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The growing focus on discipline and accountability in the management of U.S. corporations.

Heads are rolling at the highest levels of the American executive suite. The grumbling exit of chief executive officers at General Motors, Westinghouse, international Business Machines, American Express, and others suggest that a watershed movement is upon us.

Discipline and accountability will return to the executive suite, one way or another. One would hope that the instrument would be the recognition by top management of its failures in this regard, and a resulting good-faith effort to independently put its own house in order. This would first require a recognition that leadership has an opportunity to make a difference, a positive difference, and not necessarily an opportunity to get rich. Second, top managers - as do all leaders - must communicate a sense that their fates are mutually intertwined, that they will share in both good times and bad. There must be a sense of stewardship, of looking after the needs and aspirations of one's subordinates, and a sense of pursuing a shared vision of the future - a common interest.

Many CEOs embrace these values naturally. But some do not. Some may change, thereby restoring discipline and accountability on their own. others, based on recent, highly publicized reactions to criticism, clearly will not.1 it is the latter who will have change thrust upon them by stakeholders.

Corporate Aristocracy

Criticism of our CEOs includes charges such as declining corporate performance and competitiveness; increasing divergence in compensation and perquisites between top management and all other employees; increasing distrust for, lack of communication with, and loss of confidence in top management - signifying isolation of top management from the aspirations and needs of employees; a management style based on fear for job security and ever-greater demands on survivors; and inadequate spending on research and development, capital equipment and upgrading of worker skills to sustain both employment and competitiveness. When CEOs continue to prosper even in the face of declining results, they create a perception of top management as a self-aggrandizing ruling class, unassailable by anyone, including shareholders, and insulated from the risk that supposedly justifies their rich rewards.

The image for American business has been greatly tarnished by instances of bankruptcies, falling profits, massive layoffs in once robust industries, market share lost to foreign competitors, trade deficits, volatile capital markets, decay in some industrial urban centers, and well-publicized instances of criminal business conduct. All contribute to an atmosphere of pessimism and doubt about our competitive prowess. Although there are many counterbalancing reasons for optimism, negative reports tend to be dominate in the mass media, conveying dramatic and disconcerting negative images and impressions.

Disparity in Rewards

Although household and per capita incomes increased, individual wage earners did not fare well during the 1980s.[2] Nine million white males in the 25-34 age group, without any college education (most of the blue collar work force in the demanding household-forming years), experienced a 1.2 percent decline in real wages between 1982 and 1990, as did all African-Americans.[3] Average, real salaries for managers increased only nine percent during the same interval.[4] But more recently, even college graduates have lost real earning power.[5] The U.S. standard of living was maintained through the last decade only because of increases in two-income families, a decline in the personal savings rate, and increased debt. This unimpressive performance occurred despite continuous economic growth since 1982.[6] Two million manufacturing jobs were lost in the 1980s, shifting many workers to lower paying service jobs.[7] That trend continues in the '90s as corporations downsize. Americans lag well behind their counterparts in other developed countries in benefits, especially those intended for working parents.[8]

Meanwhile, reports of corporate largess for top management proliferate. The rates of increase in compensation at all levels were roughly equivalent in 1979 but have diverged steadily since. As the 1980s ended, CEO compensation was increasing three times as fast as that of their employees.[9] U.S. CEOs are paid at a rate 104 times the earnings of factory workers (up from 85 in 1990), but their Japanese counterparts are paid only 17 times as much as their workers. Even though direct compensation fell seven percent in 1991, the first decline in 42 years, total compensation rose 26 percent. Some CEOs make more in a day than some of their employees make in a year, not counting undisclosed and deferred payouts.[10] These increases far exceeded improvements in corporate performance. CEOs of the largest 500 U.S. firms saw their compensation rise three times as fast as earnings per share during the 1980s.[11] The increase in total compensation in the face of the recent recession indicates that many CEOs are insulated even from short-term downturns in corporate performance.

