Public Company CEOs Who Make Millions

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Thom:

You keep referring to public company CEOs who make "100 million a year."

I believe you are exaggerating this topic.

Most of that money, probably at least 95% in most cases, is coming from appreciation in stock options. It isn't real money, it is paper wealth, and in many cases is never received by the CEO. It represents an ownership share in the underlying company.

Here's an example...

Let's say that your company, let's call it Hartmann Inc, thought it had the potential to expand into television and become its own network, "The Hartman Network (THI)". To manage this expansion you bring in a CEO with media company experience. In order to attract the right person you offer this person an equity interest in 10% of your company. Normally, this is accomplished through options, which give the person the value of the upside, rather than the actual equity. Now, let's say this person succeeds, and the value of THI rises from a couple million, to a company with a billion dollar valuation.

Are you following me? The THI CEO would now have a paper valuation of $100 million (his 10%), and THI's shareholders would own the other 90%, and would have seen an increased value of $900 million.

Because THI is a public company, and the value of the CEO's investment is in stock, the CEO is unlikely to be able to sell a significant percentage of his stock. However, the holders of that other $900 million in equity, have no such limitations on them. They freely sell the stock and take their profits. This money generates jobs when it is spent. The shareholders are happy. And, of course, THI would now by employing hundreds or thousands of people, and each of those are jobs.

So .. the CEO theoretically has a paper profit, if s/he can ever convert it to cash. Then, of course, if he does convert it to cash, you would see it taxed at 74% or more (but, that of course is another story...)

Hopefully you can see that you aren't telling the full story when you disparage those "greedy" corporate CEOs.

The real truth is that a good CEO can grow a company, and a bad CEO can put a company out of business. There is a correlation between corporate profitability and corporate health. There is a correlation between corporate health and jobs. Companies that are well run tend to generate more jobs than companies that are poorly run. During my tenure running a public company I oversaw many layoffs. By keeping the staff size aligned with revenue I was able to maintain profitability through good times and bad, which allowed the company to grow, and created thousands of jobs.

Large company CEOs are not bad guys. I have known many and I have never met one who did not want to grow their company. Personal wealth is certainly a priority for these people, but the vast majority only make a dime if shareholders make a dollar (or more). Have there been anomalies where a CEO made money, and shareholders lost value?, sure. In a free market system there are times when the system does strange things, but these are the exceptions, not the rule. Generally, if you look at the major corporate disasters (Fannie Mae and Ginnie Mae to name a couple), you will find that government regulation "helped" the disaster to occur.

Focus on jobs, and take care of people that generate jobs.There is a pattern here. Look at states and counties that are business friendly, and you will see that they generate more jobs. Demonize the entities and persons that generate jobs, and they will take their jobs elsewhere.

caboken
Joined:
Jul. 31, 2007 4:01 pm

Comments

When a CEO is more concerned with the rise of stock values rather than increasing real value in his company...problems develop. We should have learned that from the collapse of Enron and the Savings and Loan industry...and didn't.

The banksters did that...and brought the entire world's economy to its knees. U.S. manufacturers have done that...and skimmed rising profits off the backs of their workers...shipping the jobs overseas. Up go stock values, down goes the real economy of the U.S. The fools are destroying their own customer base, and with it, ultimately their own companies.

It's economic meltdown time...and the rapid decline of the U.S.....in favor of rising stock values that are going to tumble into the pits. . Have fun.

Retired Monk - "Ideology is a disease"

polycarp2
Joined:
Jul. 31, 2007 4:01 pm

I believe you're (deliberately?) misrepresenting how stock options work...

Quote caboken:

Most of that money, probably at least 95% in most cases, is coming from appreciation in stock options. It isn't real money, it is paper wealth, and in many cases is never received by the CEO. It represents an ownership share in the underlying company.

Here's an example...

Let's say that your company, let's call it Hartmann Inc, thought it had the potential to expand into television and become its own network, "The Hartman Network (THI)". To manage this expansion you bring in a CEO with media company experience. In order to attract the right person you offer this person an equity interest in 10% of your company. Normally, this is accomplished through options, which give the person the value of the upside, rather than the actual equity. Now, let's say this person succeeds, and the value of THI rises from a couple million, to a company with a billion dollar valuation.

