Mortgage Crisis Fallout Continues: Bankers’ Executive Pay and Insider Stock Sales under Congressional Microsope
March 2008 (No. 4)
For the Defense
As the U.S. mortgage crisis continues with record rates of home loans entering the foreclosure process—the Mortgage Bankers Association reported a new high of 0.83 percent on March 6—executive pay at several of the top Wall Street firms is being closely examined on Capitol Hill. A recently issued congressional report revealed that several senior banking and lending industry executives earned hundreds of millions of dollars in compensation last year despite their companies collectively having suffered losses in the tens of billions due to the ongoing mortgage crisis. Consequently, calls for accountability have grown louder on Capitol Hill as the housing market and broader economic climate continue to decline.
The House Committee on Oversight and Government Reform announced that it is examining the “level of compensation” allotted to top banking executives with ties to the mortgage meltdown and to determine whether, in light of the circumstances, such compensation was excessive. In connection with this inquiry, the Committee already has obtained from several prominent banks and lending firms internal documents relating to executive pay. Committee staffers subsequently have begun reviewing such materials, including company e-mails, board minutes, and federal regulatory filings in preparation for congressional hearings on the matter.
The hearings purportedly are aimed at shedding light on whether the executive compensation and severance arrangements for the top executives at these companies provided appropriate incentives to protect shareholders from the substantial losses suffered as a result of the ongoing mortgage crisis. The Committee also is expected to look into how the compensation and severance packages were determined and approved by their respective boards. Concern has arisen that, in some cases, consultants were hired to advise firms on executive pay while at the same time accepting millions of dollars in compensation from the same corporate executives whose compensation the consultants were asked to assess.
How these hearings on Capitol Hill ultimately play out probably will have a substantial impact on, among other things, the number of shareholder class action lawsuits, as well as the amount of exposure, that companies may face who are accused of actively being involved with these troubles.
In a sign that governmental probes in this area are likely to expand and become more intense, the Securities and Exchange Commission recently has begun examining the propriety of sales of company stock by some top Wall Street executives during the period in which the mortgage crisis was beginning to take its toll on their companies’ bottom lines. This heightened level of governmental scrutiny concerning executive pay has caused many top Wall Street firms, as well as other companies, to begin reviewing their internal policies and practices with respect to determinations of executive compensation. The dilemma over hefty executive pay trends, however, is not new, and presents a complicated picture, attracting a diverse array of advocates on both sides of the issue.
Although some have cited a striking discrepancy between the performance of companies most strongly affected by the mortgage crisis and the compensation provided to their senior management, many crucial factors nevertheless figure into determinations of executive pay that ultimately make inquiries into this area difficult. A range of variables can influence compensation at both the executive and nonexecutive level, and many of these variables are external to individual firms. Macroeconomic conditions, the sociopolitical climate, and competition for recruitment of talented personnel are all key external factors that potentially influence trends in pay practice, especially at the senior-executive end.
Moreover, now that critical financial information such as company share prices and performance records can be aggregated, analyzed, and distributed in “real time” to a wide audience, shareholders—and the public generally—are able to take a more active role in pressuring boards over matters such as executive compensation. When share prices fall and shareholders contemporaneously learn of generous compensation packages provided to top-level executives, concerns and tensions in this area naturally arise. It is thus crucial for large, publicly traded firms to be prepared to respond to these concerns efficiently and openly when difficult economic times make such inquiries most likely to surface and be vigorously pursued.
Joseph G. Poluka
Lewis W. Schlossberg
Notice: The purpose of this newsletter is to review the latest developments which are of interest to clients of Blank Rome LLP. The information contained herein is abridged from legislation, court decisions, and administrative rulings and should not be construed as legal advice or opinion, and is not a substitute for the advice of counsel.