Monday, October 27, 2008

In case you were wondering which banks have asked for and received a share in the $700 billion pie, here is the list.....the word on the street is that at least some of these banks will use the money to make acquisitions.
If you click on the image, it should open larger on a new page.

Lessons from previous state-owned 'Private Enterprises'.

With large scale Governments investments into private entities on the rise, I think this would be a good time to look back at similar situations to see how such private entities fared post government intervention. The best case in point would be France. France has had an extended policy of nationalization under their late president Francois Mitterand.

One example is Credit Lyonnais, the French bank that was nationalized twice...once in 1945 after the world war and the other time when the bank's assets and liabilities were moved to a state owned corporation.Credit Lyonnais collapsed completely after it had squandered away vast resources while financing Giancarlo Parretti's takeover of MGM in 1990. In addition, the former president of the bank, Jean-Yves Haberer, was under investigation over allegations of inaccurate financial reporting and misuse of business assets. The case revealed the strong links that existed between the bank's state-appointed heads and the government during the administration of the late president Francois Mitterrand. Credit Lyonnais was ultimately fully privatized in 1999. It was acquired by another bank Credit Agricole and reorganized.

Recently, there was strong public reaction to Congressman Waxman's revelation that AIG spent $440,000 on entertainment at a resort in California. But the fact that those were never AIG employees but self employed agents (Agents being critical to an insurance company) was never much publicised. If a private company is run by politicians who don't have the requisite experience to run private organizations, shareholders would be better off with a newer management board than an inexperienced one from the government.

Companies that were nationalized but subsequently allowed to go private such as Renault are healthy (is that even possible in today's market?) and profitable, thus furthering the cause for privatization rather than nationalization.

Thursday, October 23, 2008

Revealing Testimony at the Hearing of Credit Rating Agencies.

Regular readers of this blog would remember my post back in July of this year about declining standards including computer programming errors at Credit Rating Agencies.(these would be moody’s, S&P, Fitch etc).
You can see that earlier post here

Yesterday, top executives from Fitch Ratings, Moody’s and S&P were grilled by the House Committee on Oversight and Government Reform. SEC findings from an examination of records at credit rating agencies, that was conducted earlier this year was brought to light once again.

A few highlights and memorable quotes:
1. An email written by an employee of one credit rating agency wrote that the ratings don’t capture half the risk of the deal and even the deal “was structured by cows, we would rate it.”

2. Another report indicated that executives were quoted as saying that “….hopefully we will be retired when this house of cards collapses.”

3. In a presentation made to the his board of directors a year ago, CEO Raymond McDaniel warned that his employees sometimes "drink the Kool Aid" and gave in to pressure for high ratings, even as the weaknesses of the mortgage-backed securities were becoming apparent.

4. One of the participants at the hearing also felt that issuers of investment instruments awarded credit rating contracts to agencies that were willing to give them favorable ratings.

In case you missed this very informative, revealing and not to mention entertaining (!) exchange see it here

BTW, in the testimony of Mr.Alan Greenspan (he is testifying before the same committee this morning) "....unrealistically positive designation (of financial products backed by sub prime mortgages) by credit rating agencies was the core" of the current international economic problem.

Wednesday, October 22, 2008

Leadership missing in Action at Financial Companies- Part II

Looking at Senior Management Turnover at companies can reveal a lot about that company’s health.

Beside the CEO, positions that are critical to a company’s core would include, in case of the financial industry, the Chief Risk Officer (CRO). Departure or a shuffle involving this executive should definitely put you on high alert. There could be several reasons behind the turnover of senior management.

1. Could it be that the CRO warned the management about high leverage risks or perhaps non compliance risks and management did not appreciate that?

2. Maybe the new CRO who is replacing the old one is a buddy of the CEO…this could lead to a conflict of interest…

Anyway, In September 2007, Lehman reshuffled its Risk Head Madelyn Antoncic out of her role into a relatively sedate role dealing with global public policy. The reason: She had warned senior management that it was taking on riskier bets than was good for its health.