Are you following me? The THI CEO would now have a paper valuation of $100 million (his 10%), and THI's shareholders would own the other 90%, and would have seen an increased value of $900 million.

Because THI is a public company, and the value of the CEO's investment is in stock, the CEO is unlikely to be able to sell a significant percentage of his stock. However, the holders of that other $900 million in equity, have no such limitations on them. They freely sell the stock and take their profits. This money generates jobs when it is spent. The shareholders are happy. And, of course, THI would now by employing hundreds or thousands of people, and each of those are jobs.

A stock option is a piece of paper that gives the holder the right to buy stock at a pre-determined price. So, for instance, it might give the CEO the right to buy a million shares of stock at $1/share. If the price of the stock rises to $10 the CEO can exercise the option, buy 1,000,000 shares at $1 each and immediately turn around and sell them for $10 apiece. This nets an immediate, instant, "profit" of $9,000,000. The only possible limitation on that may be unloading that much stock that quickly and/or possible legal limitations surrounding insider trading. In practice, this isn't usually much of an impediment.

Quote caboken:

So .. the CEO theoretically has a paper profit, if s/he can ever convert it to cash. Then, of course, if he does convert it to cash, you would see it taxed at 74% or more (but, that of course is another story...)

What planet do you live on? The CEO's federal tax liability is limited to 15% because it is considered a capital gain and no FICA taxes. State taxes may increase that bite a smidgeon, but nothing like 74%. Do you think we're idiots??

Quote caboken:

Hopefully you can see that you aren't telling the full story when you disparage those "greedy" corporate CEOs.

The real truth is that a good CEO can grow a company, and a bad CEO can put a company out of business. There is a correlation between corporate profitability and corporate health. There is a correlation between corporate health and jobs. Companies that are well run tend to generate more jobs than companies that are poorly run. During my tenure running a public company I oversaw many layoffs. By keeping the staff size aligned with revenue I was able to maintain profitability through good times and bad, which allowed the company to grow, and created thousands of jobs.

Problem is, there seems to be no correlation between corporate profitibility and/or health and executive compensation. Trash the company, collect a multi-million dollar golden parachute and retire to the Bahamas. Nice gig if you can get it.

Quote caboken:

Large company CEOs are not bad guys. I have known many and I have never met one who did not want to grow their company. Personal wealth is certainly a priority for these people, but the vast majority only make a dime if shareholders make a dollar (or more). Have there been anomalies where a CEO made money, and shareholders lost value?, sure. In a free market system there are times when the system does strange things, but these are the exceptions, not the rule. Generally, if you look at the major corporate disasters (Fannie Mae and Ginnie Mae to name a couple), you will find that government regulation "helped" the disaster to occur.

You've just revealed yourself to be a (paid?) conservative troll. That version of the events leading up to the 2008 meltdown have been thoroughly debunked. Take your lies elsewhere.

Quote caboken:

Focus on jobs, and take care of people that generate jobs.There is a pattern here. Look at states and counties that are business friendly, and you will see that they generate more jobs. Demonize the entities and persons that generate jobs, and they will take their jobs elsewhere.

Corporations don't give a rat's ass about "creating jobs." If they can save a nickel per widget by moving to China that's exactly what they'll do. I live in one of your "business friendly" states and quite frankly, it sucks. Low wages, no benefits, the state government doesn't give a fig for the citizens as long as the corporate masters make their campaign contributions.

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BadLiberal
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Jul. 31, 2007 4:01 pm

Polycarp2 said, "...When a CEO is more concerned with the rise of stock values rather than increasing real value in his company...problems develop. ..."

Polycarp2, We certainly agree on this. I'm not sure how many public companies there are, but suspect that it is 10,000 or more. In any large community, even catholic priests, there are a few bad apples.

It's like Thom's designation of bankers as banksters. It's funny, but it's also derogatory, and tarnishes many thousands of perfectly good people, the majority of which are hard working, and well meaning.

Somehow, I thought that we lived in a society where political correctness discouraged slurs against large groups just because there is a small number of persons in a group who create problems.

We certainly agree that there is an economic meltdown taking place, but I firmly believe that countries spending beyond their revenues is the problem. This really is common sense. If a country raises $1 in taxes, it should spend $1 or less. I can understand that in an emergency, such as war, you might borrow from the future, but it has become a way of life for most countries. This is stupid, and will bring us down. Raise government revenues, or stop spending. I do not like tax increases, and hope that people understand that raising taxes does not always raise government revenues.

