Wealth Shift: The Decline of Ethics in America
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Lesson #1 – I Am All That Matters To Me

Life is more hectic, more fast-paced, than it has ever been before. Along the way, we get so caught up in our efforts to win our games and gather our bounty that we forget one simple indisputable fact – sooner or later, no matter how much stuff we’ve been able to accumulate for ourselves, we are all going to die. And then what? Yes, we can argue until we are blue in the face about whether we will eventually end up in Heaven, or Hell, or nowhere at all. But that still won’t alter the truth that no matter what happens to us after we die, our impact on the whole, the main, will remain behind as our legacy to mankind.

We may say we care about what happens to others, but you’d never know it from the way we conduct our lives. And while Ponzi scheme operators like Bernie Madoff and Alan Stanford have been getting a lot of press lately, they are merely today’s poster boys for a much bigger problem that we have all been ignoring for far too long. We exorcize our anger demons by calling for the prosecution of people who have been swimming without shorts, but we do nothing about the behavior of people (including ourselves) who are out there swimming without a conscience.

Look at the way CEO salaries have been escalating over the past 25 years. During the period from 1980 to 2005, average CEO salaries have increased tenfold. CEO salaries, on average, are now 433 times that of the average worker. In terms of current executive pay relative to other economically challenging periods in history, the top 10% of Americans collected 48.5% of the income in 2005, compared with 49.3% in 1928 and 33% in the late 70s.

If you look closely at the following chart, it clearly demonstrates that the disparity in wealth between the top 1% of wage earners in America and the rest of society has not been this great since 1928, the year preceding the stock market crash of 1929. Things are going south for the economy right this very minute, and yet there are still those of us who refuse to see a correlation between income disparity and economic distress. Those of us in business have clearly abdicated our leadership roles in equalizing incomes and providing education, health care, and retirement benefits to our employees in favor of year-on-year share price accretion, yet we balk at the thought of having to pay higher taxes to ensure the continuation of a minimum standard of living in America. We decry big government and criticize President Obama for instituting Robin Hood policies, all the while refusing to acknowledge that a Robin Hood, such as he, only becomes necessary when a Sheriff of Nottingham has been running the show.

Think I am casting stones at innocents? Think again. Executive compensation in the 21stcentury is not just extremely high, it is also an incredibly complicated and poorly communicated Wealth Shift maze made up of many different things besides cash. While some fifty years ago CEOs and other highly compensated corporate officers and directors were compensated strictly in cash, they are now treating themselves to a wide array of perks including, but not limited to:

1) Stock options

2) The personal use of corporate aircraft and facilities in exotic locations

3) Limousines and drivers

4) Subsidized personal offices and personnel away from the corporation’s headquarters

5) Golf and other kinds of club memberships

6) Cash “tax-offset payments” to cover the maximum potential tax liability associated with reporting all these luxury items as income on their personal tax returns (irregardless of whether they actually have a tax liability that year or not)

“But wait a minute,” you might say. “Why are CEOs and other executives taking their compensation in the form of all these over-the-top “perks” instead of merely receiving cash? Aren’t all these different programs fairly expensive for the company to administer? Wouldn’t cash be so much simpler for everyone?”

Yes, of course it would. But executives have figured out that if you break up the components of your compensation and disclose the scattered bits on a piecemeal basis throughout a company’s complex financial statements and seldom-read proxy statements, you can befuddle shareholders and the public in general about the total cost of your compensation. Not only that, but if executives just got cash they wouldn’t get any of their financial “kickers” – all those little hidden extra “something-somethings” they get for structuring it “this way” as opposed to “that”. And all those little hidden extras are actually Wealth Shifted extras, because too few shareholders are sophisticated enough to even understand them, much less gather together the coalition they would need to stand up and say they are no longer willing to pay for them.

Let me give you an example of the kinds of “kickers” I’m talking about. For one thing, cash is taxed currently as income, while an increase in the value of an executive’s stock options is not. This allows executives to defer the income tax on this component of their compensation until the option is actually exercised, thereby allowing their investment in the company to grow bigger than it would have if they had simply gotten cash, paid their appropriate taxes, and then invested “the net” in the company (the way any other employee who wants to invest in the company outside of his 401(k) has to do). To put it more simply, stock options allow an executive all the benefits of a 401(k) without any of the limitations of a 401(k). Who else in the company gets that?

Stock options are also kickers in-and-of-themselves because the true cost of an executive’s options is not capable of being calculated until such time as they are finally exercised -when it’s too late for shareholders to do anything but gasp at the magnitude of the award. And while we’ll talk more about the flaws of stock options in the next chapter, the point I’d like to make here is this: Who in their right mind would ever willingly agree to pay someone a salary that can’t be presently quantified? Who else in the company would ever be entitled to that kind of deal?