Ten CEOs made more than $10 million in 1991 up from seven in 1990; hundreds of CEOs and COOs make more than $1 million.[12] It is as if they have become a class unto themselves, privileged to a degree more similar to entertainment and sports personalities than to their subordinates - but without producing similar results. When the firm performs poorly, those most responsible suffer least and receive even greater compensation.

Employees are well aware of the growing disparity. A 1989 nationwide survey of employees found that two-thirds thought CEOs received too large a share of profits.[13] One respected political observer speculated recently that the situation could provoke intervention by Congress and a public anti-business fervor reminiscent of the turn-of-the-century trust busting era.[14] Indeed,because of the publicity this issue received as a result of President George Bush's sales mission to Japan in January, 1992, legislation was introduced in Congress to exclude any deduction from corporate income tax for all executive compensation beyond 25 times the compensation of the lowest paid employee.[15] One must ask how long employees will continue to accept this divergence while spouses work out of necessity (not for luxuries), and while many live in constant fear of layoffs. How long will investors accept loss of asset value while CEO compensation rises? It appears from the sacking of CEOs at some of America's biggest corporations, shareholders and directors are beginning to take notice.

Increasing Isolation of Top


Several recent surveys of employee attitudes toward top management indicate growing distrust, loss of confidence, and deteriorating communication, as well as resentment of compensation levels. Fewer employees identify common interests with top management.[16] Distinguished commentators have fanned the perception of CEOs as egotistical, greedy, over-privileged, out-of-touch tyrants.[17] There is an increasing perception that only employees suffer when the firm does, and that management feels no real loyalty toward employees. Business Week has said that the bonds of loyalty between U.S. corporations and their employees were breaking as U.S. firms took drastic steps to maintain their competitiveness, while pointing out that our Japanese and European competitors had not found it necessary to play by such "cutthroat rules."[18]

Management By Fear

A survey of senior managers at recently downsized firms found that 74 percent said their workers had low morale, feared more cutbacks, and distrusted management.[19] The baby-boom cohort has risen into middle management and journey-man positions at a time of tremendous upheaval, restructuring, and downsizing. The business press has been full of articles reporting on their frustration and anxiety. As a result of the turmoil generated by the need for firms to become more productive, the surviving middle managers find themselves reduced in number so that the work is divided fewer ways, required to pursue more time-consuming coordination, worrying about whether they will be next to be let go, and yet finding fewer opportunities for advancement to thinning upper ranks. The worry about job loss is intensifying because of the increasing difficulty in finding new employment.

In the early 1980s, 90 percent of laidoff white collars found similar employment. Only 25 percent do so now. The impact of the current recession on white collars is unprecedented since the Depression. Although they constitute only 6 to 7 percent of the workforce, they suffered 17 percent of the layoffs in the last three years. White collar layoffs, now more widespread by industry and occupation, were expected to increase again in 1992, from about 560,000 to more than 700,000.[20]

This pressure may well intensify. A survey by Fortune found that 77 percent of CEOs believe middle managers must work even harder, and only 9 percent believe that managers are working too hard. Consider this finding in light of another survey which found that only 47 percent of 700 senior managers at Fortune 500 companies want more responsibility, compared with 58 percent ten years ago.[21] With the recent downturn, even traditionally paternalistic firms, known for commitment to job security, including no layoff policies, have been wielding the axe.[22] Another cost of productivity enhancement is wage rate increases that are less than those of our major competitor nations.[23] Reaction to the recession causes worried managers to withdraw empowerment authority from employees, weakening their self-esteem.[24]

Hence, even as employees worry about the competitiveness of their firms and the competence of their top managers, and as they experience greater alienation from management, they must also live in fear for their livelihood. While survivors are becoming more frustrated as still greater demands are placed on them, some CEOs seem at best indifferent to, and at worst, unbelieving of, any problems with employee morale.[25]

