Deadbeat CEOs plague companies
Huge sums lent to executives may never be paid back
By Joann S. Lublin and Jared Sandberg
THE WALL STREET JOURNAL
msnbc.com
Aug. 1 — Like many successful chief executives, Alexander E. Benton enjoyed the good life.
THERE WAS THE $4 MILLION estate on more than six acres near Santa Barbara, complete with Pacific views, pool, formal garden and a wine cellar. In Carmel, Calif., he and his wife had another home, valued at about $1.7 million. Then there was a house in Ventura, which sat on an 8,712 square-foot lot.
Mr. Benton, head of Benton Oil & Gas Co., had his pick of six cars, including a 1963 Jaguar and a 1964 Porsche, two other sports cars and a Land Rover. He owned 15 antique watches and fine art valued in the thousands of dollars.
Much of Mr. Benton’s luxury acquisition spree was funded with debt, and when it came to shopping for credit he found some pretty easygoing loan officers. They were Benton Oil’s directors, and over nearly five years, they extended him roughly $6.6 million in loans.
It turned out that Mr. Benton wasn’t a very good credit risk. The loans were secured by his company stock and options. When oil prices dropped in the late 1990s, so did Benton Oil’s share price. By the summer of 1999, the balance owed on the loans exceeded the collateral’s value. The directors demanded early repayment and ultimately ousted him.
Mr. Benton, 59 years old, now lives in a rented London flat and doesn’t own a single car. He has earned the dubious distinction of being the first head of a public company in recent memory to file for bankruptcy over his corporate IOUs. He officially emerged from bankruptcy after a court hearing in Santa Barbara Wednesday. That will enable directors to soon figure out how much of the company’s money they’ll recoup.
“It was a no-win game,” says now-retired director Bruce M. McIntyre, about the succession of loans he and fellow board members approved for Mr. Benton. “With 20-20 hindsight, we should not have done it.”
As the economy has faltered, directors of many companies have found themselves saddled with problem loans to CEOs that not too long ago seemed innocuous. A look inside the boardroom as these loans were greenlighted shows just how willing directors were to cede power to their CEOs while the good times rolled. Ignoring the possibility of an economic downturn, they rarely held their CEOs accountable for the loans, and kept handing out more easy money.
It was only after the market began its decline that directors realized they’d signed a devil’s pact. Demanding repayment, it turned out, could backfire on the company: Executives might be forced to dump their company shares in an already fragile market. Or they might face public financial ruin.
On top of generous salaries and bonuses, not to mention stock options and restricted shares, chief executives in recent years have received a stunning array of benefits. These often included free financial planning, home-security systems, generous life-insurance policies, lifetime pensions, chauffeur-driven cars and post-retirement use of company planes, cars, offices and secretaries.
But the hundreds of millions of dollars in loans outstanding to corporate chieftains rank among the most potentially problematic of those perks. They represent a massive outpouring of money from company coffers. Executive officers at 89 of 350 major U.S. public companies owed their employers almost $256 million last year, according to an analysis of a sample of proxy statements by Mercer Human Resource Consulting. And that doesn’t include the staggering $408 million that WorldCom Inc. lent to former chief Bernard J. Ebbers, who has become sort of a poster boy of unpaid CEO debt.
Companies earn interest on executive loans — but often not very much. Many offer advantageous interest rates. Mr. Ebbers, for example, was paying only 2.32% interest as of late April. President Bush received two low-interest loans from Harken Energy Corp. in 1986 and 1988, when he was a consultant to the company and a director. He signed corporate-oversight legislation Tuesday banning many executive loans.
Moreover, many loans aren’t being repaid. That’s a problem that won’t immediately be solved by the new law. And with the stock market bouncing wildly around, the problem could get even worse — and more unpredictable — because CEOs are facing margin calls and are financially pressed as portfolio values fluctuate. Meanwhile, corporate boards often simply forgive loans. At the 350 firms examined by Mercer, 10 companies forgave a total of $8,630,397 in loans during 2001.
