Nardelli, executive compensation and the auto industry:
The recent news of New York base Cerberus, a private equity firm, buying and 80.1 percent stake in Chrysler from Daimler Chrysler AG for $7.4 billion has been major news to say the least. Business enthusiasts and investors have been speculating tirelessly in recent weeks as to how effective former Home Depot CEO, Robert Nardelli, will really be. I figured I’d throw my humble opinion into the speculative arena as well.
Robert Nardelli, a product of GE during the Neutron Jack years, is mainly known as a methodical cost cutter during his six years while at Home Depot. He was credited for doubling sales and the number of store operations while expanding into Mexico and China as well as delivering more than 20 percent earnings-per-share growth for four consecutive years and more than quintupling its dividend to 90 cents a share.
Unfortunately, Mr. Nardelli was also very well known as the poster child for executive compensation debauchery. Although he did bring about some positive change while at the helm, Nardelli managed to pull in roughly $125 million plus a severance package of $210 million when he was finally ousted this year. Oh, and I forgot to mention that during that same time period, Home Depot’s stock fell approximately 7.9%.
Not exactly what shareholders were looking for…Remember, it’s all about increasing shareholder wealth. If increased profits and revenues are not immediately followed by a higher stock price then you really can’t blame for shareholders calling for Nardelli’s head on silver platter. Now just imagine the rage investors must have felt as the mega expensive salt of Nardelli’s severance package was poured directly into their wounds. Ouch! To this day it amazes me how Home Depot’s board could have approved such a foolish employment contract without having a clear set of performance metrics built in. How can employment, at that level, not be directly tied to the company’s performance when that’s the main reason he was hired to begin with? It’s just baffling.
The challenges of Chrysler are vast and daunting. Currently, they’re in the midst of a three-year restructuring aimed at cutting 13,000 jobs in North America. The company seeks to build more fuel-efficient vehicles and increase sales outside a stagnant U.S. market. Is Nardelli the right guy for the job? Does he have the right experience? Does he have a hidden agenda? Excellent questions you might say, but let’s look at the situation in a different shade of light. Can all American Auto makers (not just Chrysler) keep up with foreign competitors who boast labor expenditures that are only a fraction of American labor costs? Introducing more fuel-efficient cars and increasing sales are great but isn’t the problem a much more fundamental one? Health-care benefits, job security, wages and pensions mean that on average workers get $30 an hour more that Toyota’s American workforce.
The gap is clear and obvious. Cost cutting is more then just needed…It’s essential for these auto makers to survive. But, as we all know, that is much easier said then done with the unflinching support of the UAW. You can see both sides can’t you? On one hand, company’s like Chrysler and GM must cut expenses in order to compete with foreign competition. Then on the other hand, you have the American Auto Workforce that is really just trying to maintain their way of life by continuing to earn a decent wage and corresponding benefits. It’s just an ugly situation all around with no silver bullet cure in sight.
What I do know is that an investment firm such as Cerberus is not in it for the long haul. It’s simply not their MO. Chrysler, through the eyes of Cerberus, is an opportunity that can and will be exploited within the next 3-5 years. The selection of Robert Nardelli was very much by careful design. Nardelli has historically been known as a cost cutter, not an innovator, which to me indicates just how far Cerberus plans on taking their massive investment. The not so distant future promises to be chalked full of plant closures, employee lay-offs, union battles and anything else that can be effectively streamlined.
Nardelli’s case is not the only case of egregious executive compensation payouts. We’ve seen many over the years and I’m certain the trend will continue. But to be perfectly honest, I don’t disagree with the majority of executive compensation contracts when they are directly tied to performance. I really don’t. Taking on the top spot in any publicly held organization is not just a job…It’s a new life which you eat, breath and sleep business 24 hrs a day. It’s a role which places the metaphorical spotlight directly upon you at all times…No longer are you only responsible for your own well being and success…Now you must answer, please and exceed expectations for your employees, board members, shareholders, wall street, political interest groups, communities, activists and regulators. Don’t forget family! That is if you can manage to hold one together while touting such a position. It’s been said that CEO’s have anywhere between two and three divorces during their lifetime. That’s a very telling statistics if you ask me. Now wouldn’t you want to be compensated for that much pressure and sacrifice?
Don’t get me wrong, in some cases there are clear acts of abuse, bordering on malfeasance, when it comes to executive compensation. Nardelli’s situation is obviously one of them. But how do organizations, with their tremendous needs, continue to attract top talent that will deliver the performance they demand? Why would a top tier talent want to leave a familiar situation to rescue a struggling organization within an industry that’s loosing market share each and every day? Why would an organization intentionally bring on sub par talent when the risks are so high? These are loaded questions that organizations have been dealing with for decades. But it all comes down to two fundamental questions when it comes to acquiring top talent at any level:
1.) What new challenges can you provide me?
2.) What incentives will you give me?
Please also note that these two questions are not mutually exclusive in any way. One cannot exist without the other in the eyes of “Grade A” talent.
As the years of corporate compliance continue to mature, I do feel executive compensation will eventually plateau in most scenarios (without taking inflation into consideration, of course). Now that more and more organizations are divulging executive compensation publicly, shareholder pressure should moderately real in most pay packages over the long haul. But it must also be understood that each organization carries with it, a unique balance of complexities, which also includes its market cap. When you’re referring to an organization with a market cap of say $25 billion versus another organization of say $1 billion, the financial position of the $25 billion organization obviously carries with it the ability to dedicate a much larger incentive package for a potential executive candidate.
My point to this trivial example is that the media, which wields overwhelming power in its own right, tends to emphasize the monetary payout before anything else when it comes to executive compensation. The front page could say something like “CEO makes a cool $30 million this year”, which immediately causes many readers to think, wow, that’s ridiculous…How can someone be worth that? Executive pay is out of control! Remember, if that pay was tied to performance, he or she might have brought in 50 times that figure, which in turn could have theoretically generated millions for investors.
Here’s a few hypothetical’s for you…If you knew, with certainly, that after bringing in some top talent that he or she would bring increased revenues and profitability, decrease costs and make millions for investors…Wouldn’t you feel pretty good about paying them that $30 million? I sure would.
Now…Imagine you didn’t have your mighty crystal ball and you couldn’t guarantee such an end result, but you logically knew if got the best talent that it would drastically improve you odds of meeting expectations. Wouldn’t you do everything in your power to procure such a talent? Well of course you would. It would, quite frankly, be fiscally and professionally irresponsible if you didn’t.