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BOOKS: Money for Nothing: How the Failure of Corporate Boards Is Ruining American Business and Costing Us Trillions

by John Gillespie and David Zweig

Reviewed by Michael Connor

If you’re one of the many trying to determine where blame might lie for the financial and economic crises of the last two years, John Gillespie and David Zweig would suggest you look in the corporate boardroom. Their new book - Money for Nothing: How the Failure of Corporate Boards Is Ruining American Business and Costing Us Trillions – is rich with unfortunate detail:

• Stanley O’Neal, former CEO and president of Merrill Lynch, was paid $48 million in salary and bonuses in 2006, in large part because of the firm’s apparent success in selling mortgage-backed securities.   When the company’s failures made headlines, O’Neal was allowed by his board to “retire” with an exit package worth $161.5 million.  Within three months, O’Neal was back in a boardroom, “this time as a director of Alcoa, serving on the audit committee and charged with overseeing the aluminum company’s risk management and financial disclosure.”
• Countrywide Financial, a leader in the subprime mortgage market, paid each of its directors from $344,988 to $538,824 in 2006, more than twice the average for the five hundred largest U.S. corporations, while CEO Angelo Mozilo himself made $48 million, not including gains on stock options. In the two years prior to the housing market crash, independent board members cashed out more than $24 million in stock gains.
• The board of Lehman Brothers included “a theatrical producer, the former CEO of a Spanish-language television company, a retired art-auction company executive, a retired CEO of Halliburton, a former rear admiral who has headed the Girl Scouts and served on the board of Weight Watchers International, and until two years before Lehman’s downfall, the 83-year-old actress Dina Merrill.”  In a September 2008 conference call, Lehman CEO Dick Fuld told analysts: “I must say the board’s been wonderfully supportive.”  Four days later Lehman filed for bankruptcy.  Lehman shareholders, represented by the board, lost more than $45 billion.

Unfortunately, in the annals of modern corporate governance, those are not isolated cases.  Gillespie (an investment banker who has worked at Bear Stearns, Lehman Brother and Morgan Stanley) and Zweig (a journalist who has worked at Time Inc. and Dow Jones), put forth an abundance of evidence to support the stereotype of a modern-day corporate director – typically an over-compensated, under-challenged former corporate executive (or former government official) who never argues with management and votes to reward CEOs and senior executives with multi-million dollar salaries and bonuses even as the companies themselves all-too-often spiral into oblivion, damaging the lives of real people, including employees and shareholders.

The subject is truly anger-inducing, and rest assured Money for Nothing will make you angry (or reinforce your existing anger) about the current state of corporate governance.  But if policy-makers and the business community are going to set a corrective course for the 21^st century corporation, it’s critical that we get beyond the anger and begin to pick apart issues while creating new definitions for accountability.  Money for Nothing succeeds at that as well.

(Listen to Money for Nothing co-author John Gillespie on a Business Ethics podcast.  You can download an MP3 audio file of the program here.)

Defining the Job

Corporate directors have existed, and been criticized, for hundreds of years; forty years ago  Harvard Business School professor Myles Mace characterized them as “nothing more or less than ornaments on the corporate Christmas tree.”   More recently – in the wake of scandals at Enron, WorldCom, Tyco and others - the Sarbanes Oxley Act of 2002 introduced a number of reforms aimed at improving the effectiveness of boards for U.S. companies.

In fairness, most large global enterprises consider governance a top priority - IBM and Coca-Cola are among those that come to mind – and work hard to improve the performance of their boards.  And these days, especially with the threat of litigation, directors who take their jobs seriously can sometimes confront a formidable task.  Increasingly, report executive recruiters, the best director candidates don’t want the job.

Perhaps most disconcerting for directors themselves, Gillespie and Zweig suggest, is the intense public debate about the role of corporate governance in the modern-day corporation.  Should directors be encouraging management primarily to increase shareholder value?   If so, how important are near-term profits and short-term stock performance?   What about long-term sustainability of the enterprise? And how does one incorporate the many demands of multiple stakeholder groups, including employees, local communities and a panoply of activist groups dedicated to particular causes?   Juggling those priorities requires directors with a far-sighted mind-set and ethical core that allows for day-to-day constancy and the ability to make difficult decisions amidst extraordinary circumstances.