But that’s not all. Thanks to certain legislative loopholes, many perks are not reported as income to the executives based on that particular perk’s “actual” cost to the company. Rather, all the world really sees is the “imputed” (usually much, much less than actual) benefit of these perks. The personal use of corporate aircraft is a prime example of this type of legislative sleight of hand. While the true cost of an executive’s personal use of the company’s plane might be upwards of a million dollars a year, the company only has to report as compensation the executive’s SILF (Standard Industry Fare Level) rate associated with those flights, which is just slightly more than commercial first class airfare. (Interestingly enough, this is a lesson that the business big-boys learned from the political big-boys, who dreamed the whole thing up in the first place.) The problem with corporate planes is not that companies maintain them to maximize executive efficiency.

It’s that they have to keep extra planes around just to satisfy the personal travel needs of the executives, their families and their friends. Once again, who else in the company gets that? Some perks are not required to be reported at all. If an executive “needs” an additional office and staff somewhere other than at the company’s corporate headquarters, the company pays for that extra office and secretary as an “ordinary and necessary business expense”. As a result, it never even sees the light of day in the compensation section of the company’s proxy statement (unless there is a “personal use” portion associated with it).

“But wait a minute,” you say if you are an executive. “My perks aren’t Wealth Shift perks! Everything I’ve ever gotten was fully disclosed in the financial statements.”

Really? Was it? Do you honestly think your shareholders and the general public had a previous understanding of any of the things I’ve been talking about here? (And please don’t say it’s not your fault if they fail to read the “fine print”.) No? Well, then your particular perks are Wealth Shifted perks. Why? Because in order to negotiate compensation in a fair and arms-length way, your employers must be given the straight-shooting, up-and-up truth about what they are going to actually end up paying for your services. In other words, compensation determined in the absence of completely transparent truth is, most definitely, Wealth Shifted compensation.

Unfortunately, there is not one ounce of funny in all of this. Many executives are currently exhibiting a magnitude of greed not seen in this country in 100 years. They, personally, are taking home the big bucks while at the same time patting themselves on the back for instituting cost-cutting measures that are creating all sorts of latent hostilities and passive-aggressive resentments in their rank-and-file employees. Is it any wonder, then, that executives have recently begun adding millions of dollars worth of “personal security” and life insurance to their list of required “perks”?

An interesting story from the annals of robber baron history is that of Henry Clay Frick (1849-1919), who made a vast fortune along with Carnegie and Mellon during the Industrial Revolution. Frick, who at the age of 21, vowed to become a millionaire by the age of 30, was the largest producer of coke from coal at a time when coke was necessary for the production of steel. Although Frick is now known primarily for the museum which houses the furniture and art he left behind, he was also responsible for two significant “I am all that matters to me” events in history that resulted in an unnecessary loss of life. In 1889, Frick’s South Fork Fishing Club failed to take the responsibility for maintaining the dam it built to create the private Lake Conemaugh, which resulted in the infamous Johnstown Flood and the loss of more than 2,200 lives. Three years later, Frick was also directly responsible for the tactics used by Pinkerton agents to subdue the Homestead Steel Strike of 1892 in which seven steel workers were killed (an event which also resulted in a major falling-out between Frick and Andrew Carnegie).

On July 23, 1892, in direct support for the public outcry resulting from Frick’s actions in the steel strike, a Russian immigrant named Alexander Berkman entered Frick’s office in downtown Pittsburg armed with a revolver, a steel knife, and a capsule of mercury fulminate. Berkman shot Frick twice in the neck before being subdued by the then-VP of Carnegie Steel, John Leishman. Despite profuse bleeding, Frick counter-attacked Berkman, who was somehow able to successfully stab Frick four times in the leg before additional Carnegie Steel employees were able to pull the two men apart.

Frick reportedly yelled, “Don’t shoot, leave him to the law. But raise his head and let me see his face.” It was at this point that Frick realized Berkman was chewing on a mercury fulminate capsule that would have blown them all to Kingdom Come had Frick not been so overcome with anger that he wanted to look his assailant directly in the eyes.

Needless to say, Berkman went to prison for his attempt on Frick’s life. But an interesting postscript to the story is what happened 27 years later, just shortly after Frick died from heart failure at the age of 69. Upon hearing that Frick had died, Berkman (who through the efforts of labor unions had been paroled from prison and was awaiting deportation) commented that Frick had been “deported by God”. He then went on to wryly muse that at least Frick had been deported first.

Other famous personages of the Robber Baron Era understood far better than Frick that you can’t just go around making people angry with your cavalier attitude toward the rest of humanity (that is, if you prefer to live freely and not behind the walls of a gated community). Their personal histories prove that at least some of the people who made a fortune during the Industrial Revolution realized their responsibility for the people whose lives were inextricably intertwined with their own.

George Vanderbilt and his wife, Edith, left behind an outstanding legacy of land husbandry and human kindness which is still being carried out today by their great-grandson, William Cecil, Jr., the current CEO of the privately owned and (under his management) profitable Biltmore Company. Although they may have spent a pretty penny building a magnificent mansion in Asheville, North Carolina, George and Edith Vanderbilt didn’t just sit on the porch once it was done. George also brought modern land management techniques to a farmed-out and impoverished region, and Edith took an active interest in the lives of the people who worked on the estate by personally visiting workers who were sick and hand-selecting Christmas presents each year for every single child. It is clear from numerous historical accounts that the Vanderbilts took their responsibility for patronage seriously, and are remembered with reverence for it. The funny thing about legacy is that, if you establish a good one, your descendants will want to work hard to carry it on. Bill Cecil Jr., who is a modest-living person by all accounts, has found something far more important to do with his life than simply sip champagne and nibble caviar.

