Perhaps it is little surprise that Kenneth Feinberg makes his current job as Obama's pay czar sound simple. Compared to some of his previous assignments -- distributing nearly $7 billion in federal funds to families of 9/11 victims or administering the memorial fund for those killed in the 2007 shooting at Virginia Tech -- determining the pay of executives at companies that took federal bailout money appears relatively cut and dry.
Based on the authority of a congressional statute passed in 2009, the pay czar oversees companies that received exceptional financial assistance from TARP, the Troubled Asset Relief Program. Last year, the statute covered Bank of America, Citigroup, General Motors and GMAC, Chrysler and Chrysler Financial, and American International Group (AIG).
His job, Feinberg said during a recent talk at Wharton, was to set pay for the top 25 executives in those companies and determine the pay structure for employees ranked 26 to 100. He also has advisory authority to claw back compensation paid to TARP recipients before he was appointed last year. He makes pay determinations based not on caps, but on models and formulas. The methodology is pretty clear: Take the statute, add the data, secure independent consultants.... That's how we did it.
Law and Order
Feinberg, whose official title is special master for TARP executive compensation, described his job with the legal precision of the high-powered Washington lawyer that he is. While the process, he said, is divided into principles spelled out by statute, he acknowledged that behind clear-cut compensation figures lie human beings and human values, which are not always as easy to meld into a methodology.
As the pay czar, I have learned something very interesting about compensation, Feinberg stated. Many people look at it as a populist issue -- that these officials in these companies are getting too much money, and as a material matter, they don't need it. How many cars do you want to own? How many houses do you want to build? How many vacations do you want to take? But it's not that simple. In our society, I've found that compensation is a surrogate for worth. Indeed, over the course of his recent work, he has found that pay is a barometer not just [of] how many cars you own, but [of] your sense of self.... It's a fascinating attempt I'm engaged in, trying to set compensation when you know that what you're doing is going to have an impact on an individual's sense of his place in the community.
Appointed in June 2009, Feinberg made his first pay determinations for the top 25 executives in October and announced prescriptions for the second tier of executives (26 through 100) in December. After these decisions, Bank of America and Citigroup repaid the exceptional assistance TARP money in full and are no longer under his jurisdiction, although Citigroup still has other TARP obligations outstanding. My number-one priority: Repay the taxpayer, Feinberg said. Bank of America and Citigroup together paid back every dime they owed, with interest -- $85 billion.... The other companies are still in. They are still subject to my 2010 pay determination. And those companies will remain there until and unless they repay the taxpayer. He is expected to release the 2010 pay recommendations in the next few weeks.
His pay determinations, Feinberg noted at one point, sometimes get more attention than they deserve. My role in this debate over executive pay is very, very restrictive. I have no mandatory jurisdiction over Goldman Sachs or JPMorgan or Morgan Stanley or Wells Fargo or Wachovia or any of the other companies that received TARP. Understand the restrictions on my authority. I'm only involved in calculating awards. I'm not involved in the other issues involving pay [such as] corporate governance reform, regulatory reform.... There's a whole menu out there designed to rein in pay that has nothing to do with me.
'Simplicity Is a Virtue'
When determining pay, Feinberg said he must follow principles spelled out in the congressional statute. For example, compensation must promote competitiveness, avoid excessive risk-taking, and facilitate long-term performance and company loyalty. I can't be vindictive, I can't be vengeful, I can't punish. I have to make sure that the companies have the individuals necessary so that [they] will thrive and repay the taxpayer. Congress laid out certain principles that should guide us in our work.
Feinberg further analyzed the parameters guided by those principles. Compensation should not be guaranteed. Cash-based salaries should not exceed $500,000 a year. Any remaining salary and bonuses must be paid in company stock, and the stock cannot be immediately redeemable. For 2009, one-third of stock payouts are redeemable after two years, another third redeemable after three, and the rest after four. This isn't rocket science. It's rather simple, Feinberg said. Simplicity is a virtue. We don't want you to get all your money upfront, we don't want it to be guaranteed, and we want your individual compensation to be tied to the success of the company. That's the way the system should work.
