Capitalists Who Could Wreck Capitalism, Part I

GUEST: Gretchen Morgenson
VTR: 01/22/2007

I’m Richard Heffner, your host on The Open Mind. And I have no problem at all in touting quite a compelling online feature that concerns today’s guest.

For when you go to Times Select, you’ll find New York Times widely read columnist and assistant business and financial editor Gretchen Morgenson offering a quite compelling rationale – not quite an “Apologia”, you’ll come to understand – for the “trenchant and incisive” coverage of Wall Street and America’s corporate community that has already won her a Pulitzer Prize.

As you might guess, it’s also garnered for my guest some pretty fearsome criticism from those whose oxen have been mightily gored by her brilliant pounding away week after week at such corporate abuses as indecently excessive executive compensation, as the back-dating of option grants, and as the systematic placing very much on the back burner stockholder interests and inquiries … to mention just a few items that occupy Gretchen Morgenson in her reporting on the business of modern America … which, in Calvin Coolidge’s terms, seems very much once again to be business. Indeed, maybe it always was and always will be.

Anyway, my guest keeps saying – and writing – how wrong people are in assuming that her muckraking reports related to America’s corporate abuses indicate that she is really opposed to capitalism itself, is something of a closet socialist. She says she is really only keeping check on the evil doers … those “capitalists who would wreck capitalism”, end quote.

But I would start our conversation today by asking Ms. Morgenson whether she isn’t spinning that line a bit too fine.

After all, couldn’t one argue that the greed she openly says characterizes human nature, is itself the very basis of capitalism? And that it is this essence of capitalism — not just a few bad apples — that threatens the free economy she so much admires. Fair question?

MORGENSON: Very fair question. And one that is not put that eloquently, that often. But I really believe that capitalism is about giving everyone a fair chance. And about the ownership society. And what we have devolved into in this country is a corporate class of people that does not seem to remember … many of them … do not seem to remember that they are working for the shareholders. And so I can be a populist for the shareholders and still be a capitalist at heart.

And while some might think that those two positions are difficult to square, I think it really is where we have to go if we are to allow people to retire in prosperity. If we are to allow shareholders to really, truly have a stake in corporate America and the riches that that can provide them. I think that’s absolutely necessary.

HEFFNER: But isn’t this the way that capitalism has evolved and don’t we then have to say “that is the nature of capitalism?” When the power accumulates sufficiently it will be used in this abusive or these abusive directions.

MORGENSON: I think that you’re right that the power has coagulated … to use a word … in the managers side of the equation and away from the owners side of the equation.

I think in the old days when we used to think about the owners of corporate America, we thought about “fat cats” and cigar chomping CEOs and big money management arms of companies and banks.

Now, thanks to the democratization of the stock market, we have moms and pops and widows and orphans relying on the performance of these companies’ shares to allow them to have a decent retirement. To allow them to have a share in prosperity going forward. So I think that we have achieved that goal of getting the ownership society started. But unfortunately you’ve got … CEOs have amassed so much power against shareholders that the playing field is by no means level. That’s what I like to write about.

HEFFNER: How do you level it? How could you level it?

MORGENSON: One of the things that I have been despairing about is the lack of interest in shareholder activism or even just trying to make inroads toward shareholder democracy, which is now an oxymoron in this country, because shareholders do not have the right to vote Directors out of office.

One of the things I’ve deplored over and over and I’m trying to get people to feel the same way about it, is the lack of interest among the big mutual fund companies to try to act to thwart this kind of crony capitalism, this kind of undemocratic society in the shareholder’s realm where they have no impact whatsoever on the Board of Directors and so you have allowed to have this cozy relationship between the CEO and the Directors continue well beyond when we had all hoped that it would be over.

So where have the institutional investors been in this question? They have been a severe disappointment to anyone hoping to get any sort of clout. Because they have a lot of the power and they’re doing nothing.

HEFFNER: Why are they doing nothing in this cronyism that you’re talking about?

MORGENSON: I wish I knew the answer. I can only assume that part of the reason why a Fidelity, even a Vanguard, other mutual fund companies don’t want to rock the boat, by voting against management on certain issues; by voting against the Directors that have been put up by the company … is that they have relationships that are very profitable and very lucrative with those companies themselves.

HEFFNER: Capitalism again.

MORGENSON: They might run their 401(k); they might be their Administrator for their pension plan. And so there are underlying relationships that you and I might not know about, but that very much might impact their interest in being a voice of reason or even a voice of outrage.