“My goal, as the estate turns 100 years old, says Cecil on the Biltmore’s website, “is to do everything I can to preserve it for the next generation, keeping it privately owned and self-supporting. Neither government agencies nor non-profit organizations can or should have the burden of preserving this National Historic Landmark with taxpayer dollars. The current system would make it impossible for a governmental or non-profit entity to pay the bills, because admission revenues cover only about 60% of our operating expenses. The balance – which we gain through food service, retail, reproductions and wine sales – is called ‘other income’ and is taxed. I firmly believe preserving a part of our cultural heritage as important as Biltmore is worth fighting for. And I’ve never been one to accept “it can’t be done” as an excuse.”

Warren Buffett is another modern-day example of a philanthropist who doesn’t care a fig about sitting atop a pile of money. His annual salary in 2006 was $100,000. He still lives in the modest four-bedroom house he bought in 1958 for $31,500, drives a Cadillac DTS, and, when he finally broke down in 1989 and bought a private corporate plane, he at least knew it was contradictory to his stated philosophy and aptly named it The Indefensible.

His plan to give away the vast majority of his wealth to charity and his views on inheritance are widely publicized. To quote Buffett, “I want to give my kids just enough so that they would feel that they could do anything, but not so much that they would feel like doing nothing.” As a corollary to this, Warren Buffett is so respected by his employees that one of them has even gone so far as to frame every complimentary post-it note she has ever received from him. Now that’s a legacy.

In contrast to Cecil and Buffett, if you look at the compensation packages of most of the officers and directors of companies in America today, the figures boggle the mind. Steve Jobs, CEO of Apple, took high honors on Forbes magazine’s May, 2007 list of most highly compensated CEOs with a whopping six-year average annual compensation of $122,360,000 (no decimal points).

As I’ve said before, not all compensation is Wealth Shift compensation. There is no stone-carved, dollar-figure acid test for determining Wealth Shift. Nor can anyone else judge the heart of another person and say what motivates their behavior. But we can hold the mirror up. For the reason that Jobs is the highest paid executive in the United States and no other, I’ve chosen him to analyze as a person who may want to take a harder look at ‘The Guy in the Glass’.

All right, let’s get started. First, let’s give Jobs the benefit of the doubt and assume he is a highly-dedicated CEO who puts in, on average, 70 hours per week at work. This translates his annual salary into $34,960 per hour or $582 per minute. That’s the equivalent of almost 6,000 minimum wage workers. Also, most of Job’s compensation is in the form of stock options. Since an executive’s stock options are not simply a onetime hit to earnings the way cash would be, but are, instead, both delayed and dilutive of the earnings per share that all the other shareholders will receive in perpetuity, it is impossible to quantify the future cost to the shareholders of all those options, once exercised.

From an ethical standpoint, it is important that Jobs test himself as to whether he is truly worth such a lofty compensation package. Jobs needs to do the hard work of finding out how his compensation stacks up against that of other employees at all levels of Apple’s corporate structure. He should force himself to justify out loud and to the mirror, the method used to determine how total compensation is allocated throughout the company. He needs to look himself in the eye and find out how well he is wearing the mantle of patronage. Does he know how his people are faring at all levels of the company? How is the current real estate situation in California, as well as the price of gas, utilities and food, impacting the people whose lives are so completely intertwined with his? What is Jobs going to do personally, as the patriarch of his company, to proactively address the situation? To educate and help his people?

From a Wealth Shift standpoint, Jobs should also be willing to take a good hard look at how, and by whom, his compensation is determined. Have the various components of his compensation been transparently communicated and fairly determined by people who don’t have a conflict of interest? Jobs and every other highly-compensated officer and director in this country knows that there is no democracy when it comes to determining compensation (despite past efforts on the part of the SEC to give shareholders that right). Instead, complex executive compensation packages such as the ones we have already discussed are determined by a compensation committee which is often far from unbiased. (Although shareholders do vote to ratify the actions of the committee, it is not hard for executives to garner -from insiders, fund managers, and trusting, lemming-like shareholders who have blindly checked the “for” box recommended by the directors -the majority needed to ink up the rubber stamp.)

In examining his compensation, Jobs should also be willing to do the research necessary to see how his pay stacks up against that of other CEOs. In the same 2007 Forbes Special Report on CEO compensation, Jobs ranks 36th out of 189 in efficiency (determined by share-price accretion), turning in a six-year annual return to shareholders of 42%. Conversely, Barry Diller, the CEO of IAC, who ranks 3rd in pay with average annual compensation of $85.880,000 is 177th out of 189 in efficiency, with a six-year annual return of 8%. Why, in comparison to Barry Diller, Steve Jobs looks like an absolute paragon of virtue!