If you want a healthy economy, seek the candidates who are fiscal conservatives. Being progressive and liberal is not inconsistent with having fiscal common sense.

Lastly, we have a truly insane system, which is ultimately flawed. We allow virtually everyone to vote, yet the vast majority of every bit of spending is paid for by only about 10% of the population. Yes. You heard this right. If you have four kids at home, try this experiment. Ask your kids to vote on whether or not they should each have a new bicycle. Then, you agree that you will pay for it, because you have all the income in the family. Try to be fair. Give each kid a vote, and keep one for yourself. I wouldn't be surprised if the vote is 4 to 1. Then, give the kids each a bicycle, and borrow from the bank to pay for it. Have a new vote tommorow. Do you see why this system doesn't work and why there is an economic meltdown, or am I explaining this poorly?

caboken
Joined:
Jul. 31, 2007 4:01 pm

BadLiberal:

I am not a paid conservative troll. I'm a long-time Thom Hartmann fan, and describe myself as a social liberal and fiscal conservative. I'm also someone who ran a large public company and has plenty of experience with stock options.

As you said, there are times when stock options can receive capital gains treatment. However, there are a lot of hoops that you have to jump through to get this treatment, and many options wind up being treated as ordinary income.

The biggest issue is that capital gains treatment is given to stock, not to the option. In other words, if you exercise an option on monday to pay 1 share of stock, and sell it on tuesday, then your holding period is one day, even though you may have owned the option for many years. In order to qualify for capital gains treatment you have to exercise the option and hold the stock for a year. This is expensive to do, and requires a long-term belief in the underlying company.

For example, let's say that I hold options on 10,000 shares at $10 and the stock is trading at $20. I need to write a check for $100,000 and sit on the stock for a year before selling it to get my mythical $200,000. If I don't have $100,000 lying around, then I need to borrow this money. And, if during the year, the value of the stock declines, I can quickly find myself wiped out, or worse.

There are workarounds for some of this, but they are difficult, and don't always work. I haven't researched it, but feel secure in saying that most of the CEOs that Thom criticizes for 'making 100 million a year' have yet to see the vast majority of that money. They will only get it if the company continues to do well. Are there exceptions? Yes. But, the vast majority of corporate CEOs are out to grow their companies, for the long haul, and shareholder and employee interests are aligned.

As to your comment about 'outsourcing' jobs to Asia, and CEOs that do so... All I can say is that it is tough to make money as a company. If you can buy widgets in Chicago for $1 or from China for 10 cents, then it is compelling to buy them from China. If you don't, your competitors will, and your employees will lose their jobs. It is often better to give up 10 jobs than 100 jobs. Now, this said, this is not an easy issue. Should Obama simply put a ban on buying of international goods? Or, tax them so much that a China widget costs a dollar? The problem with this is that the US also exports goods, and does not want them taxed to non-competitiveness in the foreign markets. I can't honestly say what I would do. I do know that one of the reasons that a widget from China costs a dime, and from Chicago costs a dollar, is that we have more regulations (safety, benefits, working conditions) than the factory in China. I do not advocate cutting safety in US factories, or reducing working conditions to those that are in China. That said, unless we are willing to pursue an isolationist strategy, you will see jobs inevitably shift to China (I'm using China as a metaphor for all places with cheap labor). In other words, are you arguing that the US should not trade with countries who do not have the same minimum working conditions and pay as the US? Is this what you are advocating?

I am happy to debate any of these issues, and you will find that I agree with you on more than you would think, however, I would like to keep the debate on a serious note. Hopefully you agree.

caboken
Joined:
Jul. 31, 2007 4:01 pm
Quote caboken:

It's like Thom's designation of bankers as banksters. It's funny, but it's also derogatory, and tarnishes many thousands of perfectly good people, the majority of which are hard working, and well meaning.

Amen. Most of us would never be able to buy a car or a house without "banksters". Slurs like this don't help the conversation.

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PeeWee Returns
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Jul. 31, 2007 4:01 pm

I believe Thom has been clear about his support for the honest business of banking where capital is provided for the real economy and local interests and knowledge allow the banker to make wise decisions about good risks and the needs of the community served by this "public utility."