Feinberg had expected more public opposition to his job but suggested that the narrow scope of his duties has prevented a large outcry. When it comes to monitoring pay, I have a very narrow jurisdiction, and it's based on the fact that the American taxpayer owns these companies. It's perfectly appropriate for the taxpayer, acting through a surrogate, to regulate pay as a creditor of these companies. That's why I think what I'm doing has resulted in very little public criticism from a philosophical point of view. It's not that the government is doing this. It's the creditor, which happens to be the government, that's doing this. That makes a big difference to people.
Yet Feinberg's tenure has generated more than a little buzz. Last fall, some Citigroup investors balked when the banking conglomerate spun off a lucrative energy trading business, Phibro LLC, reportedly because hefty bonuses and pay contracts for the unit's star trader, Andrew Hall, garnered Feinberg's scrutiny. A few months later, Feinberg found himself playing defense after AIG doled out $165 million in bonuses despite having taken a $182.3 billion government bailout, according to a Bloomberg report.
Regarding Phibro, Feinberg insisted that Citigroup made its own decision. I told Citigroup that that individual and that unit posed excessive risk. But if they wanted to, they could submit the names of the top 25, and I would rule. They sold the unit.... If Citigroup wants to sell Phibro to Occidental Petroleum, that's their business. Citigroup didn't have to. Citigroup could have said, 'Mr. Feinberg, set the pay.'
Now, the Tough Problem
The AIG contracts, on the other hand, have been one of his toughest problems, Feinberg said, because [some of] the American people say, 'Don't honor that contract.' [But] that is something I really cannot do. I shouldn't be invalidating contracts that are protected under the Constitution of the United States. While he found the contracts offensive and an outrage, terminating them and declaring them invalid was not an option, Feinberg said. Be very careful if government -- especially the Treasury department -- starts questioning and invalidating what everybody says are binding, old agreements. You can't do that. That would be very bad public policy.
So what do I do? Feinberg asked. I look to the law.... The law gives me three options. The first was to invalidate the contract. I'm not going to do that. People said, 'That's socialism, that's arbitrary, that's capricious, that's wrong. [Under] the rule of law, those contracts are sacrosanct.' Another option was to renegotiate the contracts. I tried. 'AIG, why don't you take those contracts and roll them over into stock? Long term, they may become even more valuable.' [AIG replied,] 'No, we want our money.' Okay, if you want your money, so be it.
That left the third option. Under the law, he said, if the special master honors a retention contract, he may take that contractual amount into consideration in calculating prospective compensation. Raising his eyebrows while summarizing his subsequent conversation with AIG, Feinberg recalled AIG saying, 'I want that $500,000 contract.' Okay, you're entitled to it. Now let's set your 2010 compensation minus $500,000.You see, that's the leverage I've got.
In recent weeks, AIG has made moves toward repaying its outstanding debts. On March 1, the company announced plans to sell its Asian life insurance unit, American International Assurance, to Prudential in the U.K. for about $35.5 billion. A week later, AIG said its American Life Insurance Company was being sold to MetLife for $15.5 billion. This sale is an important step toward repaying the government, Harvey Golub, chairman of AIG, said in a statement after the second sale was unveiled.
Then on March 15,AIG cut retention payments by about $21 million, Bloomberg reported. AIG employees pledged to repay $45 million of the controversial retention contracts last year, but until recently AIG had collected little of the money. Feinberg has pledged to whittle down 2010 compensation if AIG doesn't give back the promised amount.
Feinberg still has plenty of work to do. Aside from setting pay determinations for 2010, he has to dig into the statute's claw-back provisions, which could force companies to return previously paid compensation. Repaying your top obligation does not immunize you as a company from the subjective discretion I have to seek to claw back compensation previously rendered, Feinberg said. I haven't done it yet. Whether I will do it and to what extent I will do it remain to be seen. The law requires me to get the data from every TARP recipient, which he is in the process of doing. Will he negotiate or get back money already paid in an egregious case? Perhaps. We shall see over the next [several] weeks how I exercise my discretion.