How High CEO Pay Hurts the 99 Percent
Continued from previous page
From 1982 to 2000 the U.S. experienced the longest stock market boom in its history. Average annual stock-price yields of S&P 500 companies were 13 percent in the 1980s and 16 percent in the 1990s. So it didn't require any great genius to make money from stock options. In fact, it became a no-brainer. In 1991, the Securities and Exchange Commission waived the longstanding rule that, as corporate insiders, top executives had to hold stock acquired through exercising their options for six months to prevent “short-swing” profit-taking. As before, executives did not have to put any of their own money at risk in being granted stock options. But now they could also pick the opportune moment to exercise their options without any risk that the value of the company’s stock would subsequently decline before they could sell the stock and lock in the gains.
The New Normal of Corporate Greed
The speculation-fueled “irrational exuberance” of the late 1990s brought unprecedented pay bonanzas to top executives, thus establishing a “new normal” for corporate greed. When boom turned to bust in the early 2000s, money-hungry executives had to look for another way to get stock prices up and make their millions. Their favorite “weapon of value extraction” over the past decade has been the stock buyback (aka stock repurchase). Top executives allocate massive sums of corporate cash to repurchasing their company’s own stock with the purpose of boosting their company’s stock price. Stock buybacks and stock options have become the yin and yang of executive compensation.
Let’s take a look at how it works: The board of directors of Acme Corporation authorizes the CEO to repurchase the company’s own outstanding shares up to a specified value (say $5 billion) over a specified period of time (say three years). On any dates within this three-year period, the CEO then has the authority to instruct the company’s broker to use the company’s cash to buy back shares on the open market up to the $5 billion limit and subject to the SEC rule that the buybacks on any one day can be no more than 25 percent of the company’s average daily trading volume over the previous four weeks. That might permit Acme to do buybacks worth, say, $100 million per day. It may be the end of the quarter, and the CEO and CFO want to meet Wall Street’s expectations for earnings per share. Or they may want to offset a fall in the company’s stock price because of bad news. Or they may want to ensure that the increase in the company’s stock price keeps up with those of competitors, who may also be doing buybacks. Whatever the reason, by the laws of supply and demand, when the corporation spends cash on buybacks, it “manufactures” an increase in its stock price.
Then, with the stock price up, the CEO, CFO and other insiders may choose to cash in their stock options. Presto! They make tons of money for themselves.
Meanwhile, these executives will tend to ignore investments in innovation and training. Some companies actually fund their buybacks by laying off workers, offshoring jobs to low-wage countries, and taking on debt. The top executives’ weapon of value extraction becomes a weapon of value destruction. They are rewarded handsomely by not doing their jobs.
In 1981, 292 major corporations spent less than 3 percent of their combined net income on buybacks. In 1982, however, the SEC passed a rule (10b-18) that gave corporations that did very large-scale stock repurchases a “safe harbor” from charges of stock-price manipulation. Buyback activity then became larger and more widespread, increasing substantially over the course of the 1990s. From 2003 to 2007, buybacks really took off, and by 2007 the very same 292 corporations now spent over 82 percent of their net income repurchasing their own stock.