HEFFNER: Now you say you and I might not know about, but that makes me think … Gretchen is going to find out about this. This is the next crusade that I’m going to read about in The New York Times. Is that fair?

MORGENSON: I’ve already written about it to some degree. Last proxy season in the springtime when Pfizer’s Board was under a lot of duress for supporting its Chairman, Hank McKinnell and for signing off on a really immense pension benefit even though the stock had fallen under his reign.

I wrote a little bit about how much Pfizer stock Fidelity owned and how much Pfizer stock Dodge and Cox owned and other mutual fund companies that were in a position to send a powerful message to Pfizer that they did not like the way the company’s Board was operating and did not do so. Voted instead with management.

Perhaps because of those kinds of relationships. But I do want to continue to plumb that, because I think it’s something that really tells the tale.

HEFFNER: Well, at the end of 2006 you listed a number of areas that you were going to keep your eyes opened and focused on and that we should … the reading public … and certainly that had to do with … not just criminal actions, as in the option situation, but many more things like this. What do you think will happen? What do you think will happen as the result of your turning a light on this?

MORGENSON: I hope that what happens is that people at these organizations start to think at least twice about the status quo. And think twice about voting with management across the board. Fidelity, for example, is 99% of the time voting with management. Now you can’t tell me that the managements of all these companies are doing so splendiferously that we can just support them and rubber stamp them.

That’s not the shareholders role. And while the shareholder is not in the Boardroom, the shareholder very much relies on the Directors to act as a pushback for management. Management doesn’t have all the answers anymore than I do or you do. Don’t you often like to have conversations with people who take the opposite point of view just to make you re-think your strategies. Same should go with CEOs.

And yet we have these Boards that are sort of yes … filled with “yes” men and “yes” women who focus on collegiality rather than, you know, sort of give and take that you would normally assume would be happening in the Boardroom.

What I think is going to happen … I hope is going to happen … is that as we focus more on these hidden relationships, that mutual fund organizations will take a more aggressive stance. If only to send a message that they’re alert and awake and not asleep at the switch.

HEFFNER: Do you think that will happen? I know it’s what you hope will happen.

MORGENSON: It’s already starting to happen. Putnam Investments, which is a very big mutual fund company has started to take the lead on this. Has written letters to management, has voted against management, against Directors, withheld their support from Directors. Has outlined their reasons why … usually it’s about pay, or some sort of management entrenchment issue at the company. But that’s one major company, one major mutual fund organization that’s leading the way. And I think as others see that they’ll … I hope they’ll follow suit. I think they might.

HEFFNER: Well, when our Rutgers intern Garrett Broad gave me some materials, background on my guest today. He said, in reading through that material, he raised the question of “are we experiencing some giant crime wave in big business?”

MORGENSON: Doesn’t it feel that way?

HEFFNER: Yes. It does. I understood what he wrote.

MORGENSON: Except I don’t think we are … this is the $64 billion question … I ask it regularly of the people I talk to who are authorities in these areas much more than I am. I never have yet to get an answer that I feel satisfied by.

I don’t think we’re in a massive crime wave because I don’t think human nature changes that much from year to year.

HEFFNER: You’re scaring me.

MORGENSON: Well, I think that we are … we have more people focused on it. We have more rules that possibly expose it, such as Sarbanes Oxley which a lot of people would rather … was junked as soon as possible.

The fact that CEOs and CFOs now have to attest to the quality, to the, to the truth, really of their financial statements has put the fear of God in people and has made company Boards, accounting firms, internal financial people much more careful about what they put out there. Then you get the exposure of the problems. So, in a way, this could be just a reaction to some of the post-Enron fixes that we put in place to try to prevent the Enrons and the WorldComs from happening.

HEFFNER: Are you … are you convinced that the fixes are not enormously negative in terms of permitting what you approve of … the free capitalist market?

MORGENSON: We have heard from about a year now … I would say it’s been a pretty steady drumbeat … of rollback Sarbanes Oxley, Sarbanes Oxley is causing all this trouble for companies, they can’t possibly meet the obligations.

And Sarbanes Oxley I will concede was written in haste. It was written in response to WorldCom, WorldCom failed in July, Sarbanes Oxley was in place in August. There’s no coincidence of that. People were responding quickly.

When Congress responds quickly to something … usually it’s a disaster. So, yes, there are probably areas that need some tweaking, that need some kind of … maybe, I don’t know … massaging.