The Need for Corporate Renewal

Firms have faltered in global competition because they lacked a sufficiently skilled workforce or because they failed to upgrade capital plant or invest sufficiently in R&D. Employees see others being laid off, or failing to advance because of the lack of requisite skills. Firms have invested millions in misguided acquisitions or unearned (whether actually or perceived) high compensation for top management. U.S. firms' lagging rate of investment in new plant and equipment is well known. U.S. firms spend much less on workforce training than all our developed competitors and less than a third of training budgets on workers.[26] U.S. firms consumed $12 billion in working capital in 1990 to repurchase shares.[27] One might argue the utility of such expenditures in terms of corporate attempts to escape the tyranny of short-term investors. Yet repurchases also serve to improve earnings per share and short-term stock prices, and thus tend to increase the compensation of top managers. The drain on working capital, or hefty increases in debt to fund these repurchases, constrains the firm's ability to invest in its future well-being, thereby placing top management in direct conflict of interest with its employees.

Such practices crystalize misgivings employees may have about the competence and integrity of top management. Some CEOs have already begun arousing that well-known, time-honored American sense of fair play and have paid the price. If CEO compensation rises faster than that of employees, one might question this practice in the context of good management principles. If CEO compensation rises while the share price falls, one might question this as an issue of sound corporate governance. But if CEO compensation rises while employee compensation goes down, or as jobs are cut, one might reasonably challenge this practice as a moral issue. It is one thing to debate a manager's professional judgments and actions; it is quite another to challenge the moral authority to govern. It does not help matters when there is a report that the chairman of a board of directors' compensation committee, which has just awarded $81 million in stock options to the CEO of Coca Cola, heads a law firm that has done $24 million in business with that company over the last six years. This situation is not unique.[28]

How to Force Change

If the case is made convincingly of the need to modify CEO behavior, and if CEOs are unwilling or unable to do so on their own, then what? Consider the firm with top managers being paid 104 times their workers' wages despite not performing well, with an uncommunicative, aloof, elite managerial class that lays off workers whenever it seems helpful, then demands more of the survivors while short-changing the firm's renewal to bolster the short-term bottom line (and top management compensation).

A stakeholder response would seem warranted, yet such a firm might be inclined to discount the possibility, seeing employees as powerless, and the board and investors as weak, co-opted rubber-stampers. What forces can compel change? Three such forces are emerging: more activist and apparently more longterm oriented institutional investors and boards; greater employee bargaining power; and increased employee ownership.

Institutional Power

The proportion of equity in U.S. firms owned by institutional investors has increased from 33 percent to 45 percent in the past ten years.[29] As a result, the proportion of outside directors has increased, as have the number of boards with outsider majorities, outsider control of compensation and board member selection committees, and CEO turnover. More than two-thirds of directors at 1,000 firms surveyed by Korn-Ferry International expect even more influence to be exerted by institutions. Moreover, boards are taking a greater interest in management decisions and insisting on greater access to information and analytical support.[30] Led by state pension funds such as the giant California Public Employees Retirement System (CALPERS], institutional investors are seeking to separate the CEO and chairman roles 185 percent of the Fortune 500 vest both jobs in one individual), to elect an outside director as chairman, and to elect board members individually rather than as a "one-party" slate nominated by the CEO. Meanwhile, there are increasing instances of such institutions withholding their votes to voice displeasure with management practices and board decisions. There are also increased instances of pension fund managers calling directly on CEOs to voice their displeasure. The CEO compensation issue has served as a catalyst for these efforts.[31]

The federal government is responding to the uproar. Proposed federal bank deregulation would allow U.S. banks to emulate the active role of German and Japanese banks in corporate governance.[32] The Securities and Exchange Commission now allows nonbinding shareholder resolutions critical of management practices and is preparing proposals to allow more direct participation in corporate governance by shareholders.[33]

