Friday, July 24, 2009

Did Goldman learn anything? Did shareholders?

Asymmetric and short-term oriented pay packages have largely been seen as major causes of the financial meltdown we saw last year. So since everyone has seen the problems, we are no longer going to pay people in the same manner. Right? Well, hold on, not so fast.

First from the NY Times:
"Goldman posted the richest quarterly profit in its 140-year history and, to the envy of its rivals, announced that it had earmarked $11.4 billion so far this year to compensate its workers. At that rate, Goldman employees could, on average, earn roughly $770,000 each this year — or nearly what they did at the height of the boom."

Now it should be noted, that the firm has not said what they are doing with all of this money that is being set aside, but it does seem like a potential problem.

In the WSJ, Harvard's Lucian Bebchuk stresses the short-term focus of plans. (Remember the firm was losing billions last year).
"...if Goldman proceeds to pay record cash bonuses this year, as many now expect, these payments would reflect a return to flawed pay structures, as well as a failure to implement effectively the compensation principles Goldman recently put forward....The crisis has highlighted a substantial flaw in compensation structures that provide rewards for short-term performance – which is what Goldman’s paying super cash bonuses for 2009 would do. Such rewards can over-compensate executives as well as produce excessive incentives to take risks."

On the same theme later:
"The short-term distortion caused by standard compensation structures, ...highlighted in our “Pay without Performance” book, has recently become widely accepted. Treasury Secretary Geithner stated last month that “[s]ome of the decisions that contributed to this crisis occurred when people were able to earn immediate gains without their compensation reflecting the long-term risks they were taking for their companies and their shareholders.”"
What can be done? Bebchuk suggests a partial solution that is being used by some firms:

"At a minimum, even if some bonuses are based on 2009 results alone, Goldman would do well to prevent the immediate cashing out of these bonuses....any 2009-based amounts should be parked in a company account for an extended period of time and adjusted downward if subsequent information indicates that the basis for the bonuses no longer holds up."

This piece brings to mind two cliches which I will allow the reader to apply as needed:
  1. "Fool me once, shame on you. Fool me twice, shame on me."
  2. "Learning from our past mistakes is a sign of intelligence."

BTW the article is also largely available on the Harvard's Governance blog.

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