But Jobs should not gather his information selectively. He shouldn’t just measure himself by the compensation of the CEOs who are less effective than he is. He needs to also consider the compensation of the CEOs who are more effective than he is. Take, for example, Margaret C. Whitman, the ex-CEO of Ebay, whose six-year average compensation was $1,670,000 while experiencing a six-year annual return of 22%. Ranking 376th in pay and 5th in performance, Ms. Whitman’s compensation was 14% of Jobs’ while she was not less than half as effective.

There are other CEOs besides Meg Whitman who have been willing to limit their compensation packages despite the effectiveness of their performance. Jeff Bezos (Amazon; $620,000/year) is another such individual. True, Bezos is an original shareholder in the company that he founded, but that doesn’t mean that the services he performs as CEO are worthless. They do result in incremental value to shareholders other than himself.

But the 2007 Guy in the Glass Award for compensation structure really goes to John Mackey, the CEO of Whole Foods, whose 6-year average compensation was $2.18 million on 6-year annual shareholder returns of 29%. Ranked 365th in pay and 13th in effectiveness, the reason Mackey gets the award is because of the strictly adhered-to “conscious capitalism” policies that he has established for his company. Whole Foods makes no secret of the fact that its success is due in large part to the way that management walks its talk. With a compensation structure that limits any one employee’s compensation to no more than 19 times the company average, and which grants 93% of its stock options to non-executives, there is no question that Mackey (who personally owns less than 1% of the company) is not a CEO who practices Wealth Shifting compensation techniques.

Steve Jobs has said that he loves what he does so much that he’d do it for nothing. But that’s not what I’m asking for, here. All I’m asking from Jobs (and any other highly compensated executive) is that he be willing to do the hard work to satisfy the Guy in the Glass that he is turning in as superlative a performance in the area of distributing compensation equitably throughout his company and maintaining transparency with his shareholders as he is on all the other areas of his business. If he is willing to do that, then I will certainly be the first person to stand up and congratulate him on a job well done and however-many tens of millions well-earned.

Although we should never leave it to the lowest people on the totem pole to teach the rest of us the true meaning of the word “generosity” and the principle of You Go First, I have found that many of the poorest people in this country often have the strongest ethics where money is concerned. To illustrated my point I will tell you the following story:

Last week I caught up with my yard guy, Ernesto, who is one of the most ethical people you would ever want to meet. In this world of dog-eat-dog, Ernesto is incredibly generous with his time. He’s been charging me $30/week for the past 5 years to mow and trim my property – a bargain by anyone’s standards. Anyway, as I said, I spoke with Ernesto and told him he really needed to raise his rates – to at least $35/week if not $40. I explained to him that I felt he should not have to absorb the increased cost of gasoline, and that it would be only fair for him to pass that along to me. Ernesto’s mouth couldn’t have broken out into a bigger smile. He nodded enthusiastically, saying “Customers just don’t understand, they don’t understand.”

I hate to break Ernesto’s faith bubble, but, yes, I’m sure they do. Unless they all ride bikes to work, I’m sure they all understand quite well. But, instead of doing the right thing, they are all just hiding out in their houses and hoping that Ernesto is either too stupid or too desperate to wise up. They all know they are taking advantage of him, but none of them want to step up to the plate and proactively pay him what he’s worth.

But sometimes doing the right thing surprises people, and reminds you that you have to give people the opportunity to surprise you back. It certainly surprised me. Because when I received Ernesto’s next bill he had raised his rates. To $32/week. When asked to hit me for a 15-25% mile, Ernesto had instead taken a 6.7% inch. And “so shines a good deed in a weary world” -to quote the great Willy Wonka (and William Shakespeare, too, of course). Ernesto may only be a little guy who stands about 5’4” tall, but in my eyes Ernesto is a very tall man. A very tall man indeed.

While I firmly believe that the pursuit of ethics is a personal struggle unique to each individual, executives need to remember that business ethics is a top-down concept and that there are some CEOs in this country whose ethics are so screwed up that there is simply no question, no question whatsoever, that they have lost their ethical moorings and need to be taken firmly in hand. No man is an island, and CEOs everywhere need to be willing to lead the charge to bring their contemporaries into line (before it gets to the point where the shareholders, the courts, and the government get involved). High-profile CEOs need to realize that they, as a group, are the most important ethical mentors of the entire country, and, therefore, should not only lead by example, but also be willing to be the first to hold the Wealth Shift mirror up when one of them does something that reflects discreditably upon all the others.

Business organizations like YPO (Young President’s Organization) should set ethical standards for membership and hold award ceremonies in which ethical mentors are lauded and ethical morons are roasted. CEOs should not be afraid of collectively speaking the truth to ensure the integrity of the whole.

Should I be given an opportunity to do so, I would have no problem identifying CEOs who qualify for what I would like to coin “The Wealth Shift Audacity Award”. While I did have a bit of trouble deciding which ethical moron to nominate this year (after all, there were SOOOO many), I finally decided upon Angelo Mozilo, CEO of Countrywide Financial Corp, who, on Forbes 2007 list, ranked #7 in terms of pay and #107 out of 189 in terms of performance.