Perhaps even more interesting are indications that institutions are taking more interest in long-term performance. Fund managers are making more use of indexing and doing less trading. Public pension funds are now holding equities an average of four years; CALPERS, the largest, is averaging eight years. Some holdings have grown so large they cannot be liquidated without driving down share prices. The ongoing transition from defined benefit to defined contribution pension plans reduces pressure on fund managers to demonstrate strong performance quarter by quarter. More directors are taking compensation in shares, and more boards are requiring ownership of shares by members.[34] In short, it appears that more and more disgruntled institutional investors may not be as interested in "selling (as in) screaming and voting."[35] In a recent case in point, more than 40 percent of Sears shareholders voted for dissident resolutions calling for annual election of directors and secret ballots in shareholder votes. Slightly more than 27 percent voted to prohibit the CEO from serving as chairman, and 19.3 per cent voted to require each director to hold at least 2,000 shares.[31] If institutional investors continue to become more active and long-term oriented, the capitalist system as a whole can only benefit, and many overpaid, nonproducing top managers will pass from the scene. Investors will also become powerful (if unintentional) allies of employees trying to bring about change at the grass roots and middle management levels, because their interests will increasingly coincide.

Employee Bargaining Power

Given the mobility of managers and impatient capital, it is not unreasonable for employees to believe that they (and their communities) may be the only stakeholders with a true long-term stake in the firm. They deserve and expect managers worthy of their confidence, trust, and loyalty - managers who will recognize and look out for their interests (security, fair compensation, etc.) as stakeholders. If such treatment was not forthcoming, employees would organize (or be organized) to improve their bargaining power in an effort to obtain a greater share of corporate rewards. The current situation may be ripe for a renewal of the power of collective bargaining. If organized labor does reassert itself, it may find a much more favorable environment than in recent years because of the changing nature of work and workers.

Power is shifting to workers who have become more skilled and more knowledgeable about their own increasingly complex jobs, adjacent processes, and the larger operations of which they are a part. Workers are thus less interchangeable, less commodity-like and, therefore, more marketable and more mobile.[36] In other words, they have more bargaining power, even as individuals. Moreover, downsizing has reduced their number, making each even more valuable to the firm. Presuming that firms have retained their best or most experienced workers (which is especially likely if they have exported their low-skill jobs), firms must then be more anxious to retain them and should therefore feel compelled to be more accommodating. The shift in bargaining power will continue as the well-documented shortage of skilled, well-educated employees is exacerbated and prolonged by the ongoing crisis in primary and secondary education - graduation rates and achievement are declining - and by unfavorable demographics. The U.S. workforce will grow by only 19 million between 1988 and 2000, compared with 25 million between 1976 and 1988.[37]

As skilled employees sense their greater value and mobility, they will be less willing to accept bad treatment or to live in fear. They will be much more demanding of their managers. Experience with participative or democratic management practices such as self-managed work teams, quality circles, and cross-functional teams will give them the confidence to make themselves heard. On its face, this is a matter of more concern to middle- and lower-level managers than to top management. Yet if these more powerful employees fail to get satisfaction for their increasingly higher expectations, the option of collective bargaining or collective lobbying begins to look more attractive - even to those who may be uncomfortable with it. Power shifts often tend to overcompensate in frustrated overreaction. After years of living in fear while watching top managers get rich, with collective bargaining in retreat, workers may indeed overreact once they gain the upper hand. The consequences could be severe and constitute a direct threat to management's legitimacy. Increasing employee ownership could compound this effect.

Employee Ownership

More employees are joining the ranks of investors, now owning 12 percent of the 1,000 largest U.S. firms through employee stock ownership plans and pension funds.[38] This may become the most significant trend of all because, above all others, employees will be patient investors, having the most direct and strongest interest in the long-term well-being of their employers and the most to lose when top management fails. As they build strength of numbers, there is no reason not to expect them to exert that power. Indeed, some firms are encouraging their employees to buy shares to improve their sense of "ownership."[39] Employee-owners are already making their weight felt. For example, dissidents among the employees of America West Airlines, who hold 35 percent of the company's shares, moved to oust the CEO.[40]