However, rolling it back, and particularly some of the areas that the critics have been most vocal about … such as these kinds of standards and accounting standards … the whole area of attesting to the financial statements. Having confidence in them. I mean that kind of thing, I think, is imperative and I, I do not believe for one minute that we are losing our competitive edge in the United States of America because of Sarbanes Oxley.

HEFFNER: Of course, in this morning’s New York Times … and we’re taping this at the end of January 2007 … there’s a story that the Mayor of New York and the senior Senator from New York are complaining … are worrying that New York’s role in the capitalist society is going to be limited, thanks to these regulatory impositions. And are waving a flag about that. You have no great sympathy for that point of view?

MORGENSON: I do not. I do not. We still have the capital markets that are the envy of the world. I think a lot of these studies will point out figures and statistics that come from, say, the UK market. Maybe … I remember one of these studies said that IPO issuance in the United Kingdom was far greater than it was in this country.

Turns out I don’t believe that to be true. I think we had a far greater number of IPOs and higher quality IPOs than you have in the UK. It’s all about the quality of the numbers and the financials.

Would you want to buy an initial public offering of a company that was not vetted by its accounting firm? Was not attested to by its CEO, CFO? I don’t think I’d necessarily want to buy into that IPO. Maybe they’re doing fine over there in the UK. But I think our standards are higher and therefore we have better quality of earnings.

HEFFNER: But you see I’m a child of the Depression. I … my frame of reference is the, the wild and wooly twenties and what happened to our marketplace at that time. So that the notion of regulation does not concern me at all.

What does the idea of regulation do to you? You … who, who say … that’s why I quote that, that website of the Times because you are, you’re so articulate and say, “I’m not a closet Socialist. I believe in capitalism.” But what, what … what’s your “fix” on regulation?

MORGENSON: Capitalism I believe works best when there are checks and balances on it. One of the checks and balances is the press. That’s a very important role. I believe another check is regulation. I think that if we are to believe that in this country we want people to be allowed to invest their hard-earned money, their future retirement in corporate America, become a part of the ownership society, which I think is a good thing because then you become a stake holder in the whole idea … you’re not relying on the government, you’re not relying on Social Security which we all know is fraught with peril.

Then you want to be able to trust the financial statements of the companies whose stocks you are buying. And if that means that you have to submit to regulation, then so be it. It makes our system better, stronger, healthier, more reliable. Now we do have the WorldComs and the Enrons and we do have to react and respond to those things.

But I do think that for the most part this country is operating in an up and up manner, that most business people are on the up and up, but that the bad apples need to be exposed and that regulation is a crucial part of the scenario of checks and balances on capitalism.

HEFFNER: What do you think is the future … likely future of this point of view … of a point of view that incorporates the need, as you see it, for regulation? Where do you think we’re going in this regard?

MORGENSON: I think a lot of the answer to that question depends upon what happens next. If we have another nightmare meltdown like Enron, like WorldCom, or another severe crack in the stock market, then you will once again have people calling for more regulation. That is a natural outgrowth of a disaster.

I, on the other hand, like to see the regulation sort of continue so that we don’t have these peaks and valleys where we get the hastily written Sarbanes Oxley after WorldCom goes bankrupt …the biggest bankruptcy in history. So I think that if you have a disaster, a large disaster, financial disaster say about a hedge fund or I don’t know what it would be, then that would immediately call on more regulation. You would hear cries for more regulation … the people making the arguments that Sarbanes Oxley is onerous and, you know, horrendous and awful and to be thrown out … would go back into their holes.

HEFFNER: It would be shameful on my part if I then didn’t ask you … do you think there’s going to be another big crack in the wall?

MORGENSON: I hope not. But … the pools of capital have become so enormous …the hedge fund world alone commands these trillions of dollars. We all know that hedge funds are less well regulated. I don’t necessarily think the problem will be … will emanate from hedge funds, but the amounts of money, the pools of capital that are sloshing around the world are so massive and they all do seem to follow a herd instinct, as it were … everybody runs into oil and oil goes up. And everybody runs into what other commodity …

That it seems to me that there is some … there is a feeling that … that there is tremendous risk in the system, that maybe we don’t even have a grip on. Whether it’s from derivative securities, which are unregulated and really only securities that are bought and sold between two parties and no one has any idea what they, what the obligations are between the two. That’s a very scary prospect.

HEFFNER: But …

MORGENSON: We’ve survived a lot of hits, Richard, is the good news. You know we survived Fannie Mae having a six billion dollar restatement of its earnings. A quasi-government entity that was cooking the books. We’ve survived so many of these things … I tell you … I, I’m impressed.

