Huge payout to ex-Fannie Mae CEO could spark investor lawsuits

Disney trial points to heightened concern

December 29, 2004|By Ameet Sachdev | Ameet Sachdev,CHICAGO TRIBUNE

A day after Fannie Mae reported the lucrative pay and benefits it plans to bestow on its departing senior executives, critics assailed the company for providing such a soft landing to officials accused of profiting from flawed accounting.

Franklin D. Raines, forced out last week as Fannie Mae's chairman and chief executive after five years, is to receive more than $19 million in cash and stock plus a lifetime monthly pension of about $114,000, according to an agreement with the mortgage lending giant.

That payout provides fresh ammunition to investors and corporate governance experts who deride some of the severance deals as pay-for-failure packages. They argue that corporate executives don't deserve extra inducements for resigning under pressure or leaving.

Yet recent headlines from such well-known companies as Walt Disney Co. and General Electric Co. show that boards of directors continue to support lavish farewells for the senior managers they oversee.

"The severance payments are just outrageous," said Elliot Schwartz, director of research at the Council of Institutional Investors, a corporate governance group made up of pension funds. "Once the guy is leaving, you don't need to give them incentives any more."

Despite growing criticism, companies continue to dole out large exit packages because they are essential for recruiting top executive talent, compensation experts say.

Market forces

"There has to be a fairly generous severance package, because that's just what the market is today," said Mark Weisberg, a Chicago attorney who specializes in executive compensation.

Shareholders are fighting back. A courtroom battle in Wilmington, Del., involving Disney is being held up as a cautionary tale for directors and executives.

Shareholders are challenging Disney's former compensation policies, which resulted in a severance package for its former president, Michael S. Ovitz, consisting of cash and stock options valued at $140 million in 1995 after 14 months of employment.

Investors have argued in the Delaware Chancery Court that Ovitz should not have been entitled to the payout because of his poor performance and ethical lapses.

They say Michael D. Eisner, Disney's chief executive, Ovitz, and current and former directors should return the $140 million to the company.

Directors have testified that it was in the best interests of the company to pay out the contract. The trial is scheduled to resume next month.

Disney example

If Disney shareholders prevail, other investors might be emboldened to rein in executive compensation. In the meantime, regulators are trying to make sure investors know how public companies compensate their executives.

In September, GE reached a settlement with the Securities and Exchange Commission over its inquiry of retirement perks provided to Jack Welch, its former chairman and CEO.

The SEC had accused the company of failing to fully disclose benefits, such as a New York apartment, free use of company aircraft and sports tickets. The company did not admit or deny the accusations.

Directors are paying close attention to the cases at Disney and GE. But boards have shown few signs of pushing back against the demands of incoming CEOs for lavish severance packages.

"It's not like we've seen a rash of companies running out to cancel these arrangements," said Patrick McGurn, a corporate governance expert at the Institutional Shareholder Services proxy voting advisory firm. "It's going to take time."

Still, directors realize that they can no longer afford to be ignorant of how much companies owe outgoing executives, said Weisberg, a partner at Winston & Strawn.

"Directors are going to have a hard time showing they discharged their duty properly if they didn't know what the obligations were," he said.

`Clawback' law

Some boards have gone a step further by inserting new provisions in executives' contracts to force them to return any pay based on artificially inflated results. The clause mimics the "clawback" law, part of the 2002 Sarbanes-Oxley corporate governance statute, to recoup executive stock and bonus gains.

The "clawback" law might come into play in Raines' case at Fannie Mae. He and Chief Financial Officer J. Timothy Howard resigned after the SEC said the company had violated accounting rules on its treatment of derivatives and loans.

As a result, Fannie Mae must restate its earnings from 2001 through this year, which is expected to subtract $9 billion from profits.

Fannie Mae's regulator is reviewing the exit packages for Raines and Howard, and could seek to block payment. Moreover, the SEC and investors could sue Raines and Howard for engaging in financial reporting fraud.

"This will be a pretty good test of the reforms put in place a few years ago," McGurn said.

The Chicago Tribune is a Tribune Publishing newspaper.

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