The practice of lending executives money turned into “mutual blackmail,” according to Judith Fischer, managing director of Executive Compensation Advisory Services, a consulting firm in Alexandria, Va. Companies often expect a CEO to own lots of shares, she notes. In return, executives insist that “you have to give me the money to buy them,” despite their lofty compensation. When an executive later runs into trouble repaying those loans, directors worry about damaging the company’s reputation.
In recent times, some boards have had to step in with a second or third set of loans to bail out executives who hit the financial skids. Now-bankrupt Global Crossing Ltd., pummeled by the telecom industry’s collapse, created a loan-guarantee plan for top officers in the spring of 2001. The executives were facing what the fiber-optic company in an internal memo called “embarrassing and financially disadvantageous” stock sales as a result of margin calls when its stock price dropped. (In a margin call, a lender seeks additional cash or stock to back a personal loan secured by shares when the value of those shares falls.)
Safeguard Scientifics Inc., in Wayne, Pa., lent Warren V. “Pete” Musser, its founder and former CEO, $26.5 million in May 2001 to repay his margin loans at several brokerage firms, according to its latest proxy. He had received a previous loan and loan guarantee, and already had sold most of his company stock to pay off margin calls. Mr. Musser stepped down as CEO in April 2001, and still owed the Internet incubator $25 million as of the end of last year.
Advanced Lighting Technologies Inc., of Solon, Ohio, has lent money several times to CEO Wayne Hellman, and keeps postponing the biggest loan’s due date. He owed the lighting products maker $13 million as of June 30, 2001, according to the company’s latest proxy statement. Since then, however, the company has lent him another $1 million to reduce his existing margin loans. In January, the company extended his loan’s maturity until mid-2007.
How did directors turn their companies into cash machines for their senior officers? A look at margin-call bailouts for the heads of Benton Oil, Stamps.com Inc. and WorldCom, offers some clues:
BENTON OIL
Born in Russia and trained as a geophysicist in the U.S., Mr. Benton founded his Carpinteria, Calif., oil-and-gas exploration business in 1988. At first the company did well, developing the first Russian oil field funded with foreign investment.
So it was against an optimistic backdrop that Benton Oil directors, two of whom were old friends of Mr. Benton, agreed to assist him financially. When Mr. Benton wanted to buy a Santa Barbara house for $1.8 million in 1993, his $165,000 salary was too small to qualify him for a mortgage. “I asked the board, ‘Do you want me to sell shares or give me a loan?’ ” Mr. Benton recalls.
The directors’ answer was a $300,000 loan guarantee on Dec. 31, 1993, and a loan of $800,000 at the prime interest rate plus one percentage point in early 1994, proxy statements show. Less than two years later, Mr. Benton spent six months trying to sell his residence in a depressed real-estate market. Finally, the board proposed that the company buy the house, according to Mr. Benton. “I never would have thought of it in my wildest dreams,” he says. The company’s $1.73 million purchase let him finish repaying his loan and loan guarantee. Benton Oil sold the home at a $230,000 loss in 1996.
Dropping oil prices soon depressed Benton Oil’s stock price, prompting margin calls on a J.P. Morgan Securities account backed by Mr. Benton’s company shares. He gave directors a choice. He could cover his margin call by selling Benton Oil shares, or they could lend him more money. “Every time I would get a margin call, I would go to the board and they would approve a loan,” he says. The board lent him money 15 more times between January 1997 and October 1998, bankruptcy-court filings show.
Board members felt they had little choice. They worried that “it would be unsettling on the market” if Mr. Benton sold his 600,000-share stake, explains Mr. McIntyre, the former director and a retired oil-and-gas industry executive. “We didn’t want the company run by an entrepreneur who had no [financial] interest in what happens,” he says. Plus he feared that Mr. Benton might quit if he sold a lot of shares. By the summer of 1999, the protracted share slump prompted directors to insist that Mr. Benton immediately repay his $5.7 million debt, which had been due Nov. 30.