Boy, has a lot happened since that list was published! For one thing, Countrywide’s share price went from $37.55/share to a mere $4/share before being acquired by Bank of America. I don’t envy Ken Lewis (the CEO of Bank of America) the lesson he learned from lying down with dogs, as shareholders now have a lawsuit pending against 14 of Countrywide’s then-executives, including Mozilo and his entire ethics committee. (In addition, Sen. Charles E. Schumer, D-NY, has called for an investigation by the SEC into the company’s lending practices.)

In defending himself, Mozilo has pointed to general economic trends as the reason for Countrywide’s demise. But with the altogether too coincidental history of his option exercises and stock trades, he will have a hard time proving that he had no idea of the risks he was encouraging his company to take, much less that he didn’t know in advance that his financial house was falling down around his ears. The prosecution is not going to have to call a Wealth Shiftician to prove to the jury that the real reason Countrywide failed was because Mozilo was a proverbial pig who built his corporate house out of straw and then ran away to an enormous brick mansion when the big bad economic wolf came.

Mozilo, had he been a competent CEO, an ethical CEO, a non-Wealth Shifting CEO would never have made the decision to sacrifice the long-term strength of his balance sheet for the short-term paper profits of points, closing fees, and interest spread on highly risky loans such as the ones that formed the foundation of Countrywide’s asset base. A wiser CEO would have run from, not embraced, ARM products like the so-called piggyback loans that permitted borrowers to buy a house without putting any of their own money at risk. A wiser CEO would never have allowed one dime to go out the door for a loan based solely on the appraised value of a house with no documentation or analysis whatsoever as to a borrower’s ability to repay.

So what could possibly have motivated Mozilo to do such a short-sighted thing? Was he in unfamiliar territory? Was he thinking straight? Or was he merely seeking to increase the short-run profits of his company and, by extension, the exercise price of his stock options? Could it really be possible that Mozilo made all these bad decisions that cratered his company simply to Wealth Shift for himself?

Ok, so perhaps Mozilo really did forget all the lessons about the cyclical nature of real estate that he learned during his nearly 40 years in the business. Perhaps he really did think that real estate values were going to go higher, and mortgage interest rates were going to stay lower forever. Or perhaps Mozilo is a believer in the “greater fool theory” (more on that, later) and he thought that he could wrap all his crap up in a nice little package and sell it off to someone else before the Wealth Shift hit the fan.

Or maybe, just maybe, Mozilo, who is 68 years old, just got greedy and stayed at the party of his own creation slightly longer than logic would have dictated. Perhaps, at the very last minute, he saw a way to rig the game to hit one last big, huge jackpot for himself. The facts certainly seem to indicate that he knew in advance that he was the captain of a leaky ship (one that he, himself, had poked all the holes in) and was looking only to the seaworthiness of his own personal lifeboat for the salvation of himself and his booty.

Mozilo may have been listed for 3 years running as one of the 30 most respected CEOs in the world by Barrons magazine, but one thing Mozilo will never be commended for is going down with the ship. In October, 2006 Mozilo modified his pre-arranged 10b5-1 trading plan, ostensibly to “reduce his stake in Countrywide and diversify his personal investments in an orderly fashion” in advance of his retirement in December 2009. (10b5-1 is a particular type of trading plan that allows a company insider to set up a program in advance for the sale of securities and proceed with such sales even if he/she comes into possession of significant nonpublic information. The SEC is currently considering revoking this type of plan due to its susceptibility for manipulation.) As a result of this “purely coincidental” modification, Mozilo was allowed to sell tens of millions of dollars worth of stock at the same time that he knew his company was having serious financial difficulties and was laying off 20% of its workforce.

But that’s not the end to Mozilo’s audacity. To clear his conscience, in negotiating his severance package Mozilo agreed to forfeit about $37.5 million dollars. He didn’t offer to give any of his ill-gotten gains back, or forgo close to $50 million in pension benefits, deferred compensation and company stock, however. In interview after interview, Mozilo insists that the housing bubble burst could not have been predicted. He has never once owned responsibility for the subprime mortgage products he helped to develop and push.

The icing on Mozilo’s audacity cake is Countrywide’s Code of Business Ethics, which is published proudly on their website and signed by Mozilo himself. All I can say after reading Mozilo’s “code” is: Mr. Mazilo, You Go First.

Countrywide’s Code of Business Ethics

Countrywide’s Code of Business Ethics reflects the company’s existing culture and serves as a guide for our directors, offices and employees in their daily activities. In all our business practices, we are committed to doing the right thing. As a result, Countrywide has a strong reputation for integrity with its customers, business partners, shareholders and its own employees. A culture of “corporate” ethics can only be built on a strong foundation of “personal” ethics. For this reason, we expect all of our directors, officers and employees to conduct themselves in a manner that reflects Countrywide’s commitment to acting ethically and in compliance with the law. Every director, officer and employee is held accountable for complying with this Code. The very nature of our business dictates a high level of respect for the confidentiality and privacy of customer and business partner information. We are also dedicated to ensuring the accuracy of our financial reporting and all other documentation that we prepare. We have strict policies prohibiting activities that conflict with the interests of Countrywide, our shareholders and our ability to provide surpassing service to our customers. As Countrywide takes its place among the foremost diversified financial services providers, we will continue to set the industry standard for excellence and integrity.

