Well, blow me down.
Dye my hair red and call me Blue.
Apparently — and you won’t believe this — apparently, Westpac execs were (are?) driven by ‘status, money and power’, according to this morning’s Fin.
The story quoted Amanda Wood, who was, until relatively recently, Westpac’s compliance manager who reported the AUSTRAC breaches. I say until relatively recently, because, well, she was apparently removed from that role after making the report.
Just let that sink in for a second.
Yes, I’m sure the bank had its reasons. I’m sure those reasons have nothing to do with the report…
(It refused to comment when approached for that latter AFR report, linked above, so we’re left to speculate.)
But back to today’s story. Wood is quoted, in Aaron Partick’s report:
“”The initial response was not really about ‘how do we fix this?'” she said in her first, and what she said will be her only, interview since the scandal broke. “The response was at least partially about: ‘how we get ourselves out of this? How do we deflect attention from it?'””
Are you surprised? No, me neither.
I have to say, I really didn’t want to write more about Westpac today. The story has been done relatively to death, including by yours truly, last week.
But it was too compelling a jumping off point.
Because what caught my eye — and my attention — isn’t that the company in question was Westpac.
What caught my eye was the reporting of the bank as being driven by ‘status, money and power’.
No, it wasn’t a surprise. That’s not what grabbed my attention.
What made me take notice was the inference that these things were either a surprise, or even unusual across corporate Australia.
Or society in general.
Yes, yes, there are exceptions. You and I, for starters.
But the rest of them? Who amongst us — I mean ‘them’ — is not, even slightly, motivated by one or more of those things?
Wouldn’t you like just a little more money?
Wouldn’t it be nice to have a little more control over your life (and potentially the actions — and their consequences — of others)?
Wouldn’t you like to be thought of just a little more highly? Treated with just a little more respect?
I hope you can be honest enough with yourself to admit that it’s an influence on our thoughts and actions — even if a little bit.
“Ah, but I’m not as bad as those bankers!” you protest.
And I agree.
Whether through genetics, circumstance, experience or opportunity, most of us haven’t made the decisions made by some of our financial services CEOs.
We’d like to think, were we in their shoes, we might act differently.
But here’s the problem — the very system of finding and promoting executives tends to select for those traits. No, not specifically, but senior public company executives need to be unusually driven. They need to be unusually focussed. And they need to have been unusually successful and/or capable in their former roles.
That often comes — either via causation or correlation — in people who are also unusually attracted to status, money and power.
Worse, the machine not only selects for such traits, but actively rewards them. Just look at the incentives systems in place. What would you — or they — do for a seven-figure base salary? And what would you — or they — do for an even higher seven figure bonus?
There’s a business truism — ‘What gets measured gets done’. If you dangle a six-figure bonus in front of senior execs, and a seven-figure one in front of the CEO, how hard do you reckon they’re going to work to earn it?
And before we just blame the recipients of said bonuses, what do company boards expect when they put those incentive programs in place?
Here are conversations that play out daily across corporate Australia:
“Sorry Boss” the head of sales tells the CEO. “I didn’t push my team to make the sale, because they didn’t think the product was right for the customer”
“Sorry, Mr. Chairman” says the CEO, “I didn’t try to hit that profit target, because I was concerned about the negative consequences on customers or the community”
“Sorry, mate,” the Chair tells the head of a large institutional investor “Our share price is down because we actively put resources into finding and stopping activities that breached the law and put short term profits ahead of long term value”
Oh sure, maybe one or two of those chats happened in one or two companies.
But the rest?
Not a chance.
To be (somewhat) fair to those people, it’s not entirely their fault. They spend their careers in roles and working for companies in which such behaviour isn’t tolerated.
And, in a case of corporate Stockholm Syndrome, they’ve been doing it for so long, they’ve stopped seeing the problems the way an outsider would.
I’m not sure that’s worthy of sympathy, exactly, but it’s important to see how these things can come about, if we are to reasonably recognise it and if we are to take action accordingly.
The elephant in the room — the stonkingly outsized, grey, trumpeting creature that no-one seems to want to see — is, of course, incentives.
And before we start throwing stones, we all have a part to play.
How quickly an investor sells a stock or leaves a fund when short-term performance is less than perfect.
How quickly a fund manager pressures a company Chair to get out and ‘sell’ the results or ‘fix’ a problem.
How quickly a Chair tells his CEO that, if things don’t improve, it’s her job.
How quickly a CEO fires a Sales Director who isn’t hitting targets, no matter the competitive environment.
And so it goes.
Don’t get me wrong — I’m not even slightly anti-capitalist.
As I’ve said many times before, to steal and mangle a phrase from Churchill, “Democratic capitalism is the worst form of society, except for every other one that’s ever been tried!”.
It’s not perfect, but in the real world it beats the pants off every theoretical utopia we’ve known.
And that’s where we need better approaches. The imperfections happen because no system works flawlessly without intervention.
And, in the case of companies that end up suffering for lack of better decision-making, such intervention is sorely required.