Garrett Garrettson, then a board member and a high-school pal of Mr. Benton’s, tried unsuccessfully to persuade his fellow directors to forgive the debt so that the CEO could avoid the humiliation of bankruptcy. “The board called the note because the largest investors would be very upset if we let the situation go on,” he says. Within weeks, the board fired Mr. Benton because of the company’s woes. At that point, the initially unsecured loans exceeded the value of the collateral — composed of his shares and 1.8 million then-worthless options.
“I had known Alex for a long time and I had to tell him that we were firing him,” Mr. Garrettson says. “It was very painful to watch.”
Mr. Benton’s emergence from bankruptcy also proved painful. Protracted wrangling went on between the company, Mr. Benton and his estranged third wife, Nikki, who didn’t learn about the debt until after their separation, according to a person familiar with the bankruptcy. Benton Oil finally agreed it wouldn’t seek proceeds from the couple’s sale of certain assets, such as the Carmel home and a 1997 Land Rover. But the compromise means stockholders probably will recover less than Mr. Benton’s outstanding $5.8 million debt.
Benton Oil’s new management in late May changed the company’s name to Harvest Natural Resources Inc. “We want to put the past behind us,” says Steven W. Tholen, chief financial officer.
STAMPS.COM
At one time, Stamps.com was a hot Internet start-up selling stamps online. John Payne had expanded the Santa Monica company into shipping services and was 16 months into his tenure as CEO when he bought 187,000 shares for about $6 million in February 2000. To make the purchase, Mr. Payne used a margin account backed by his 1.47 million Stamps.com shares, a stake of nearly 3%. At that point, he says, “a good part of my net worth was tied up in Stamps shares.”
By April 2000, the Stamps.com share price was sinking along with the Nasdaq Stock Market. As the Internet bubble was bursting, Mr. Payne’s Salomon Smith Barney broker issued a margin call. Mr. Payne thinks he could have met the call by selling 350,000 shares. In retrospect, he wishes he had.
After a board debate, directors concluded that “it was the best thing for shareholders if a big slug of shares didn’t come on the market,” recalls Mr. Payne, 46. Directors guaranteed his margin account with a credit line secured by his Stamps.com shares and other assets. “You don’t want to have your CEO not owning any stock in the company because he had to sell them to meet a margin call,” says G. Bradford Jones, a board member.
Once directors approved the Payne guarantee, “there wasn’t a lot of discussion of ‘what if’ ” because “everyone had a lot of faith in the future of the company,” says Mr. Jones, a partner at Los Angeles venture-capital firm Redpoint Ventures. “We may have made the wrong decision,” he continues. “In hindsight, it didn’t benefit the company.”
Mr. Payne, his finance chief and controller resigned six months later, in October. By then, Stamps.com shares had dropped to $2.72, down from $16 the previous April 28. Since then, the company has shrunk to 70 employees from 550.
As part of Mr. Payne’s exit package, Stamps.com paid the $6.5 million due on his margin account. He agreed to repay the company $6.6 million plus interest by June 30, 2001, but the share price remained depressed. Despite some payments, he missed the deadline and went into default. “I didn’t have the cash to pay it,” says Mr. Payne, who in 2001 joined Day Interactive Holding AG, a Swiss software company, as CEO. He left that post in April.
Stamps.com directors decided against forcing Mr. Payne into bankruptcy because then “we wouldn’t collect all the money,” Mr. Jones recalls. Kenneth McBride, the company’s current chief executive, adds that the company “waited because we were trying to resolve it with cash payments to handle the shortfall” on the value of the 1.1 million shares, owned by Mr. Payne, that the company held under lien.
Stamps.com divulged Mr. Payne’s default in a footnote to a financial statement in March 2002. It wasn’t mentioned in its proxy statement a month later. After inquiries from The Wall Street Journal, the company said it was an oversight and amended the proxy. This spring, Mr. Payne informed his former company that he held an additional almost-300,000 shares of Stamp.com stock. He turned his shares over to Stamps.com in mid-May. By then the company’s share price had rebounded to $4.87, and the value of the stock was enough to repay the roughly $7 million debt, according to Mr. McBride.