This is distinguished from the Casino where money makes money without creating any real value added. Thom, and David Korten, have seen this as devaluing the real economy and not creating wealth as it increases the numbers in the rich bank accounts and investment portfolios. These are the bubbles that intoxicate the Masters of the Universe into thinking they are doing "God's Work."

Bankers ought to have been leading the charge against the banksters. And good business management ought to have blown the whistle on the CEO myth long ago. The top-down fantasy of command and control as the way to go covers for the investor "fiduciary irresponsibility" built into our insane system. CEOs that try to be socially responsible or who take a long range view of loyalty to personnel will not maximize profits over the short term. This structural pathology gets justified in CEO performance against sick standards.

Again, Korten and I argue that management needs to serve those who do the wealth creation on the shop floor instead of making life easy for itself. Good managers listen and learn from those who know what they are doing and what gets in the way. They also take care of people instead of demanding more turnip juice-blood.

There have been attempts to develop "stakeholder" models for corporate capitalism, and a social liberal/fiscal conservative ought to look in those directions instead of trying to justify what is both an authoritarian system of managerial hubris and "fiscal crime" against real workers in the real economy. Being good at that job is not the same as doing honest or moral work. But this is not that personal. Biz Schools are good at teaching cult culture to the Masters of the Universe. It is Capitalism Bible College and sometimes the descriptions of angels dancing on the head of pins are exquisite.

Fiscal conservatives who justify Wall St. need to explain themselves.

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DRC
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Jul. 31, 2007 4:01 pm

DRC said....

I believe Thom has been clear about his support for the honest business of banking...

I'm not clear on what the non-honest business of banking is. Can you give examples.

My assumption is that you are referring to 'Investment Bankers' as opposed to the banks where we have our checking accounts.

I do not want to defend investment bankers, but I do want to make sure that we are all on the same page as to what they are, and what they aren't. Investment bankers are middle men. I usually think of them as commissioned sales people. They connect people who have money to people who need money, and charge a commission when money changes hands.

The brokering of money is useful to society. Virtually every successful business needs money at some time or another. In fact, I doubt there is a public company, municipality or country who has not used an investment banker. This money is raised in one of two ways; by selling equity or by debt. Small businesses can walk into a neighborhood bank and take out a loan, but even for them, selling equity, or their whole business, usually requires a broker. Large corporations, municipalities, and countries, need the services of brokerage firms who can market the transaction to a large base, or assemble syndicates of brokers who can place the equity or debt.

To make a long story short, virtually every large company, and government entity, needs the use of an investment banker from time to time. When the state of florida wants to build a road, they issue muni bonds. They work with an investment banker to package the deal. When General Motors needed money, it was investment bankers who organized the sale of equity.

You said that it is dis-honest when banking doesn't create real value. This confuses me. If the state of Ohio borrows money from investors to build a hospital, does this meet your defniition of 'honest banking'? Or, when Google sells equity to the public, and uses it to fund their growth, is this 'honest banking'? Very few people borrow money just to sit on it. Generally, when equity is sold, or money raised through debt, it is put to work. This almost always translates into jobs.

Now, let's turn to the controversial topic where I think debate is more interesting...

Let's say that I want to be in the woodworking business, and I go to an investment banker, and I say, "I notice that Joes Woodworking is making a million a year. Joe wants to retire. Can you help me borrow $10 million to buy Joe's company?" This is what they call a 'leveraged buy out,' and this type of transaction happens every day.

The banking firm negotiates on my behalf with banks, and charges a small fee for the service. If they succeed, Joe will receive his $10 million, and I, as the new owner, will have a wood working company that is now $10 million in debt. Overnight, the company will have flipped from a profitable company making a million a year, to one that is heavily in debt making no profit (that $1 million of profit will be drained by interest on the loan to acquire the company). The company can no longer borrow, because it is maxed out on its bank debt. More serious, it can't afford to weather tough times, because it doesn't have the option to turn in a smaller profit. In most of these deals, the vast majority of free cash flow is now going to service debt. And, in many of these deals, the buyer overpaid. Joe told a good story about how there were going to be improvements in the business, and cash flow was about to expand. As soon as I, the buyer, discovers this was a line, I have to cut costs (lay people off), to service debt.

Let's study this story, and ask what regulation could be passed to stop it, and determine who is really at fault.