In Search of Solutions

The authors recommend a number of solutions aimed at changing boardroom culture. The most radical might be the creation of a new class of directors – “public directors” – an idea first proposed in the 1930’s by William O. Douglas, then head of the Securities and Exchange Commission (and later a U.S. Supreme Court Justice) and adopted more recently by some experts in governance.  Public directors would be identified as such by a government entity, independent of the company, and constitute a minority of the board.  To ensure objectivity, the authors suggest, independent directors might even be paid independently, maybe by an assessment on large companies or even publicly.

Other suggestions include creating a director training consortium; insisting on greater diversity of board members; imposing term limits; limiting directors to serving on three or fewer boards; and requiring that directors “put skin in the game.”  This latter recommendation, which has been proposed before (by governance expert Charles Elson and others) would require directors to have a “meaningful percentage” of their net worth invested in companies they serve – maybe to 6 percent, depending on the number of directorships they hold.

Probably the biggest check on board behavior, though, is the power of shareholders.  Among other recommendations, the authors suggest allowing shareholders to call an Extraordinary General Meeting in which a majority of those voting may remove directors.  It’s a practice allowed in the United Kingdom and other countries, but difficult to imagine being implemented in the U.S.

Despite the horror stories they report, in their final analysis Gillespie and Zweig seem reasonably optimistic about the future. “Boards can play the single most effective role in advancing the future opportunities and prosperity of our families, our communities, and our country,” they write. “If we expect and demand more of them, they will rise to that challenge and answer that call.”

Too Big To Fail: The Inside Story of How Wall Street and Washington Fought to Save the Financial System from Crisis - and Lost

by Andrew Ross-Sorkin

Reviewed by Michael Connor

As the drama unfolds in Too Big to Fail, Andrew Ross Sorkin’s sensational fly-on-the-wall chronology of the 2008 financial crisis, it becomes clear that not all millionaire bankers are alike.  Some are more observant than others.

JP Morgan CEO Jamie Dimon, for example, understood why Treasury Secretary Hank Paulson couldn’t come to the rescue of investment banking giant Lehman Brothers in September 2008.  As he paced the bank’s 49^th floor executive dining room, Dimon explained to his JP Morgan colleagues that the American public would not accept yet another financial bailout, according to Sorkin’s account.

“They want Wall Street to pay,” Dimon said. “They think we’re overpaid assholes.”

Dimon’s off-color but accurate observation is but one example of what makes Too Big to Fail too good to put down. Chock-a-block with color and detail, it follows in the tradition of great business thrillers like Barbarians at the Gate by Bryan Burrough and John Helyar, and James B. Stewart’s Den of Thieves.  Sorkin, a business reporter for the New York Times, doesn’t exert much energy exploring how the global financial system came to the brink of collapse (“If we don’t act boldly, we could be in a depression greater than the Great Depression,” Paulson tells President George Bush); nor does Sorkin provide the intellectual framework for a discussion of concepts such as “moral hazard,” by which the possibility of financial rescue creates incentives for business to pursue irresponsible risk.

But he doesn’t have to; the players tell the story.  Even as Jamie Dimon explained to colleagues why no bailout was in the offing, Sorkin recounts how Lehman CEO Dick Fuld believed until the very end that his firm would be rescued, probably through an investment by a rival bank with the support of the Federal Reserve Bank or the U.S. Treasury.  But he was dreaming, according to Sorkin.  Treasury Secretary Paulson told rival bank executives, assembled at the New York Federal Reserve Bank in downtown Manhattan, why Lehman’s Fuld had not been invited to a critical meeting. “Dick is in no condition to make any decisions,” Paulson announced. “He is in denial.” Paulson called Fuld “distant” and “dysfunctional.”

The irony is that the politically astute Jamie Dimon was ultimately wrong while the dysfunctional Fuld had it sort of right.  The Fed and the U.S. Treasury did provide hundreds of billions in bailouts; Fuld’s problem was that none of it was for Lehman Brothers.  After first brokering a deal for the sale of investment bank Bear Stearns – and then letting Lehman Brothers drift into bankruptcy - the federal government provided massive guarantees and investments for mortgage behemoths Fannie Mae and Freddie Mac, insurance giant AIG and the carmakers GM and Chrysler.  With its Troubled Assets Relief Program (TARP), the federal government became an investor-owner in virtually all the nation’s top banks.