Sincerely,

Angelo R. Mozilo
Chairman and CEO Countrywide Financial Corporation

And that’s why Angelo R. Mozilo earns this year’s Wealth Shift Audacity Award and should be booed and hissed out of every restaurant, hotel, club house, association and private home through whose doors he steps until such time as he is willing to publicly apologize and make restitution. In the courthouse, he may be able to skirt his ethical obligation for his contribution to the American subprime mortgage crisis by saying that what he did conformed to the strict letter of the then-existing laws. But ethics has never been about merely complying with rules and regulations. Ethics is about doing the right thing even if there isn’t currently a law against the unethical thing you are tempted to do. You want a general rule of thumb? I’ll give you one:

We should never strive to be the person whose behavior results in the creation of a law deemed necessary to prevent others from following in our path.

Ethics isn’t just a catch-phrase to mouth whenever the mood strikes and you want people to think you’re a “good guy”. It’s work. It’s a daily job that goes with the territory, and if we feel we can’t live up to the responsibility then we shouldn’t take the job.

Remember, the third key ethical influence is our observation of the example set by other people as well as our perception of how appropriately society rewards or punishes their behavior. Unlike politicians and celebrities, who we neither trust implicitly nor strive every day to emulate, if our business mentors fail to live up to our expectations we are devastated. We get angry. We get passive aggressive and we Wealth Shift. We do in small ways the very same kinds of things we see our mentors doing in big ways.

Management compensation that is out of line with what we judge to be fair is a big issue for most employees. We compare perks. What’s a little Christmas shopping on the internet compared to the personal use of a private airplane? And who decided you needed corporate facilities in Hawaii, anyway? We think the “little” perks we Wealth Shift to ourselves here and there are peanuts compared to the “big” perks that management, in their own judgment, Wealth Shifts every day from the company’s shareholders. Since they are seen as the biggest Wealth Shifters of them all, CEOs and other executives are not in a position to preach to the masses. And so the masses not only feel they have a good excuse for Wealth Shifting, they are so angry that they use Wealth Shift as a means of retaliation.

Corporate officers, directors, and other highly compensated individuals need to raise the bar on their own behavior first if they are ever going to be able to effectively pass judgment on that of their employees. In this country we equate caring with sacrifice. If executives don’t care enough about the health of their companies to sacrifice a few of their own creature comforts for the good of the whole, then why should the rank and file employee be expected to do so?

When executives adopt the mantra of “I am all that matters to me”, it doesn’t matter whether the company performs well or poorly. In terms of respect, either way is a lose-lose proposition. If the company is performing well, employees think, “Why am I not sharing fairly in all this affluence?” If the company is performing poorly and people are being laid off, employees think, “This company is going to the dogs, but you’d never know it from the way management is still raiding the corporate coffers.”

Executives everywhere should imagine what it would be like to trade places for a week with one of their lowest-paid employees. Corporate executives need to walk the walk if they are going to talk the talk. They need to remember that good press never travels as fast as poor press, and they need to advertise the things they do that prove they care about more than just the money they can rake in for themselves.

Fisk Johnson is an example of a CEO who is not only committed to turning out quality products, but one who is also committed to inspiring both his employees and his customers by proudly advertising just how much his family’s personal ethics also drives his corporate culture. In Fisk Johnson’s own words, “S. C. Johnson focuses on achieving success while doing what’s right – right for the planet, right for people, right for the next generation”. Not surprisingly, S. C. Johnson and Son (which is privately held) has for the past seven years been ranked by Fortune Magazine as one of the Top 100 Companies to Work For.

Employers who are less astute than Fisk Johnson need to be very careful about the messages they are sending. Sometimes it might appear that the message you are sending is a good one. In fact, many executives mistakenly think that talking big about their charitable activities will impress their employees and make them feel charitable by extension. But in order to be a successful giver, a person has to first figure out what the recipient wants. Charitable imperatives that have no personal relevance to a company’s employees and, therefore, are not ideals that every employee can get behind, are more likely to engender bad will than good will. If I am sick and can’t afford to pay the high deductible on the company health insurance program you scaled back on, and you step over my prone body in your $5,000 tuxedo to get to the season premiere of a ballet charity that has no relevance to me whatsoever, I am far more likely to think of you as an insensitive ass than a patron of the arts.

Executives need to be careful not to rub their employee’s noses in the things they own that are the tangible proof of “I am all that matters to me”. You’d think this would be a no-brainer, but I see it all the time (yes, I did actually write this prior to watching the executives from GM and Ford fly to the Washington bailout hearings in their corporate planes).

I’ll talk specifics. One of my clients uses a picture of his yacht as the screen saver on his computer. Another drives a Ferrari to work. One of my past clients, a restauranteur, built a multi-million-dollar home on the shores of Lake Travis within sight distance of his biggest restaurant. To the client’s credit, he later realized this was a mistake, since employees who had previously only guessed at his wealth now faced a daily reminder of how much he had and they didn’t. A word of warning to the wise - employees today are litigious enough without dangling the bait in front of them.