- Was it Joe? All he did was run his business well, for most of his life, and wanted to retire. He was offered a check and cashed it. Should the government force Joe to keep working? Should it forbid him from selling his company to the highest bidder?

- Was it the investment banker? All he did was 'market' the company (put together a brochure) and introduce Joe to the buyer, for which he received a couple percent of the sales price. Should regulations be passed saying that brokers can't be used by people selling their business?

- Was it the buyer? All he did was write a huge check to buy a company, based on a belief that he could run it as least as well as Joe, and having a life-time desire to be in the woodworking business. Should we pass laws saying that debt cannot be used to buy companies?

As I began by saying, I am a fiscal conservative. These kinds of deals make me crazy. I don't like anything with the word 'leverage' in it. I don't think companies should be bought with borrowed money, or at least not with mostly borrowed money.

Were I to advocate some kind of major financial change, it would be to put limits on borrowing, across the board. I don't care if it is a municipality, a country, a business, or an individual. Debt is bad, and too much of it is destructive.

I worry that by focusing on bankers we are missing the real problem. It's like blaming the realtors because people borrowed money to buy homes and now can't pay it back. People don't want to hear this, but you should not borrow money if you cannot afford to pay it back, with interest, through good times and bad. In other words, you should not push to the limit in buying a home, and you should not buy a home unless you have enough money in the bank to make payments should you find yourself out of work for a few months. Or, best of all, buy a home with cash. Yes. This will mean fewer people can buy homes, but in a fiscally conservative environment, there should be fewer people buying homes. There were people buying homes, who should not have been buying homes. Similarly, countries should not be borrowing money that they can't realistically pay back. If tax revenues are $5 trillion, the country should try to survive on $4.9 trillion. Either cut spending or raise revenues.

Anyway, I've digressed. The bottom line is that demonizing investment bankers is not productive. The real issue is one of fighting the culture of borrowing money. Complaining about the guy that helps you borrow money when you need it is silly. If you can't pay it back, don't borrow it. This isn't rocket science.

caboken
Joined:
Jul. 31, 2007 4:01 pm
Quote caboken:

Now, let's turn to the controversial topic where I think debate is more interesting...

Let's say that I want to be in the woodworking business, and I go to an investment banker, and I say, "I notice that Joes Woodworking is making a million a year. Joe wants to retire. Can you help me borrow $10 million to buy Joe's company?" This is what they call a 'leveraged buy out,' and this type of transaction happens every day.

The banking firm negotiates on my behalf with banks, and charges a small fee for the service. If they succeed, Joe will receive his $10 million, and I, as the new owner, will have a wood working company that is now $10 million in debt. Overnight, the company will have flipped from a profitable company making a million a year, to one that is heavily in debt making no profit (that $1 million of profit will be drained by interest on the loan to acquire the company). The company can no longer borrow, because it is maxed out on its bank debt. More serious, it can't afford to weather tough times, because it doesn't have the option to turn in a smaller profit. In most of these deals, the vast majority of free cash flow is now going to service debt. And, in many of these deals, the buyer overpaid. Joe told a good story about how there were going to be improvements in the business, and cash flow was about to expand. As soon as I, the buyer, discovers this was a line, I have to cut costs (lay people off), to service debt.

Let's study this story, and ask what regulation could be passed to stop it, and determine who is really at fault.

Yes, let's...

You, caboken, Joes Woodworking, and Joe are all legal entities and you each have your own set of books. First rule of starting a new business is that you open a separate bank account for the business and you separate your personal accounting from the business accounting.

The basic accounting equation is that Assets = Liabilities + Owner Equity (ignoring for the moment Income and Expenses which are flows rather than "piles" of value). On Joe's personal books there would be an Asset labeled "Woodworking Business" valued at $10m. That would directly correspond to the Owner Equity on the books of Joes Woodworking. It's basically the Net Worth of JW as calculated by subtracting Liabilities from Assets. One of those assets will be an entry for "Goodwill" which represents the NPV of the expected future profit flow of $1m/year. It's similar to an Account Receivable but it's not a specific debt from a specific entitiy. Whether $10m is a good valuation depends on the balance between the physical and financial assets and any liabilities (book value) and assumptions about future interest rates but let's assume for now that it's a good number.

