OT – Bottom 50% of America holds 1% of wealth

[Anonymous]

[quote=davelj]One big market failure is executive compensation at public companies.

[CEOs and boards are a circus of incompetence and inbreeding …]

Which is why, in my view, public companies are to be generally avoided if at all possible.[/quote]

That one helluva constraint on an investment strategy. I’m not sure how most ordinary investors would implement that approach, and I have serious doubts that such a strategy would really result in a better ROI.

[quote]So while I certainly prefer situations in which a pure market determines value… there are a lot of situations in which folks manage to do their damndest to make certain that doesn’t happen. Executive compensation is a good example, which fits in with the theme of this thread.[/quote]

Unions are another good example, but let’s not go there…

We love to hate CEOs, and I too have been puzzled by many of the choices made by boards. But let’s play pigg and bring some actual data. We don’t need much to make the key points.

What percentage of a typical large company’s profits go to CEO compensation? In other words, even if the “value” of a CEO was “zero” and we took all of their compensation away to reflect that, how much difference would it make to the bottom line of the company?

To use some rough numbers:

I found that the average CEO pay at the S&P500 is about 10 million, which means that CEO compensation costs the S&P500 about $5 billion per year.

The total income annual income for the S&P500 is about a trillion dollars.

So, in the aggregate, CEO compensation accounts for about half-a-percent of the total income of these corporations.

These data I’m using is pretty rough, but even if the numbers were off by quite a bit, the point is still made. CEO compensation just doesn’t impact investment returns much at all (their performance does, or course, but that’s a different issue.)

If we want to claim something is an economic problem, then we have to have some objective way to measure the magnitude of the problem. CEO pay rates very high on the “distasteful” scale, but the actual economic impact of their compensation – even if it were 100% “waste” – is insignificant.

[Anonymous]

[quote=CA renter]The “crisis” isn’t just about the FBs losing their McMansions and granite countertops. In case you’ve missed it, there is a huge debt overhang that is threatening most of the developed countries in this world. We’ve already seen lots of riots where many people have been badly injured and killed. This is the result of your “markets,” and it’s only going to get worse as time wears on.[/quote]

Riots in Europe have been the norm for hundreds of years. “Many people” injured or killed in a population of more than a billion is hardly a world crisis. I know you prefer to ignore world history in your arguments, but Europe is more peaceful today than it ever has been.

(BTW, they aren’t “my” markets, but I’d gladly take credit for them if I could. I didn’t create them, many people much smarter than me figured it out long ago.)

I’m still waiting for some answers to my basic economic questions:

If we don’t use markets to set prices, then how do we do it?

Who decides the “value” of things?

Got a solution?

[dumbrenter]

Davelj, you pointed a good example where a ‘cartel’ can tweak the outcomes in their favor. Does your example hold in cases where over 50% of a public company is held by a few individuals?
Also you got me interested about avoiding public companies….where else does an investor go if equity & bond markets are to be avoided?

[quote=davelj] I’m a big fan of markets – I used to be a small-l libertarian and I still have a great fondness for markets. But they don’t work ALL the time and it goes beyond just the textbook cases of market failure (e.g., pollution).

One big market failure is executive compensation at public companies. Public companies are fantastic vehicles for looting. Ownership tends to be fragmented and most large institutional shareholders place greater value on the information that management provides them than they do on proper governance. And the trading is such that there are very few “owners” and lots of “renters,” which is perfect for management. Consequently, it’s very unusual – although not unheard of – for investors to stage a coup (there almost has to be gross negligence involved). The boards are typically hand-picked by management and championed to the nominating committee. And of course the board fees are so lucrative relative to the time commitment that most decisions, including compensation, are rubber stamped. It’s really a complete joke. Once in a blue moon someone like Icahn will come along and shake things up but that’s the dramatic exception to the rule. So, I’d say executive compensation within public companies is a pretty big market failure as a result of internal control fraud. The shepherds (mutual funds, hedge funds, etc.) render the ultimate owners (the investors in those funds) impotent… and management runs roughshod over the lot of them. Which is why, in my view, public companies are to be generally avoided if at all possible.

So while I certainly prefer situations in which a pure market determines value… there are a lot of situations in which folks manage to do their damndest to make certain that doesn’t happen. Executive compensation is a good example, which fits in with the theme of this thread.[/quote]

[Anonymous]

What makes you think that CEO/board shenanigans don’t occur in private companies also?