Living Well in the Future

Much has been said about a certain pessimism that the next generation will not live as well as our own. We heard it articulated extensively by Ross Perot during the last presidential campaign. If that is so, it is largely American business that put us in that position, and only American business that can fix it. It is not yet clear, however, that the will to change has taken hold fully. For some firms, motives for stakeholders to bring about change already exist. The means for stakeholders to act on those motives may be falling into place. Will CEOs resist? Of course. The sudden departure in 1992 of General Motors Chairman Robert C. Stemple after six years of management and huge losses set the tone for what was to come. Soon to follow in his footsteps was American Express CEO James Robinson III who at first appeared to have weathered the storm by some adroit backroom footwork. But in only a week's time, he was forced to resign as support from investors, directors, and other employees evaporated. And then came the fate of IBM's John Akers. After months of insistence that he would lead the corporate giant out of its dark days, he bowed to reality and heavy pressure and resigned. Over at Westinghouse, Chairman and CEO Paul Lego threw in the towel as a result of pressure from shareholders and directors only two and one-half years in the CEO's seat.

Hence, although we might drone on about profit-sharing, empowerment, and measures to minimize layoffs and many other such practices, only one measure will make a real difference. What is essential to the restoration of discipline and accountability in the management of U.S. corporations is an adjustment of the prevailing power relationship between the board and the CEO. This is what activist investors are trying to do. This is the only way that all stakeholders can gain a voice in governance. Shareholders may then exert their rightful will over their subordinates. An enlightened board will recognize that its essential interest, the long-term success of the firm, coincides with the interests of the firm's employees. And it is getting harder and harder for boards to hide in anonymity.

But why should a CEO share the power to nominate board candidates, set agendas, control access to information, set compensation levels, and act as chair? Because it is good business and because it can lead to greater compensation and greater longevity for the CEO. In a study of the Fortune 500 firms researchers found that a participatory relationship of equals between the board and the CEO is associated with better earnings performance and financial strength than rubber-stamp or statutory-minimum kinds of boards - or even dominant boards. Moreover, the CEOs of such firms view their relationships with their boards more favorably than do those with more passive boards. They found their boards not only more efficient and faster in their deliberations but, more important, more effective in terms of the substantive quality of the board's input to decision-making.

The incentives for the CEO to engage the board in a management partnership would include more informed decision-making to better withstand competitive pressure, higher compensation, and, incidentally, a more legitimate claim to resist challenges to authority. The results of this important research encourage the CEO to do only what must be done, in a way that serves the CEO's personal interests as well as the interests of the firm and its stakeholders, in order to head off the revolutionary pressures now building. It must be kept in mind, however, that the merits of this idea turn on whether boards are truly ready to take the long view.