So you go to the bank and arrange to borrow $10m to buy the business. For a short time your personal books would show a new asset of $10m cash balanced by a new liability of the $10m loan debt. Next you hand the $10m over to Joe who hands over the keys to business. His personal books now have $10m in cash instead of the $10m equity in JW. Your personal books would now show the $10m equity in JW as an asset balanced by the $10m debt you took out to buy it. The books of JW haven't changed at all except to show caboken as the owner instead of Joe.

And then magic happens...

You transfer the $10m debt to the books of JW and claim that the company is now worthless. The value in that maneuver is that if JW goes tits up (which it very well might since it now has to service that debt from profits) your personal assets are insulated since "you" don't owe the money, JW owes the money. Never mind that JW, as an entity, never actually borrowed any money. That used to be illegal until the rules were changed sometime in the Reagan administration. I can imagine there are all sorts of interesting tax implications as well. How exactly one makes money off this sort of thing likely depends an individual circumstances but it can work like a treat. Mitt Romney made something like $400m doing this sort of thing, albeit on a larger scale.

Quote caboken:

- Was it Joe? All he did was run his business well, for most of his life, and wanted to retire. He was offered a check and cashed it. Should the government force Joe to keep working? Should it forbid him from selling his company to the highest bidder?

No. And those are the sort of ridiculous strawman questions I would expect from a Lib/Con.

Quote caboken:

- Was it the investment banker? All he did was 'market' the company (put together a brochure) and introduce Joe to the buyer, for which he received a couple percent of the sales price. Should regulations be passed saying that brokers can't be used by people selling their business?

No. As long as he fairly represented the value of JW to the buyer.

Quote caboken:

- Was it the buyer? All he did was write a huge check to buy a company, based on a belief that he could run it as least as well as Joe, and having a life-time desire to be in the woodworking business. Should we pass laws saying that debt cannot be used to buy companies?

Yes. Because you've mis-represented the intentions of said buyer. Nobody making that kind of investment would be stupid enough to make that kind of deal without having a good plan for making good on it. And the bank that loaned him $10m surely had their nose all up in JW's books and wouldn't have loaned the money without being reasonably sure there was profit to be made. Writing off a $10m bk sucks for even big banks.

That "magic moment" of making JW the debtor instead of caboken is what should be prohibited. If you want to take out a loan and incur the risk against the hope of reward, then by all means, go for it. But that kind of shedding of downside risk can make even outward failure profitable if you're clever (and it helps to be a sociopath).

Quote caboken:

As I began by saying, I am a fiscal conservative. These kinds of deals make me crazy. I don't like anything with the word 'leverage' in it. I don't think companies should be bought with borrowed money, or at least not with mostly borrowed money.

Were I to advocate some kind of major financial change, it would be to put limits on borrowing, across the board. I don't care if it is a municipality, a country, a business, or an individual. Debt is bad, and too much of it is destructive.

I worry that by focusing on bankers we are missing the real problem. It's like blaming the realtors because people borrowed money to buy homes and now can't pay it back. People don't want to hear this, but you should not borrow money if you cannot afford to pay it back, with interest, through good times and bad. In other words, you should not push to the limit in buying a home, and you should not buy a home unless you have enough money in the bank to make payments should you find yourself out of work for a few months. Or, best of all, buy a home with cash. Yes. This will mean fewer people can buy homes, but in a fiscally conservative environment, there should be fewer people buying homes. There were people buying homes, who should not have been buying homes. Similarly, countries should not be borrowing money that they can't realistically pay back. If tax revenues are $5 trillion, the country should try to survive on $4.9 trillion. Either cut spending or raise revenues.

You would think that banks, who are after all in the business of lending money, would be able to predict with a fair amount of statistical precision who can pay back a loan and who can't. It takes two to tango. Lending standards went out the window and risk assessment went to hell. High profit margins can do that to you.

Quote caboken:

Anyway, I've digressed. The bottom line is that demonizing investment bankers is not productive. The real issue is one of fighting the culture of borrowing money. Complaining about the guy that helps you borrow money when you need it is silly. If you can't pay it back, don't borrow it. This isn't rocket science.

And casting the borrower as the culprit doesn't make much sense either. I mean... if you loan me money without being at least reasonably certain I can pay it back and then I default, who's the dumb one in that transaction?

