Ban Incentive Compensation Now!

Starting in 2001, fraud has been a watch word on Wall Street, although more recently ignored until the current financial crisis. Descending from the heavens as shocking financial revelations, the multibillion dollar scandals at Enron, WorldCom, Adelphia, Tyco, Nortel, HealthSouth, and Waste Management all have served as a reminder that corporate greed drives corporate profits and it ought to be stopped.

Almost every public company in America has executive compensation tied to earnings performance. On the surface, encouraging executives and employees to meet certain profit targets appears reasonable. The argument goes: if earnings are up, the stock goes up, and so should compensation.

As an accounting and fraud prevention professional, I worry about the unbridled misbehavior of some executives who do not make good long-term strategic decisions based on the best interest of companies and employees. Our American society and money-dominated culture views events in 10-second sound bites, memorable catch phrases, and biased, combative news reporting in a 24-hour news cycle. America’s ADHD attention span is short and certainly short-sighted.

Corporate America is run the same way. Boards and executives want to quickly develop easy compensation they can lavishly spend now and leave questions regarding viability and fraud to the next guy. By ignoring the inevitable and surmounting problem of using an unethical incentive-based compensation system, they foolishly have convinced themselves there is no problem, while concurrently stealing money from corporate coffers and deceiving Wall Street.

Wall Street encourages such behavior, though. Greed is rampant on Wall Street—they’re out to make a quick buck just like corporate executives. A number of Americans are just as caught up in this “get rich quick” scheme. Wall Street turns a blind eye on borderline criminal behavior—nay, the Street encourages the behavior, so long as cash continues to gush from Old Faithful greed! (But don’t get caught, right Martha?)

The obvious fact is this: the current form of corporate incentive compensation has been and will continue to be manipulative and deceptive. Greed is an expense, not an asset.

Since many presidential candidates tout the reformist image by incessantly chanting “change” without truly comprehending the word’s origins, meanings and ramifications, I propose a fundamental change to the current corporate compensation structure. However, this kind of change really is necessary, not a pithy campaign slogan.

Congress needs to make illegal the granting of (1) stock options, (2) stock appreciation rights, and (3) other forms of compensation directly tied to meeting profit targets, analyst expectations or projections, or certain stock market performance measurements. All forms of compensation should be transparent and blatantly reflected in a company’s income statement, not cleverly buried elsewhere in the ofttimes unreadable financial statements. (Under the current accounting rules, stock options appear under equity and not as a liability or an expense.) Compensation ought to be fair and reasonable, without the threat of fraud or other illegal and unethical influences in making corporate insiders and executives ridiculously rich.

Congress already has the authority to make such a bold move. Constitutionally, this radical new law can be justified through the commerce clause, which reads, “[t]he Congress shall have power . . . [t]o regulate commerce with foreign nations, and among the several states, and with the Indian tribes” (U.S. Constitution, Art. 1, Sec. 8, clause 1, 3).

Left unchecked and unchanged, the current corporate compensation structure will continue to foster fraud and manipulate market mayhem. Accounting frauds happen with much greater frequency because of enticing incentives to make profits look impressive and artificially drive up stock prices.

In times of recession or downturns, when markets and companies suffer, some greedy corporate executives will undoubtedly go to great lengths to ensure economic prosperity for themselves by fudging a few numbers here and there, or forgetting to book expenses in the appropriate period, or just flat out booking entries to the corporate ledger without competent, trustworthy supporting documentation. Whatever the means of deception and fraud, the temptation is enormous when times are good and bad to steal and devise a strategy for unfair compensation.

Pardon me for sounding socialist in this novel approach. I am not communist, nor Marxist, nor even left-leaning in most of my views. I am strongly in favor of allowing free markets to function freely but without manipulation and deception—free markets not fleece markets. From my point of view, I perceive potential or undiscovered accounting frauds and some of which is directly linked to an improper incentive structure. The best way to advert and prevent disasters is to deal with the issues straight-on, directly, and without deviation or attention to other external influences.

Compensation needs to be determined on individual effort and not stock market effects. Money in corporate America is corruptive and tying executive compensation to earnings is a financial formula for fraud and fundamentally un-American. Americans deserve real reform and banning incentive compensation now will begin the dawn of an improved free market system.

As always, comments are welcome.