At AIG, (specifically AIG Financial Products) the Vice President of Accounting Policies, Mr.Joseph St.Dennis resigned from his position after his warnings that the accounting behind the risky financial products that AIGFP was peddling would subject the company to extensive losses, went unheeded. Mr. St. Denis subsequently came forward and gave his evidence before the House Committee on Oversight and Government Reform. Mr. St.Denis resigned in October 2007. Soon after had discussions with AIG’s auditors. They in turn, declared that the company had material weaknesses in its Internal Control System for the financial year ended December 2007. Makes you wonder, what were they doing until then?

Subsequent to Mr.Dennis’s departure, AIG also had changes in its Board of Directors Audit Committee in 2007.

Citi has had a new CEO as well as a new Risk Officer, all in 2007. They also changed their Risk Officer once again in early 2008. The earlier Chief Risk Officer had apparently chosen to retire. (after being in office for less than 6 months!)

Goldman Sachs and Bank of America (BOA) have not had any significant or critical positions that were reshuffled or fired during the entire 2007. Ofcourse this does not take into account the shuffle at BOA post Merrill purchase, but that was in 2008.

What do all these executive changes mean in terms of the share value? Can these be indicators or rather foretellers of the future?

Maybe…way back in September 2007, if a Lehman investor would have considered the implications of a Chief Risk Officer being taken out of her position and shuffled somewhere else, it should have raised red flags or a ‘watch’ on that stock.

Anytime a crititcal position in a company is changed, due to reasons other than retirements, it’s time to step back and think behind the reasons. Most large institutional investors would use information like this to take the right investment decision. Even if you are not invested directly in stock market but in mutual funds or 401K’s or other investment vehicles, it is always appropriate to be aware of the companies that belong to the industry in which the mutual fund has invested your money.

Before I post'Missing Leadership.... Part II', I have to comment on the interesting response that I received (well, indirectly) about the earlier post. To summarize, this individual felt that governance is over rated and it is almost impossible to attribute economic failures to the quality of leadership at any given company.

It is interesting that you should say that, because here are some instances in the current economic scenario that reflect this very thing:
1. Lehman top boss Mr.Dick Fuld has been questioned on the 'misleading' information that he presented during analyst calls. Many regulators believe the picture that was painted of Lehman during this call was misrepresented. There are several instances of people holding on to their investments in Lehman purely based on Mr.Fuld’s confident outlook on that and other calls.

2. At the ongoing hearings of Wall Street honchos, Congressmen want to hear evidence of poor leadership on the Lehman Board. (Similar points that I brought to light on Bank of America but only worse). I have attached a part of the transcript of the statement that was made before the Congressional Committee by a respected finance professional about Board failures at Lehman.

"While some of the individual director backgrounds at Lehman reflect more experience in banking and financial services than some of the other recent failed firms, overall it did not have the depth of experience it needed. Notes Dennis K. Berman of the Wall Street Journal:
Nine of them are retired. Four of them are over 75 years old. One is a theater producer, another a former Navy admiral. Only two have direct experience in the financial-services industry…. Until the 2008 arrival of former US Bancorp chief Jerry Grundhofer, the group was lacking in current financial-knowledge firepower. A number of the members did have past financial-markets expertise, but most of their working lives were tied to a different era: The one before massive securitization, credit-default swaps, derivatives trading, and all the risks those products created.
Until recently, one director was actress Dina Merrill, daughter of E.F. Hutton. She retired in 2006 at age 83 after 18 years of service. At the time of her retirement Ms. Merrill was a member of Lehman’s Nominating & Corporate Governance and Compensation & Benefits Committees.
Currently serving on the board is Broadway producer Roger Berlind, 76, the longest tenured member of the Lehman board, his only public company directorship. While we do not recommend over-boarding, it is usually not a good idea to have people on boards who have no other board or sector experience. Mr. Berlind is a member of Lehman’s Audit and Finance & Risk Management Committees. Also on the board is Marsha Johnson Evans, 60, a former Rear Admiral with the US Navy and head of the American Red Cross and Girl Scouts of the USA. Ms. Evans is a member of Lehman’s Nominating and Corporate Governance, Compensation & Benefits, and Finance & Risk Management Committees. She is also an active director of three other large US corporations: Weight Watchers International, Office Depot, and Huntsman Corporation; she is a former director of AutoZone. Michael Ainslie, who has been on the board for 12 years, is the former Chief Executive Officer Sotheby's and former President and CEO of the National Trust for Historic Preservation......"