One frightening lesson in Too Big to Fail (and there are several) is that regulators and bankers were making up the rules, and frequently discarding them quickly, as the crisis-of-confidence in the global banking system expanded and deepened. Financiers and government officials alike were ambivalent as to whether banks and investment firms should have been allowed to fail in 2008.  With the federal government allowing Lehman to fail, then abruptly moving to save others, Democratic Rep. Barney Frank jokingly declared that Sept. 15 should be declared “Free Market Day.”  “The national commitment to a free market lasted one day,” he said.  “It was Monday.”

Was the crisis a systemic failure of the financial system, or primarily a panic?   Or perhaps a bit of both?  Lehman’s Fuld blamed short-sellers and financial market speculators.  Most economists now blame a decades-long national credit binge, coupled with lax (or no) regulation, and incentives for business to assume irrational risk.   Fueling all of those, Sorkin suggests, were insanely wild compensation levels for bankers.

An “astounding” $53 billion, for example, was what the financial industry paid its workers in 2007, according to Sorkin.  At Goldman Sachs, the average Goldman employee earned $661,000, with the firm’s CEO, Lloyd Blankfein, pulling in $68 million. While Goldman co-president Jon Winkelreid had paychecks totaling $53.1 million in 2006 and $71.5 million in 2007, he was nonetheless experiencing a “cash flow” crisis in 2008 as the result of spending on a Nantucket waterfront estate and a Colorado ranch, among other luxuries.  But Goldman wasn’t unique; Barclays Capital, CEO Bob Diamond earned $42 million in 2007.

As the financial crisis spread, that perspective was maintained. During one negotiating session, Morgan Stanley banker Wallid Chammah, who owns a Manhattan town house that has its own doorman, served $180-a-bottle Bordeaux to “help settle the mood while keeping things proceeding” in takeover discussions with Lehman.  Even Lehman’s bankruptcy lawyer, Harvey Miller of the Weil, Gotschal & Manges, billed $1,000 an hour for his services.

In addition to an intentionally lax regulatory environment, Sorkin suggests, there was also incompetence.  Taking a body blow to his reputation is Christopher Cox, chairman of the Securities and Exchange Commission during the meltdown.  When it came time for a call from Wall Street’s chief regulator to press Lehman to file for bankruptcy, Sorkin reports, Cox, “for whom Paulson had very little respect to begin with, was proving how over his head he really was.”  According to Sorkin, Paulson told Cox: “You guys are like the gang that can’t shoot straight!  This is your fucking job. You have to make the phone call.”  (Cox’s viewpoint is not reported.)

“They were trying to save themselves from their own worst excesses, and, in the process, save Western capitalism from financial catastrophe,” writes Sorkin.  Corporate and personal reputations and livelihoods were on the line.  Lehman CEO Fuld, a hardened Wall Street fighter, emerges as a sad character.  The tension and physical wear and tear take their toll on Treasury Secretary Paulson, himself a tough former Goldman banker.  On one occasion, Paulson felt light-headed and nauseated: “From outside his office, his staff could hear him vomit.”   On another occasion, Paulson retreated to House Speaker Pelosi’s office: “Hurriedly pulling a trash can before him, he began having the dry heaves.”

In the end, Sorkin provides no prescriptions or remedies.  In fact, he writes, the outlook is gloomy:  “Washington now has a rare opportunity to examine and introduce reforms to the fundamental regulatory structure, but it appears there is a danger that this once-in-a-generation opportunity may be squandered.   Unless those regulations are changed radically – to include such measures as stricter limits on leverage at financial institutions, curbs on pay structures that encourage irresponsible risks, and a crackdown on rumormongerers and the manipulation of stock and derivative markets – there will continue to be firms that are too big to fail. When the next, inevitable bubble bursts, the cycle will only repeat itself.”

The question, of course, is whether the outcome – so painful in 2008 – would be survivable next time around.   Too Big to Fail provides an important warning.