E-Mail   |   Print   |   Request Reprints   |   E-Mail Newsletters   |   RSS

When is it going to stop?

I'm talking about how we shareholders are short-changed by managements of major corporations. Salaries are the least of it. Even bonuses, normally double the salary level are OK by me. It's the options and stock grants blithely rubber-stamped by outside board members chairing compensation committees that cost us big time.

Executive compensation consultants know what they're there for: Making the headman super-rich, a billionaire by retirement age. They justify their findings by comparing compensation levels within a comparable peer group, making it a self-fulfilling closed-circuit club where everyone wins.

I discard most annual reports, largely composed by lawyers and public relations types who gush in corporatese: "ExxonMobil's fundamental business strategies are key to achieving sustained outstanding performance in all aspects of our business." Blah! Blah! Blah!

Rare is the annual report that deals candidly with the past year's challenges and how the company is positioning itself for the future. There's little or no mention of competitive forces or whether they are doing poorer or better within their peer group. There are a few exceptions, like ExxonMobil (nyse: XOM - news - people ) and IBM (nyse: IBM - news - people ), who do publish extensively detailed annuals. But I have a quarrel with Exxon.

There are a few corporate documents that are required reading for serious investors. First, the quarterly 10-Q report to the Securities and Exchange Commission (SEC). Then, the annual 10-K filing. Even before you parse these documents, go to the proxy filing and study the methodology compensation committees follow to shell out largesse to top management.

The dirty deeds come to light in small-print size that is compressed with little white space between lines of type. The concept is to make the page as uninviting as possible to decipher in repose.

ExxonMobil delays this filing a week or two after the annual report sees light, probably to avoid the spotlight, but the financial press does pick it up. New Chairman Rex Tillerson's total compensation package came to $16.7 million. Considering Exxon is a $40 billion earner, this is actually peanuts. There are more egregious examples.

Exxon, hyper-sensitive to backlash, worries about politicians kicking them around for making so big a pile of mullah. It pays lip service to environmental issues, employee safety and rewarding shareholders. This is a myth easily demolished.

What irks me is the company's claim that it's using all its free cash flow in the interest of shareholders. There is a fatherly tone throughout the annual report, with shareholders treated like little children.

Management talks about total shareholder distributions of $35.6 billion, but this sum includes buybacks, which benefit management much more than shareholders. These buybacks reduce the earned surplus account, making it easier to up the return on equity (ROE), thereby justifying generous stock option grants.

Actually, Exxon Mobil's divided policy is stingy at $ 7.6 billion, 19% of earnings. The stock yields just 1.5%, less than the S&P; 500 Index. It is a financial fortress with just 7% debt to total capitalization, more than wiped away by its cash hoard of $34 billion.

IBM became a stock by leveraging itself and buying back tons of shares with the capital. Exxon does shrink its capitalization 5% or 6% per annum, but it could do much more. It reminds me of John D. Rockefeller Sr., benevolently doling out dimes.

We need to see management's stock options tied to finding more oil, thereby increasing annual production, which peaked years ago. What makes ExxonMobil a problematic investment is that production from existing fields is in a natural decline mode of 6%, annually. Despite zippy oil quotes last year, upstream earnings flattened out.

Exxon needs to increase upstream expenditures in coming years, from $15 billion to $20 billion, as it is barely replacing proven oil reserves. The cost of finding and producing new reserves escalates rapidly. For many international operators like Exxon the number ranges from 10% to 15% annually.

Absent rising quotes for a barrel of oil, Exxon's earnings are cyclically vulnerable. On Wall Street, it gets credit for being the most efficient operator in the business, like General Electric (nyse: GE - news - people ).

But GE just turned in a disappointing quarter and spooked the stock market. If oil prices decline, Exxon's earnings will decline sequentially. The company needs to anticipate this with a major-share buyback program, comparable with IBM, also in a slow-growth mode.

When I look at other great operators, like Schlumberger (nyse: SLB - news - people ), Apple (nasdaq: AAPL - news - people ) and Cisco (nasdaq: CSCO - news - people )--who also sport impregnable balance sheets with little or no debt and huge cash hoards--I see no symmetry in executive compensation.

The headman at Schlumberger took home $17.7 million last year, comparable with Rex Tillerson at Exxon Mobil. Exxon makes over 10 times more money. Steve Jobs at Apple paid himself zilch in 2007, but he does own over 5.5 million shares currently valued at $800 million. (He earned it.) Cisco earned $7.3 billion, but John Chambers got $11 million.

The compensation analysis on Schlumberger made by Towers Perrin, which crops up everywhere, uses revenues not earnings as the major criterion. So if you're big, compensation levitates.

This brings us to Occidental Petroleum (nyse: OXY - news - people ), where largesse ran off the page. Oxy earned $5.4 billion with a return on equity of 26%. Keep in mind that ExxonMobil earned over $40 billion with a return on equity of 34.5%. Oxy's chemicals earnings declined from $900 million to $601 million, while Exxon's chemicals sector edged up from $4.4 billion to $4.6 billion.

Oxy's executive compensation committee is chaired by John Chalsty, formerly chairman of Donaldson, Lufkin & Jeanette Securities. He's a savvy numbers man. Ray Irani, chairman, made $77.6 million last year on a base salary of $1.3 million. Irani's "package" totals up to 1.5% of Oxy's earnings--an outrageous sum. Even some Wall Street honchos would be embarrassed to take away so much. Irani's options date back many years when Oxy was a struggling petrochemicals operator.

Oxy's earnings lifted because the price for a barrel of oil rose, not within management's control. I'm not complaining about how Oxy has positioned itself in terms of production and reserve replacement through acquisitions--an above average job.

But Irani can't be over four times more outstanding than Rex Tillerman of ExxonMobil. If Irani were a magician, chemical earnings would have levitated. Steve Chazen, president of Oxy earned too much as well: $29.8 million.

The lion's share of compensation for both execs embraced return on equity awards and total shareholder return yardsticks, legitimate measurement tools. The problem is the compensation committee put no reasonable cap on these payouts and set a low ROE hurdle rate.

The five top guys at Goldman Sachs (nyse: GS - news - people ) allocated 3% of corporate earnings to themselves. They earned it in a rough-and-tumble year on Wall Street. Irani's boat rose in the water as oil prices went through the roof--something beyond his control.

Open your windows and sound off. Silent investors turn into silent losers.

Martin T. Sosnoff is chairman and founder of Atalanta/Sosnoff Capital, a private-investment management company with over $8 billion in assets under management. Sosnoff has published two books about his experiences on Wall Street, Humble on Wall Street and Silent Investor, Silent Loser. He was a columnist for many years at Forbes magazine and for three years at the New York Post. Martin Sosnoff owns personally, and Atalanta/Sosnoff Capital owns for clients, the following stocks cited in this commentary: IBM, Schlumberger, Apple, Cisco, Goldman Sachs and Occidental Petroleum.

Rock-Bottom For Big Banks?

Payrolls Drop, Stocks Follow

Article Controls

E-Mail   |   Print   |   Request Reprints   |   E-Mail Newsletters

del.icio.us   |   Digg It!   |   My Yahoo!   |   Share   |   RSS