[1] Byrne, John A. and Walecin Konrad, "What, Me Overpaid? CEOs Fight Back," Business Week, May 9, 1992, 142-147. [2] Stewart, Thomas A., "The New American Century: Where Do We Stand?," Fortune, special issue on U.S. competitiveness, 1991, 12-23. [3] Fierman, Jacklyn, "Shaking the Blue-Collar Blues," Fortune, April 22, 1991, 209-218. [4] Mandel, Michael J., and Aaron Bernstein, "Dispelling the Myths That Are Holding Us Back," Business Week, December 17, 1990, 66-70. [5] New York Times News Service, "Average Pay of College-Educated Shrinks Due to Recession, Layoffs," The Miami Herald, May 14, 1992, 19A. [6] Stewart, Thomas A., "The New American Century..." [7] Shear, Jeff, "Producing More, Enjoying It Less," Insight, Match 4, 1991, 36-37. [8] Hewlett, Sylvia Ann, "The Boundaries of Business: The Human Resource Deficit," Harvard Blisiness Review, July-August 1991, 131-133. [9] Farnham, Alan, "The Trust Gap," Fortune, December 4, 1989, 56-78. 10 Byrne, John A., "The Flap Over Executive Pay," Business Week, May 6, 1991, 90-96. Byrne, John A. and Walecin Konrad, "What, Me Overpaid?" [11] Bryne, John A., "The Flap Over Executive Pay." [12] Ibid. Bryne, John. A. and Walecin Konrad, "What, Me Overpaid?" [13] Farnham, Alan, "The Trust Gap." [14] Will, George, "Overpaid CEOs Could Trigger Business-Bashing Intervention by Congress," The Washington Post Writers Group, Fort Lauderdale Sun-Sentinel, September 2, 1991, 14A. [15] Birnbaum, Jeffrey H., "From Quayle to Clinton: Politicans Are Pouncing on the Hot Issue of Top Executives' Hefty Salaries," THE WALL STREET JOURNAL, January 15, 1991, A14. [16] Farnham, Alan, "The Trust Gap." [17] Bryne, John A., William C. Symonds and Julia Flynn Siler, "CEO Disease," Business Week, April 1, 1991, 52-60. [18] Business Week, Editorial, October 7, 1991, 158. [19] Henkoff, Ronald, "Cost-Cutting: How To Do It Right," Fortune, April 9, 1990, 40-50. [20] O'Reilly, Brian, "Is Your Company Asking Too Much?," Fortune, March 12, 1991, 38-46. Nussbaum, Bruce, Ann Therese Pelman, Alice Z. Cuneo, and Barbara Corlion, "Downward Mobility," Business Week, March 23, 1992, 56-63. [21] Solo, Sally, "Stop Whining and Get Back to Work," Fortune, March 12, 1991, 49-50. [22] Lord, Mary, "Where You Can't Get Fired," U.S. News @ World Report, January 14, 1991, 46 48. Hoerr, John and Wendy Zellner, "A Japanese Import That's Not Selling," Business Week, February 26, 1990, 86-87. [23] Stewart, Thomas A., "The New American Century." [24] Keichel, 1992. [25] Fisher, Anne B., "Moral Crisis," Fortune, November 18, 1991A, 69-80. [26] Stewart, Thomas A.K, "The New American Century." [27] Fischetti, Mark, "Taking Stock of the Company," Best of Business Quarterly, Fall, 1991, 54-59. Originally published in The Washington Monthly, March 1991. [28] Byrne, John A. and Walecin Konrad, "What, More Overpaid? " [29] Neff, Thomas J., "Shareholder Muscle Cutting into Corporate Fat," THE WALL STREET JOURNAL, March 25, 1991, A10. [30] Lublin, Joann S., "More Chief Executives Are Being Forced Out by Tougher Boards," THE WALL STREET JOURNAL, June 6, 1991, Al. Neff, Thomas J., "Shareholder Muscle..." Norton, Rob, "Who Owns This Company Anyhow?," Fortune, July 29, 1991, 131-142. 31 Dobrzynsky, Judity H., "How America Can Get the |Parient' Capital It Needs," Business Week, October 21, 1991A, 1991B, 1992A, 1992B, 112. Salweh, Kevin G., "Plans to Limit Executive Pay Come up Short," THE WALL STREET JOURNAL, May 1, 1992, B8B. Salweh, Kevin G. and Joann S. Lublin, "Giant Investors Flex Their Muscles at U.S. Corporations, THE WALL STREET JOURNAL, April 17, 1992, Al, A6. [32] Hale, David P., "Learning from Germany and Japan,:" THE WALL STREET JOURNAL, February 4, 1991, A21. [33] Byrne, John A. and Walecin Konrad, "What, Me Overpaid?" Salweh, Kevin G., "Plans to Limit Executive Pay." [34] Neff, Thomas J. "Shareholder Muscle." Norton, Rob, "Who Owns." Graves, Samuel B. and Sandra A. Waddock, "Institutional Ownership and Control: Implications for Long-Term Corporate Strategy," Academy of Management Executive, 1990, Vol. 4 No. 1, 75-82. 35 Salweh, Kevin G. and Joann S. Lubin, "Giant Investors..." [36] Toffler, Alvin, Powershift, New York, Bantam, 1990. [37] Hewlett, Sylvia Ann, "The Boundaries of Business." [38] Bernstein, Aaron, "Joe Sixpack's Grip on Corporate America," Business Week, July 15, 1991,|| 108-110. [39] Weber, Joseph, "Offering Stock Options They Can't Refuse," Business Week, October 7, 1991, 34. [40] Schine, Eric, "Mutiny in the Air at America West," Business Week, November 25, 1991, 32.
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Author:Scarborough, Jack
Publication:Business Forum
Date:Jan 1, 1993
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