Yesterday I went to a fabulous presentation on board governance hosted by Katten Muchin in Chicago. The speaker was Baruch Lev from NYU. He covered a wide range of issues that I was interested in. Mr. Lev received his PhD from the University of Chicago. Like a good professor, he taught me something. I thought I would relay his information for the benefit of the broader community.
There are several good reasons for investor discontent. We have had the worst stock market decade since the Great Depression. America has witnessed a parade of corporate implosions and accounting scandals. We have seen stock option manipulation, and cases of executive compensation excesses. New technology has brought us a flash crash and dark pools of liquidity.
The reaction of investors has varied. What’s alarming is that they have begin to desert the equities market in droves. This hampers market transparency and is detrimental to building wealth in a society. Sentiment has allowed lawmakers to pass costly and restrictive laws like Sarbanes-Oxley and Dodd-Frank. Additionally, the SEC has amended securities regulation to allow Say On Pay, proxy contests and “vote no” on directors. Hedge funds have been able to use these new regulations to intervene in board composition, corporate strategy and manager’s pay. CEO’s are shackled.
Even though the sands of investor sentiment are shifting, internally life inside companies is business as usual. That can be a dangerous, and strategic mistake.
Lev went on to show some of his research. He looked at S&P 500 company specific total CEO compensation versus the Return on Assets in percentage from 2003-2008. He found that the stock performance of the company was unrelated to pay. The correlation between the two variables is 0. The numbers don’t lie, but it would be interesting to look at this correlation in a different time period, or for a longer extended time period.
Lev went further. Overwhelmingly, companies beat the consensus estimate from analysts expectations quarter after quarter. Consider that for a moment. It’s a pretty amazing statistic. Not only that, but 70% of companies beat analysts consensus by 1, 2 , or 3 cents! The only conclusion that can be reached is that companies are managing earnings to look better than they really are.