Mr. Payne attributes his belated disclosure of the lump of stock to “many other distractions on all fronts.”
Mr. McBride says he has learned a valuable lesson: “It doesn’t make sense for the company to get intertwined with an executive’s personal finances.”
WORLDCOM
Like the company Mr. Ebbers created and expanded into a global telecommunications empire, the debt that ultimately contributed to the 60-year-old executive’s downfall started small. He took out loans from Bank of America Corp., also a WorldCom lender, for his private investments during the late 1990s and used his company stock as collateral.
In late 2000, WorldCom’s stock price fell, and Mr. Ebbers had to come up with more collateral. He agreed to sell about three million WorldCom shares to cover a margin call. The stock then dropped 8%. WorldCom’s directors began to worry about what would happen if Mr. Ebbers kept selling stock. They discussed the possibility that the price of WorldCom stock would drop on news that Mr. Ebbers was dumping his shares, according to several board members. Directors also were concerned that if Mr. Ebbers continued to sell his shares it would wipe him out financially and leave him without a stake in the company he ran.
Directors Stiles A. Kellet Jr. and Max E. Bobbitt began negotiating with Mr. Ebbers. They struck an agreement for WorldCom to guarantee as much as $100 million of the Bank of America debt he used to fund his private investments, which included extensive timber and other operations. They also agreed to lend him up to another $100 million in late 2000 to help him cover a margin call. The guarantee and loan grew over time. Both directors declined to be interviewed.
The deal was approved by the board without much discussion, according to people familiar with the decision. For one thing, directors understood from documents produced by Mr. Ebbers that he had shares and assets valued at more than $500 million. But they also didn’t believe that the price of WorldCom stock would ever dive as devastatingly as it did from its peak of $64 a share. “That thought never entered our minds,” says one board member.
But the price did plunge below $10 a share, prompting WorldCom in February 2002 to pay Bank of America $198.7 million to cover loans it had guaranteed. Meanwhile investors grew angry that Mr. Ebbers’s personal pickle had become their problem.
The persistent slump in WorldCom’s share price made its loans to Mr. Ebbers riskier. Messrs. Kellett and Bobbitt started negotiating for additional collateral in late February. Their talks focused on Mr. Ebbers’s 500,000-acre ranch in British Columbia, a Florida yacht-building business and his timber holdings, which included 460,000 acres of land acquired for $400 million. That timber business ended up as part of the additional collateral for the loans, which were paid off by the company in February and had helped him buy the timberland in the first place.
The two directors “were increasingly embarrassed because they thought they would get blamed for the loan,” says a person familiar with the matter. They also were frustrated because talks were dragging on longer than expected. Most of his properties already had liens on them by other lenders who had helped fund his various businesses, and those mortgage holders needed to approve second mortgages.
By the spring, Mr. Ebbers was increasingly distracted by the need to cope with his massive debt, which by then had become part of a broader Securities and Exchange Commission investigation. “He was possibly going to lose everything he had worked for,” a WorldCom board member says. “That fear had to be weighing heavily on him.”
On April 26, Messrs. Kellett and Bobbitt met with five fellow outside directors. Most were unhappy that Mr. Ebbers had lost credibility with Wall Street, but they also felt that the controversy over the massive loans was spinning out of control.
That evening, Mr. Bobbitt and Mr. Kellett called Mr. Ebbers on his cordless phone as he sat on the front porch of Oak Hill Farm, his mansion in Brookhaven, Miss. They asked him to resign.
Afterward, the directors consolidated Mr. Ebbers’s loans into a single, five-year loan, postponing his first $25 million payment until next year. Mr. Ebbers declines to discuss his situation.
WorldCom filed for bankruptcy protection last month. That means that Mr. Ebbers may face creditors less friendly than his former board. WorldCom’s creditors or the bankruptcy court could demand accelerated repayment of Mr. Ebbers’s $408 million debt, and the proceedings are sure to keep his borrowing in the spotlight.
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