3. Yahoo’s decision by top ranking executives to spurn the Microsoft offer at 33$. Yahoo shares hover around $12 today. That is a 60% reduction in less than 6 months.

These are just a few instances of top leadership failures that contributed to drastically reducing shareholder value. Let’s not fool ourselves into thinking that an investment strategy devoid of non financial research is an optimum one.

I hope I have not misconstrued the comment that was made. My only intention is to raise awareness of the average investor on non financial issues before making an investment decision.

Write back with your thoughts on this. I will be back with Part II later today.

Monday, October 20, 2008

Leadership missing in Action at Financial Companies- Part I

Every public company has different Board committees to provide oversight and expertise over a critical area of business. Board Committees should ideally consist of members who are subject matter experts. Ideally, they should also be members from outside the company so that there is that element of independent advice.

In order to define their scope of work and responsibility, every committee should have a charter, which is like a mission statement of the committee- the ‘laundry list’ of things to do.

Look at the table (above) carefully. It depicts a few major financial institutions and the status of key non financial factors that could be considered critical to the long term success of the company.

In this part, I have taken the first factor and analyzed these companies for the presence of the Asset Quality Committee.

For a financial company, in the current scenario, Assets would include those assets backed by sub prime mortgages. This should give you an idea of the critical nature of this committee and we also know now, that oversight over such assets is a key factor to the on going viability of a financial company.

The thing that strikes me the most peculiar is that only 1 out these 5 companies even has an Asset Quality Committee.

As per Bank of America’s Asset Quality Committee charter, the purpose of such an Asset Quality Committee has been, among other duties, to provide oversight of credit risks to the Company’s assets and related earnings.

Even having such a committee is not enough…it needs to be ‘manned’ by members with relevant experience. Look at the details of the committee members at Bank of America:

There are 4 members of this committee. Out of these 4 members:

1. One is a Publisher and Chief Executive Officer, La Opinion, Los Angeles, California, the largest Spanish-language newspaper in the United States. From the bio of this member, she appears to have more media related experience.

2. The second member is a former chairman and CEO emeritus of Lowes (home improvement retailer.)

3. Third member is retired chairman/CEO Computer Generation Inc. This is the chairman of the committee. He gets $20,000 p.a. in addition to other Director remuneration for serving as the chairman of the Asset Quality committee.

The charter for the Asset Quality Committee needs members, among other things, to “approve credit risk policies and management disciplines as required by the Basel II accord”.

From the members listed above, how many of these members do you think would have any experience related to Basel II? Basel II is an extremely financial industry specific requirement for companies. 3 out of 4 members of this committee do not belong to a financial company or appear to have a financial background. .. Worth thinking over? You bet. Even when a company hires salaried employees, they would look for candidates with ‘relevant work experience’.

Here is the charter.


If you see the kind of oversight that it requires from its members, you will see a clear disparity in the requirements of this charter and the qualifications of the members on this committee. It kind of makes you wonder what was the Corporate Governance Board committee of Bank of America thinking when it nominated these members?

And don’t forget the other observation from this table….the Asset Quality Committee does not even exist for 4 out of these 5 companies.

Thursday, October 16, 2008

Paulson on Lehman, TARP : The CNBC Interview

For those that missed yesterday's CNBC interview with Treasury Secretary Mr.Paulson, here it is ....

During the CNBC Paulson interview, there were some very pointed and specific questions put to Mr Paulson. He was asked if in hindsight, leaving Lehman to fend for itself turned out to be a wrong decision given the strong negative market reaction thereafter. Mr. Paulson's answer was pretty long winded (you have to see the video to believe me ) but basically he did not agree with this. He was also very candid about his decision to inject Government capital directly into American banks which was a complete 'Volte Face' from his earlier stance when he had declared that injecting capital into banks would be considered a sign of failure.

British Prime Minister takes the lead on world credit crisis.

The unanimous verdict is that beleagured British Prime Minister Mr. Gordon Brown has taken the lead in solving the world credit crisis.

By deciding to be the first to directly inject capital into banks and provide unlimited guarantees to British Banks, he forced the hand of Mr. Paulson to do the same in the U.S. Not following in Mr. Gordon Brown's footsteps would surely have made American Banks uncompetitive on a global basis.

Wednesday, October 15, 2008

North Korean Mata Hari!