From an equity-market perspective (as opposed to a social fairness one), I actually have no beef with CEO base pay. It might be socially unconscionable, but there’s no evidence it’s linked to poor investor outcomes.
Conditional incentives, however, are another thing entirely. And it affects everyone.
I’ve worked for businesses where silly prices were offered to entice customers to buy stupid amounts of stock — just so a sales rep, sales manager, sales director and CEO could all tick a box, delivering on one quarter’s sales target.
And then, the very next week (or two), the customers hardly place an order, as they work through a mountain of stock.
Yes, as you’d expect, that means the next quarter is already behind target… so the problem is exacerbated.
And that’s just a small, simple example of the sometime-helpful-but-often-
Or, as Charlie Munger — Warren Buffett’s right-hand man — said:
“I think I’ve been in the top 5% of my age cohort all my life in understanding the power of incentives, and all my life I’ve underestimated it. Never a year passes that I don’t get some surprise that pushes my limit a little farther.”
And the man is a supremely brilliant polymath.
Actually, while that quote is my favourite on incentives, because of Munger’s self-reference (and unquestioned brilliance, giving the observation even more weight), he more pithily summed up the situation:
“Show me the incentives and I will show you the outcome”
So what is an investor to do?
On a systemic level, we need to lend our weight to reforming the incentives of executives, CEOs and Directors. If nothing changes, nothing changes.
On an individual level, look for companies that have the right incentives and/or the right behaviours.
As I wrote last week, you can disagree with Gerry Harvey on a lot of things, but it’s very hard to argue his incentives aren’t almost-perfectly aligned with those of his shareholders, such is his ownership interest in Harvey Norman.
So, as investors, we need to be very careful about the incentives — and behaviours — relating to the companies we invest in.
If a CEO is rewarded on revenue attainment, is it any wonder he pulls out all the stops (and perhaps overly aggressively accounts for them) to achieve it?
If a CEO is expected to hit a certain profit target, should we be surprised if insufficient focus is paid to the risks and potentially unethical business practices, or if maintenance is foregone to save a little money — and which mightn’t actually end up being a problem until well after the current CEO is gone?
We’ll never avoid them all, of course. The need for ‘status, money and power’ is an innately human one, and systematically likely to be a greater need among those who strive for business success.
And it’s not always a bad thing — that drive is also behind innovation, (positive) disruption and a deep desire to find a better way.
Generally, an investor should prefer founder/CEOs with large stakes in the businesses they run (measured as a percentage of the CEO’s net worth, not percentage of the company owned).
Generally, an investor should prefer CEOs with long track records in the role (or, as a fallback, with the company in other roles).
Generally, an investor should prefer a company with a genuine (which can be hard to discern) passion for a higher purpose that is shared through the organisation.
Generally, an investor should prefer a simpler business over a more complex one: fewer ‘moving parts’ means less room for hidden surprises and underappreciated risks.
And generally, an investor should prefer an honest, candid CEO, over an overly promotional one, who spends too much time talking up the stock and not enough running the business.
(A bonus point, too, if the company’s press- and ASX releases refer to itself by the business’ name or acronym, rather than its stock code. And be careful of companies with numbers in their stock codes, too!)
Those ‘rules’ aren’t really ‘rules’ at all — there are examples of long term success stories where most or all are broken, and failures / underperformers who observe most or all of them.
But as a starting point, when building a portfolio, I dare say it’s a useful checklist to at least evaluate a current or potential investment, when it comes to reducing the risk of an investment — even if it doesn’t guarantee success.
If you’ve read this far, hopefully you’re better armed, as an investor. But it’s also only fair that I put my (partly metaphorical / partly very real) money where my mouth is.
So here are three companies that meet most/all of those criteria, and that make for a good starting point for further evaluation. As a bonus, they’re all currently Buy recommendations at Motley Fool Share Advisor:
Flight Centre (ASX: FLT) is run by long-term founder/CEO Graham ‘Skroo’ Turner, as if it was using his own money. Despite the waves of economic volatility and the decades-long expectations of disruption, Skroo has never wavered.
Kogan.com (ASX: KGN) might suffer every time founder, Ruslan Kogan, sells some shares, but the business is his baby, and he’s laser focussed on what he thinks will make it successful
Washington H. Soul Pattinson (ASX: SOL) is run, conservatively, by the fourth generation of the same family, which has the vast bulk of its wealth tied up in the company’s shares.
(For the record, I own shares in the latter two companies.)
I can’t — alone, anyway — fix the problems at Westpac.
Worse, there are absolutely — just based on the law of averages and the incentives at play — other companies with similar skeletons in their closets, that either they know about and are trying to hide, or haven’t yet put the work into finding.
And yes, there are likely ASX-listed companies being run as barely disguised fund-raising mechanisms for their untoward management and owners, and potentially an outright fraud or two.
The system is badly overdue for an overhaul. In the meantime, an investor’s own vigilance might be the best defence.
Invest optimistically — optimism wins in investing — but carefully, and do what you can to put the odds in your favour.