Smart executives fly beneath the radar. Many executives of multi-generational family businesses whose last names are synonymous with the products they produce (like Johnson) hate to call attention to their wealth. They get embarrassed when members of the youngest generation speak publicly about their wealth, because it is important to them that the average person knows that this isn’t what they are about.

Along those lines, I remember one time in the early-80s when my family was on a camping trip in Arkansas. My mom needed a few supplies, so she sent my father and me to town to pick them up. When we went to the checkout stand, we got in line behind this old farmer-looking guy in overalls. I kind of felt sorry for the guy, having to work on a farm at his age. But when it came time for him to pay for his purchases, he pulled a huge wad of money from his pocket, rolled up and held in place with a wide, green rubber band. He peeled a couple of bills off the roll, took his change and bag, and walked out the door. Now our turn, my dad asked the cashier, “Do you know that guy?” “Why, sir,” she replied, “that’s Mr. Walton.” Of course it would have been. We were, after all, in Walmart.

CEOs need to take the time to explore their ethics fully and figure out which values they want their companies to espouse. And then they need to take the time to practice, not just preach, the ethics they have decided to adopt. I can’t tell you the number of companies out there that spend tons of time developing Mission Statements and Responsibility Statements and all sorts of similar reports designed to prove to the public what wonderful companies they are. Like Countrywide’s Code of Ethics, these reports often reveal a management team who is perfectly capable of talking good talk, while simultaneously falling far short of the execution required to walk the good walk. (Not surprisingly, the proxy statements for these companies often reveal that the only place management is really walking is through the highly-leveraged cash.)

In the fast-paced world in which we live, developing ethics and then taking the time to actually live them is much harder to do than one might suppose. In a well-publicized 1973 study by Darley and Batson, 90% of the divinity students at Princeton Theology Seminary who were rushing to give a speech on the Good Samaritan literally stepped over a planted victim on their way to give the speech. (Conversely, 63% of students in the study who were not given the same time constraint did stop to render aid.)

This study just goes to show that ethics is not something we can put on the back burner and leave unattended. We can’t allow ourselves to become so desensitized to our own wrongdoings that we trod all over our ethics on our way to the store to buy the various and sundry things we have been taught by advertisers to want. We are not born with ethics like we are born with the need to breathe. Ethics is something learned, and, therefore, it is something that requires constant vigilance and practice until it becomes second nature. And, even then, it requires an allocation of time and devotion to the principle of striving to see our own actions clearly.

It is often a good idea for executives to subject their actions to scrutiny by people they respect who already have impeccable ethics. All too often, CEOs and other managers surround themselves with “yes” men who are more concerned with collecting their paycheck or consulting fee then they are with being brutally honest. For this reason, the most valuable person in any CEO’s stable of advisors is that one person who is willing to risk his or her own future to tell a CEO what theirs will be if they keep on going down a certain path.

Although exercising good ethical judgment is definitely a personal call, we all need accountability partners who can tell us what we need to hear (not just what we want to hear) to help keep us on the straight and narrow. An accountability partner should be a person who:

1) Is privy to more points of view than just your own

2) Knows at least as much about the issues facing the company as you know yourself

3) Is technically qualified to give an opinion

4) Has a history of personal ethical behavior that is clearly beyond reproach

Again, this seems intuitive, yet in practice we rarely see it done well. Countrywide had an ethics committee during those years in which the company was making key decisions about what kinds of mortgage products it was going to offer for sale to the public. The pedigrees of the gentlemen who were on the committee were such that the average Countrywide customer or shareholder would naturally have been lulled into a false sense of security. The Countrywide Ethics Charter clearly assigned the committee the responsibility for risk assessment and risk management, so it’s not as if they didn’t know they bore a measure of responsibility for the funky loans the company was making.

The courts will now be responsible for deciding whether Melone, a retired Ernst and Young partner, Parry, a retired president and chairman of the Federal Reserve Bank of San Francisco, and Russell, the president and CEO of Russell Financial, Inc., did an adequate job of carrying out their duties (since they are all named defendants in the shareholder suit).

Again, ethics requires a special kind of vigilance. If an executive agrees to serve on an ethics committee and thereby agrees to allow a company to cash in on that executive’s hard-earned reputation, he or she must be willing to gain enough familiarity with the company to be able to see where the company has ethical exposure. He or she must be willing to face management’s wrath for bringing the pertinent ethical issues to light, and also must be committed to withdrawing from the committee should management refuse to alter its position. (Not doing so is yet another form of Wealth Shift – failing to actually do the job you are being paid by the shareholders to do).

A company’s auditors must also practice special vigilance when it comes to ethics. CPA firms need to do a much better job of defining CYA (cover your ass). CYA should never be about covering the client’s ass in order to rake in even bigger audit fees. A major lawsuit resulting from an unjustifiable unqualified opinion can crater an entire public accounting firm (as Arthur Andersen’s involvement in the Enron fiasco readily proves). Auditors shouldn’t only issue a negative opinion after the general public is already clued in. We don’t look very competent when our investing audience says, “well, duh” in response to our report, as was my response when General Motors received a “going concern” opinion from its auditors in 2009. (This same admonition applies to rating agencies like Standard and Poor’s and Moody’s as well.)