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BadLiberal
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Jul. 31, 2007 4:01 pm

BadLiberal:

We are in fundamental agreement.

I picked an exaggerated case, just to show the overall prinicipals. Actual LBOs tend to be a bit more complicated, and there is virtually always some equity put into the deal by the buyer. That said, the equity can also be what I'll call funny money. Let's say that I wanted to put together a fund to do LBOs. I'd call the bankers and say, "I'd like to put together a $100 million LBO fund, focused on biotech deals". If I have a good reputation on the street, it would be fairly easy to put together the fund. I then can do a series of deals, with perhaps half equity and half debt, and never have to write a check. The bank feels covered because there is significant cash into the deal, and they've seen the target company's financials.

LBOs do often work, but unfortunately, they sometimes work better for the deal-maker than the employees. Typically, these deals get done because the buyer believes they know how to operate the target company better than present management. In my example I painted the buyer as a bad-guy, but usually the buyer is a very smart person, with a very successful track record, who can indeed run the company better than prior management. And, I'd argue that running a business lean and mean, even when it means lay-offs, isn't necessarily a bad thing. I know that, in my own company, had I not quickly laid off staff during the bad times, and even tweaked my workforce to match the market as needed, we'd have died several times along the way instead of going on to become a significant company.

So....

My original point with this thread was that I doubt the existence of the $100 million CEOs, or at least as Thom describes them. And, I absolutely dispute the insinuation that they are evil villains. Most of the people Thom refers to receive a tiny fraction of their total income from salary, and make the bulk of their income through appreciation on their company equity (stock or options). This appreciation on equity is NOT passed along to customers in product pricing as Thom implies.

For instance, let's take Steve Jobs at Apple. During recent years he has taken Apple's market cap from $1 billion to $245 billion. I don't know what percentage of Apple Jobs holds, through options or equity, but I'm guessing it is around 2%. It could be much more or less, but let's pick that number. It's possible he has a $12 billion net worth. It wouldn't surprise me. If my guess is anywhere near accurate, then by Thom's definition, Jobs could be described as making a billion a year. Thom already gets excited about CEOs who make $100 million a year. What will he say when he focuses on Mr. Jobs?

Now... not one dollar of that appreciated stock price is passed on to consumers as higher prices. And, none of it should be including in referring to Mr. Job's compensation.

My personal opinion: God bless Mr. Jobs. I love my ipad. If he made a bunch of money thinking it up, or inspiring the creativity amongst his troops that resulted in the ipad, iphone, and Mac, why do I care if he gets rich? I'd rather treat him like a hero than demonize him. Good CEOs create jobs, or save jobs. I mention saving jobs, because as I've personally experienced, sometimes the best way to grow a company is to make tough decisions. There are certainly bad CEOs and CEOs who get overpaid for dragging their company down the toilet, but overall we have a system that works.

Lastly, with all of the discussion of LBOs, please do not confuse me as someone who advocates them. I am a fiscal conservative. I have done many equity deals in my life, but never used debt personally, or to grow my company, and I would never do so. I have a simple rule: expenses should be less than revenue, and if revenue is headed south, expenses have to match. This rule applies whether you are an individual, a business or a country. Violation of this rule means a meltdown, such as we are seeing in Europe now, and we will get a much better look at soon, if we don't get our act together.

You mentioned in your discussion that Reagan ushered in the era of the LBO. What law are you referring to? This isn't a trick question. I'm curious. I would like to see the use of significant debt in operating and acquiring companies go away. Period. If Reagan loosened some regulation, I vote for tightening it back up.

Lastly, you're making me think. Good! But, please don't call me a lib/con again. That said, perhaps I don't know what it means, and I indeed am one. I am certainly liberal on most things, but when it comes to money, I am very conservative, so perhaps you have me correctly pegged. All I can say is that I agree with Thom on most issues, OTHER than the economy and how we got into this mess.

caboken
Joined:
Jul. 31, 2007 4:01 pm

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The Ferguson Effect On Our Great Grand Children

A few weeks ago, Congressman Paul Ryan released his latest proposal for tackling America’s poverty epidemic. Unfortunately, the plan does very little to combat poverty in our country, and instead, continues the devastating austerity policies that Ryan himself helped to create. Thanks to those policies, entire communities across America are underwater, and struggling to survive in tough economic times.

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