Investment in private companies has plenty of its own risks.

Take a moment and think about why there are “public” companies in the first place.

[UCGal]

I heard a good description of what might be a factor in exec compensation.

Boards are made up of execs from other companies… so they have a vested interest in seeing exec pay go up, overall.

Plus there’s the ego thing. They do these compensation surveys that shows median and average exec comp for similar companies. They will never pay LESS than average because it stands to reason that *their* exec is exceptional… why else would they have hired them. So, that drives the median/average up since all companies want to pay extra for their exceptional execs. To pay less would be to admit that their execs are just average, and not exceptional.

Too bad that doesn’t work for engineering salaries.

[davelj]

[quote=harvey]
What percentage of a typical large company’s profits go to CEO compensation? In other words, even if the “value” of a CEO was “zero” and we took all of their compensation away to reflect that, how much difference would it make to the bottom line of the company?

To use some rough numbers:

I found that the average CEO pay at the S&P500 is about 10 million, which means that CEO compensation costs the S&P500 about $5 billion per year.

The total income annual income for the S&P500 is about a trillion dollars.

So, in the aggregate, CEO compensation accounts for about half-a-percent of the total income of these corporations.

These data I’m using is pretty rough, but even if the numbers were off by quite a bit, the point is still made. CEO compensation just doesn’t impact investment returns much at all (their performance does, or course, but that’s a different issue.)

If we want to claim something is an economic problem, then we have to have some objective way to measure the magnitude of the problem. CEO pay rates very high on the “distasteful” scale, but the actual economic impact of their compensation – even if it were 100% “waste” – is insignificant.[/quote]

harvey, c’mon… this is a massive straw man argument. Of course you’re right here but the point of this thread is wealth/income inequality, which is why CEO, and to a larger extent senior management, compensation in general, is an issue. This graph just covers CEO compensation but you’d see the same trend lines with slightly lower ratios if the graph was labeled “Ratio of Senior Management Compensation to Average Worker Compensation.”

CEOs distance themselves from the average worker

The problem is not one of its impact on corporate profits. The problem is a social one – you have a group of senior executives at the vast majority of public companies who are dramatically overpaid relative to their contribution to the company, which engenders greater income inequality… which is bad for society. Yes, capitalism is going to lead to some degree of income inequality – that’s inevitable – and not an altogether bad thing. But when “crony capitalism” leads to the *dramatic* level of inequality that we see today… that’s bad policy for everyone, in my view, because the masses get restless, with all that implies.

In hindsight, although they weren’t capitalists, I’m sure the Romanovs wished they had been a little more generous with their own ill-gotten lucre. Personally, I’d rather pay higher taxes and have a civil society than spend my time looking over my shoulder.

[davelj]

[quote=harvey]What makes you think that CEO/board shenanigans don’t occur in private companies also?

Investment in private companies has plenty of its own risks.

Take a moment and think about why there are “public” companies in the first place.[/quote]

CEO/board shenanigans do occur at private companies… it’s just considerably more unusual. Most private companies have concentrated ownerships, and these owners tend to be pretty vigilant on matters of corporate governance because they don’t have the luxury of liquidity that public companies provide.

Public companies exist largely because owners want to cash out in part or in whole – or have a liquid holding that they can sell more easily in the future. That’s the *real* reason *most* public companies exist (that is, go public via IPO). The *purported* reason – contradicted by the empirical evidence – is that these companies need access to the public markets for less expensive capital. This latter reason is certainly valid in certain cases – no doubt about it – but it’s not the *primary* reason that most companies are public. Take the average public company and see how many times over a five year period they need to access the public markets for long-term debt or equity that they would have paid considerably more for if they were private. In percentage terms the number is not that large. And in this day and age, many small companies, if they are successful and have proper governance, can access the public debt markets (and even equity markets in many cases) on the same terms as their public brethren.

So, public companies exist *primarily* because owners want to cash out (in the early stages) and managers want to loot (after the company’s mature)… and there are plenty of new owners who will enable them in this process. Other more “legitimate” reasons exist as well (as discussed above)… but these tend to be secondary.

[Dougie944]

squat250

Send me a private message describing the invention and I will take it from there.

Doug

[CA renter]

Very good posts, davelj.

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