numbers, but so what.
    Will anyone say at the CBA if my name, address, phone nos, email, drivers licence and business number with credit rating was lost also?
    Now this is not an alleged crime that happened forty years ago, this could bleed account holders dry, now.
    When will it be investigated and those who had data lost be advised?
    Has the CBA the mind or ethos to compensate?

  • Lo says:

    I can’t help myself but I don’t think “CEO’s taking home millions” requires an apostrophe.

  • Jacob Jonker says:

    An international clique in charge who take out, cream off and sluice into their own taxhaven accounts and vehicles as much as the shareholders who have a say in the matter will bear with their apologist supporters who are beneficiaries of the system backing them up and the politicians and bureaucrats in government coopted totally and irrevocably, evidently tolerated by the people, is democracy in action.

  • Jody says:

    “A tale… told by an idiot, full of sound and fury – signifying nothing”.

    That’s the Banking Royal Commission. Until there are meaning full sanctions and punishments for EVERY crime in this country the corporate oligopoly is entitled to think it can get away with it as well. And why not?

    Time to have a Building Royal Commission to uncover shonky building of apartment blocks where defects are horrendous and builders de-register their companies to avoid repairs and reparations. Then they walk down the street and re-register another entity and carry on as before. And then there are those who put themselves onto the body corporates so they can vote DOWN building repairs and defects from the builder. A scandal far worse than any banking irregularity.

  • ianl says:

    From Peter Smith’s essay above:

    >” …when they [financial thugs] cause collateral damage to ‘innocent civilians’. That’s the real crime.”

    It seems to me the most sardonically edifying sequence to emerge from the Commission so far concerns the concept of “real crime”.

    Grubbily pilfering, wiping out, the life savings of old ladies, well, that’s just jolly bad form, old chap.

    But lying to a lawyer (an ASIC lawyer) – that’s beyond the pale. Lay criminal charges forthwith, go straight to jail.

    These people (including the lady QC “assisting” the Commission) are so self-absorbed, they didn’t even notice that we are watching.

  • Red Robbo says:

    As a one-time audit senior working on the external audit of the SBV I was surprised at how secure and successful its core business of residential 1st mortgage lending was back in the day. The annual default rate and bad debt provision expense was derisory – fractions of 1%. It was a simple machine. Then along came Trico. By that time I was an exec at what was then the country’s largest, most diverse ‘merchant bank’, as was the naming custom of the time (this was pre Macquarie’s time). We had a pretty hairy book that came crashing down in due course in the late80s/early 90s, but we were always able to point at Trico as the real disaster – we had thought of it previously as the real ‘lender of last resort’ in Australia!

    As a retired MD from the financial services sector I know many of those whose names have recently featured so prominently in the news reports and business gossip columns in the daily rags. I won’t comment in detail on all this bar to say:

    what incredible nerve our politicians have, to chastise and criticise others for mistakes, spin, untruths, corrupt behaviour, and misleading the public and the regulators. I wish we had the same ‘accountability’ in place for our politicians as we have for business executives and directors. How many politicians would we send to jail if we applied Morrison’s views on criminal conduct by bankers to his own colleagues? I could have lost my livelihood if I had knowingly issued an even marginally incorrect or inaccurate PDS, statement, email, annual report etc.; and

    I’d like to see the same public and journalistic critique of income for sports people, entertainers etc. relative to responsibility. If it’s outrageous for a bank CEO to make $5 or 10 million, with real responsibility and risk, why isn’t it for Kylie or Cate, or any other luvvy who does bugger all?

    Probably not surprisingly, my views on exec rem tally closely with Mr Smith’s. I was never in the same league as the big names in front of the Commission (forgive my fond recall and hubris, but I only staggered into 7 figures once, with the benefit of a tail wind and good luck!), but these people are responsible for many, many billions of OPM (other people’s money), 10,000s of jobs, systemic stability, and for trying to create good ROE on behalf of millions of Australian shareholders. One bad decision can bring all this under threat. They deserve the money.

    Additionally, all the comparisons we read of exec rem now as a multiple of average salaries vs the good old days or 20,30,50 years ago ignore a very important point – lurks and perks. Back then there were: more tax loopholes (legitimate or otherwise); many more salary sacrifice options; company owned/paid cars, often with a driver on duty; lots of free travel and entertaining for any reason; easier tax on share schemes; no CGT; frequently company owned/paid holiday and permanent accommodations; vastly generous DB pension schemes; and so on. The real comparison should be on lifestyles, in both work and retirement. I suspect that senior execs in the old days overall had nearly or even just as much in lifestyle utility as nowadays – and they had greater security of tenure.

    Finally, and apologies for the length of this comment but it’s a subject close to my heart – there can be no doubt that the move to detailed disclosure of individual rem has been a huge contributor to the growth of exec rem. A move, championed by our bureaucrats and politicians (don’t get me started on senior public service pay growth!) largely out of envy and malice, has of course had an unintended but predictable outcome. It won’t be long before we have regulated pay and salaries for all execs. You can almost hear it coming.

    • Jacob Jonker says:

      @Robbo. It is good to point the finger at politicians, but.., well, they are not so much compromised as simply coopted. Who could possibly be to blame for that? This diversion is about the banks. It is purely a public relations exercise, pulling the wool over people’s eyes. It is all a cover. Look at it this way. If someone picked your pocket and took a hundred dollars, and then make a song and dance about giving you a tenner back, how would you stand in the deal? This is about the banks. The problem is about the influence of big business, especially, now, the transnational corporates, in government. It’s a wretched ratchet which keeps the overall advantages going one way, and the disadvantages and costs the other. Profits and political leverage one way, costs, dis-amenities, disenfranchisement and losses the other way.

      You mention Kylie or Kate. Except when the taxpayers and general consumer is by some devious way forced by the government to pay them, and their host of con-artists, people freely subscribe to these expenses, whereas with banking it is a totally different cattle or fish. For a start, it is about money, a state-sanctioned and protected medium of exchange. No need to spell ot out, you’re a banker. Read the books by J.K. Galbraith if you don’t get it, and similar since. Of course the politicians are to blame. They have a different make-up as a clique from previous eras. There used to be fractional banking, which you would understand. Now it’s a push-button operation to whip up extra money supply. To keep the ponzi scheme solvent, the money supply must be continually increased, for the danger of deflation is ever present. With deflation for any length of time, the house of cards will collapse and the house of international cardsharps with it. You might say that people do have a choice of banks, that there is competition. This is not correct. There is no legal alternative to the system and to live without a bank account is to live on the streets. The medium of exchange is a monopoly. Banking is a monopoly. Except when in prison, or some similar institution, or a beggar, one cannot function as a citizen without a bank account or other such regulated monopoly entity. The wish of politicians, bureaucrats and big business to whip up ever greater amounts of money supply by fair means and foul, mostly foul, is not a charitable concern. The more is whipped up, the more can be creamed off, siphoned away and taken out to be re-routed via overseas to come back as new money-most of it untaxed, even if ligit. Don’t think that the people cleaning up big here are not in some way seen as complicit.

      Anyway, it’s all a charade. The monopoly money gives so much to the privileged elites and their coterie of gofers and enablers that the few billion in fines here and there, mush publicised, are negligible. Jail is not for the bankers and politicians who are in on this huge fraud. It has to be very bad indeed for a principal or their helpers to be jailed if caught out.

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