By Steven Pearlstein
Wednesday, August 5, 2009
In its settlement this week with Bank of America, the Securities and Exchange Commission offered a peek into the cute tricks public companies use to withhold vital information from their owners.
Last November, Bank of America asked its shareholders to spend $50 billion to purchase the struggling investment house Merrill Lynch. The proxy seeking their approval stated that Merrill had agreed not to award discretionary compensation -- bonuses -- to its employees for 2008 without first getting written approval from Bank of America. What it failed to mention was that weeks before, Bank of America officials had already granted that permission, capping bonus payments at $5.8 billion.
This is pretty much standard operating procedure in corporate America -- Bank of America was just unlucky enough to have gotten caught. To boost stock prices and reputations, corporate executives go to great lengths to snooker their shareholders and put the best light on what they are doing. They hire fancy Wall Street lawyers, as Bank of America did with Wachtell Lipton, to find clever ways to accentuate the positive while hiding in footnotes any information that might stir controversy or put things in a bad light. In their version of corporate reality, lawsuits are always without merit, executives leave only for "personal reasons" and regulatory actions are settled not because anyone did anything wrong but simply to avoid the cost of litigation.
Over time, this cynical game has become so ingrained that investors, analysts and business reporters now simply take it for granted that they are being spun or misled. Whenever bad news comes out, investors assume they are being told only half the story and overreact, leading companies to be even less candid next time. The result is a vicious cycle of deceit and distrust.
Remember that Citigroup investors didn't have a clue about the billions of dollars they had at risk with off-book investment vehicles until those investments brought the bank to the verge of collapse.
It was only months after American International Group had been rescued by the government that Goldman Sachs acknowledged that it had billions of dollars of credit-default swaps with the insurer.
And it was only after Fannie Mae and Freddie Mac were taken over by the government that anyone learned how much exposure to subprime loans they actually had on their balance sheets.
Or take the example of General Growth Properties, the giant real estate investment trust that filed for bankruptcy protection this spring after failing to refinance billions of dollars in debt. The company's first signal to shareholders that anything was wrong came on Sept. 22, 2008, long after its stock had begun a steep decline. On that day, General Growth issued a press release announcing that its directors and executives were "pursuing a comprehensive evaluation of its alternatives, both financial and strategic, in an effort to align the market value of the Company's common stock more closely with the intrinsic value of the Company's stable, high quality portfolio of real estate assets in good locations with significant barriers to entry."
Only after citing the company's record-low vacancy rates and rising operating income did the company get around to the punch line: a plan "to generate capital from a variety of potential sources, including but not limited to, both core and non-core asset sales, the sale of joint ventures or preferred equity in selected pools of its assets, a corporate level capital infusion and/or strategic business combinations."
Translation: Commercial real estate values are plunging, financing is drying up, our stock price is in a free fall and, because of unwise acquisitions, we have way too much debt. The only way to get out of this fix is sell some of our best properties, merge with a stronger competitor or find a big new investor.
That rhetorical tour de force was followed a month later when General Growth issued another press release, this one announcing that two members of its board of directors, Adam Metz and Thomas Nolan Jr., had assumed the roles of chief executive and president on an interim basis. Investors got no explanation for the shuffle, but they did get reassurances from the ousted chief executive, John Bucksbaum, that "Adam and Tom bring a wealth of real estate and finance experience to our company."
It was only by reading the next day's newspaper that an investor would have learned the real story: that Adam, Tom and the rest of the directors had fired Bucksbaum after discovering that he and his family had violated company policy by providing undisclosed loans to a number of senior executives -- including the recently ousted chief financial officer -- so they could meet margin calls on their General Growth stock.
It's a good sign that the new team at the SEC decided to come down hard on Bank of America, but it will take more -- much more -- to transform a corporate culture now hard-wired for obfuscation. It's not just that investors deserve better information about the companies they own.
It's also that executives will be less likely to make boneheaded mistakes if they know they can't sweep them under the rug.
Steven Pearlstein will host a Web discussion today at 11 a.m. at washingtonpost.com. He can be reached at email@example.com.