47 year old Ms Linda Kim of Los Angeles and Seoul is at the center of an investigation for her role four years ago in securing a multi-million dollar contract from the Korean defence ministry for a Texas-based company, E-Systems.

The scandal first surfaced when one South Korean newspaper - JoongAng Ilbo - published love letters that former defence minister, Lee Yang-Ho, had sent to her.

Monday, October 13, 2008

Financial Companies missing Board Level Asset Oversight?

So, more on the Congressional hearings of last week....especially Willumstad and company from AIG, Dick Fuld and company from Lehman.

A common thread that came out at each of these hearings was a lot of "I don't knows" and "I am not aware of that" and not to mention,"I don't remember that".

But each of the people interviewed were or used to be members of their company's Board of Directors and its committees. So how do these things work? Do directors get paid good money to conveniently 'forget' when asked for justifications of their decisions? As per consultancy Steven Hall & Partners,(as quoted on ) median total pay for independent directors at the 500 largest U.S. companies increased 14 percent compared with last year, rising from $162,363 to $185,000.How's that for inflation?

There are different committees of a Board of a publicly listed company that directors can serve on. There are generally 'required by law' committees like Audit Committees (we will discuss them in later posts) plus Compensation Committees, Nomination and Governance Committee and a few others. Sometimes, the type of industry also determines specific types of committee for high level oversight. One might naturally think, in the light of the current happenings ('Financial Tsunami' as Mr.Sullivan liked to keep referring to it during the hearing), in case of the financial industry this would include having an 'Asset Management' (read Asset = mortgage backed assets) or 'Asset Valuation' type committee. Envision a responsible, attentive, Board reviewing the financial arrangements that gave rise to those poisonous (and risky) mortgage based securities. And steadily warning senior company managment about the impending doom...

Now, lets review how many large companies from the financial industry have such 'Asset Management'or 'Asset Valuation' type committees:

1. Citi- None
2. Goldman- None
3. JPM- None
4. Bank of America- Yes. (Asset Quality Committee with 4 members.) More on the committee members for later...
5. AIG- Sort of (a Finance Committee which is supposed to review asset management policies and quarterly asset reports and nothing else.)

So, is it any surprise that most senior Board members either pleaded ignorance or lapses of memory when questioned? It appears that there was never any Board level oversight over Assets.

Keep checking back for more financial industry companies being added that are missing Board level 'Asset oversight'.

Friday, October 10, 2008

Mr.Willumstad and the Art of Ignorance.

Top AIG officials were questioned early this week by the House Oversight Committee members (read Congressional members) for their role in the financial crisis. What was striking in this hearing was the fact that Mr.Willumstad (ex chairman and ex CEO of AIG) must have answered 10% of all the questions posed to him on top of the fact that less than 10% of the questions were even addressed to him.
At the hearing he pleaded ignorance on most of the questions put to him. According to him, he was the CEO of the company for a brief period of 2 months or so and was therefore unable to anwser any questions accurately. How preposterous is that!! As per public reports filed by the company, he has been an 'ex-officio' member of ALL the board committees at AIG.(audit committee, finance committee, regulatory and legal compliance committee, public policy committee, nominating and governance, compensation committee etc.).On top of that he had been chairman of the AIG board since November 2006.
Oh and by the way, he made an extra $200,000 each year that he was the chairman of the Board of AIG. This is of course on top of the $75,000 per anum that he made just for being on the Board. His total compensation for 2007 was $434,443.For that amount, he should have at least made an effort to know what was going on at AIG. It was a little strange to see one Congresswoman praise Mr. Willumstad for giving up his severance package while completely ignoring all his prior years' earnings or the role that he might have or should have played in this financial crisis.

The severance package that he voluntarily decided to forego was valued at $22 million. What kind of compensation metrics do these public companies use to compensate somebody who has been a CEO for a couple of months and that too an ignorant one at that (by his own admission).
As chairman of the Board at AIG he had a fiduciary responsibility which it seems he completely managed to wash his hands off of. Will somebody let the general public know what is the official responsibility for members of the Board for public companies? Are they allowed to plead ignorance or does their membership to the Board mean something?

Here's a recorded video of the hearing...4 hours long if you have not seen it before.
AIG Congressional Hearings

More to follow....