Ok, yes, we are all human. We all want things we can’t have. Even those of us who were raised with a strong Puritan work ethic that tells us we must work hard to get the things we want – even we must understand how easy it is to succumb to the temptation to Wealth Shift. When we see someone else taking shortcuts in their pursuit of “I am all that matters to me”, our sense of fairness kicks in and spurs us to look for shortcuts, too.

Executives are very strong-willed people. It is both their greatest strength and their greatest weakness. They tend to want what they want when they want it, and they don’t take it well when a shareholder or a lender attempts to tell them how to run the business. (Don’t believe me? Just look at how angry the banking executives got when they found out that the taxpayer TARP money came with conditions that included executive compensation limits!)

But if we can stop thinking about ourselves for a moment, remember that no man is an island, and all we have left at the end of the day is the legacy we leave behind, perhaps we won’t have to be told to Go First - perhaps we will just choose to do so.

All right. This all sounds really good – in theory. But isn’t this all just a little too touchy-feely, too fantasy-land, too Camelot to ever happen in real life? Who actually lives like this, anyway? Where is there, in this big, wide, selfishly motivated world, “a man so extraordinaire”?

Well, I’m glad I asked. Because I have a client story of just such an extraordinary man – a man who, when he died three years ago -filled a thousand-seat church to capacity and still left them standing in the aisles to pay him tribute. His name was Vernon S. Smith.

Vernon was born in 1919, and he graduated as one of nine in the first class of Texas A&M University’s School of Architecture. Drafted into the army during WWII, Vernon designed barracks and bridges for the military. After the war, he and his brother, James, borrowed a bit of money to buy a parcel of land in Dallas and put in utilities and a road. The first day the one-street subdivision was open, he set up a card table at the entrance to the street and sold lots. Every lot sold by noon. Clearly in the post-WWII housing boom in America, the Vernon and James Smith Company had been “in the right place, at the right time, with the right idea”.

Vernon went on from his humble beginnings to build billions of dollars of residential, commercial, and apartment buildings throughout the state of Texas. He helped design the Methodist Hospital of Dallas, was a member of the board of Texas Christian University, and was the mayor pro-tempore of Dallas under R. L. Thornton. For fun he ran his ranch as a profitable hobby, and he loved to hunt big game and play golf in his spare time. Obviously, he was a very wealthy man.

Vernon was also a great man. And I have a story to prove it. In the mid-80s, right when the real estate market was experiencing a downturn that many of us Boomers can still remember to this day (even those of us who aren’t Angelo Mozilo), a friend of Vernon’s approached him with a West-Texas oil drilling venture that he believed would make Vernon, him, and anyone else who invested in it as rich as Croesus. Because the man was quite wealthy and powerful himself, Vernon believed him. Not only did Vernon invest in the deal, but Vernon encouraged friends of his to invest in the deal as well. But the punch line of the story is not that the drilling venture went south. Of course it went south. It went so far south that the General Partner, Vernon’s friend, went and blew his brains out with a gun.

And what did Vernon do? Upon hearing of his friend’s suicide (and despite the horrible conditions existing at that time in Vernon’s primary real estate business) Vernon went out and personally visited each and every investor who had invested in the drilling venture on Vernon’s recommendation. During the course of the visit, he not only broke the news that the GP had committed suicide, he also told them not to worry, that he would make them whole. He personally would make them whole. To Vernon’s ethical way of thinking – despite the fact that he was not legally obligated to do so -he had gotten them into the deal and he would get them out.

Vernon was rich, but not so rich that keeping his word cost him nothing. In point of fact, making everyone else whole almost bankrupted him. But as Vernon loved to tell it years later when he was back on top (after developing Glen Lakes, one of the first large-scale ultra-wealthy gated communities in Dallas), he knew something important about himself that most people never know. To this day, I can still hear him saying in his slow, southern drawl, “I knew that I was Vernon Smith, and I could always make it back again.”

The man, the mountain, Vernon S. Smith, no matter how badly he might be down one day, would always be Vernon S. Smith. Amazing, isn’t it, how confidence in oneself – true confidence in oneself – will allow you to do the right thing, time and time again, no matter the monetary cost? If you leave with your head held high, and that head still has brains in it, money will never be as important as reputation. To quote Vernon again, “Heck, money is easy to replace. It’s reputation that’s irreplaceable.”

And that is the legacy, and the lesson, that I took away with me from my relationship with my inspirational friend, Mr. Vernon S. Smith.

Executive Summary: CEOs and other highly-compensated members of a company’s management team must give serious consideration to how their compensation packages are affecting their legacy if they’re ever going to have a shot at de-escalating Wealth Shift within their organizations. They need to solicit feedback from employees at all levels about how their compensation package is being received. They need to proactively assess how well they are meeting the needs of their employees in an increasingly challenging economic environment. They need to consider revising the company’s compensation structure with an eye towards transparency and independence. They need to remember that they only have one irreplaceable asset, and that asset is their reputation. As long as executives keep doing things that send the message “I am all that matters to me”, employees are going to keep doing things that say they are all that matters to them, too.


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