HEFFNER: Yet you are concerned. Because, as you say there are so many … I suppose … I couldn’t think of the word … trillions … gillions … whatever … sloshing around as you suggest. You know the deregulation … the mantra “deregulate, deregulate, deregulate” … we attribute that to the Republicans in the Regan era and since that time … but the Democrats played that game, too.

MORGENSON: MmmHmm.

HEFFNER: Do you see in the parties now any line up that might be dependent upon, in terms of intelligent regulation … regulation designed as … let’s say … Roosevelt designed his New Deal to help capitalism survive, not to overtake it with Socialism.

MORGENSON: I haven’t seen anything that I would consider to be sort of that useful construct. That, you know, takes a problem and walks it all the way through to the end and does it in a, you know, whole holistic manner or any more than cursory “fix-the-problem” band aid manner which is more of what I think we see coming out of Washington.

I don’t have a lot of faith in Washington solving our problems. This is why I come back to the shareholder being the party that should try to solve these problems before Washington gets involved.

An example is executive pay. Back in 1993 Congress put in a rule that said that if an executive earns more than a million dollars … it cannot … the over and above a million cannot be tax deductible unless it is considered a part of a long term incentive plan, based on performance of the company.

This wrought the option mess that we are in now. Because all these companies did was … “Okay, anything over and above a million … well, it’s all long term incentive oriented, based on performance, it’s stock options.” So then we were off to the races on stock options and executive pay packages went wild as you know.

So Congress in its, you know, infinite wisdom, trying to solve a problem … just shuts the door and corporate America opens the window. So there’s always going to be a smart person to figure out the end run around whatever it is that Congress writes.

HEFFNER: But that’s what some of my friends who are opposed to Sarbanes Oxley say … there’s always going to be … the more regulation you have, the more figuring that’s going to be done as to how to get around the regulation. You say the antidote to that is the stockholder democracy.

MORGENSON: And giving more power to the shareholders and awakening the inert and asleep shareholders, who are a fiduciary, after all, to me and you. Vanguard is a fiduciary to me … they are supposed to act in my best interests, they’re not supposed to put their interests ahead of mine, it’s my money, not theirs.

HEFFNER: Do you think it’s a little … I remember a speech that Johnson Calhoun gave in the Senate a century in a half ago, he said, “It’s like calling health, health, health and thinking that you’re well after that.”

You talk about shareholder participation, it sounds so nice. What in the world does it mean in terms of effecting what you want?

MORGENSON: If Directors were worried about losing their seats in the Boardroom because shareholders would vote them out, then mighten’t they be a little more vigilant about what they’re watching management doing? And in their oversight of management? It’s worth trying … as an experiment.

HEFFNER: You’ve seen a little of this happen, haven’t you? I mean … you, you … I assume you’ve seen the results of your crusades.

MORGENSON: No … I mean …

HEFFNER: No?

MORGENSON: … to the degree that shareholder democracy still does not exist.

HEFFNER: At all?

MORGENSON: No. You, as a Director … you’re running for election on the Home Depot Board. You can vote for yourself and you can be the only person voting for you and you win. Everyone else can vote against you and you still win. It’s not a democratic system. So until we get more involvement in the election of Directors by shareholders, I think that we’re sort of doomed to this, you know, adversarial relationship between shareholders and Directors. I think it can be more … much more collegial … or at least a check and a balance.

HEFFNER: But you know, here right at the end of our program … you scare me even more because I expected you to say, “Well there are indications that shareholder democracy …

MORGENSON: It’s a long battle, it’s a long fight. And I … one thing I’ve learned in my eight or nine years at the paper is that you can’t just write about something once or twice. You have to write about it a lot, a lot, a lot …

HEFFNER: That’s what I hear from …

MORGENSON: To get people’s attention, to get them off the dime and so, I’m not going to give up, but I, I see sunlight up ahead … I hope it’s not the oncoming train. But, we aren’t there yet.

HEFFNER: But thank you for keeping at it, Gretchen Morgenson. Thank you for joining me today.

MORGENSON: My pleasure.

HEFFNER: And thanks, too, to you in the audience. I hope you’ll join us again next time. For transcripts please send $4.00 in check or money order to The Open Mind, P. O. Box 7977, FDR Station, New York, New York 10150.

Meanwhile, as an old friend used to say, “Good night and good luck.”

N.B. Every effort has been made to ensure the accuracy of this transcript. It may not, however, be a verbatim copy of the program.