Post by Zoinkers on Oct 17, 2006 0:23:40 GMT -5
Morningstar.com
Golden Parachutes for Fund Directors
Thursday October 5, 7:00 am ET
By Kerry O'Boyle
Overpriced CEOs aren't the only ones collecting fat paychecks on their way out the door these days. Fund directors at Legg Mason Partners funds are poised to get a big payoff of their own. Thanks to an overhaul in the board structure of these funds, directors will be pocketing lucrative retirement benefits at shareholders' expense for doing nothing more than stepping aside or becoming part of a brand new board. Background
How did this situation came to pass? In December 2005, Legg Mason (NYSE:LM - News) acquired the asset management arm of Citigroup (NYSE:C - News), known for its Smith Barney and Salomon Brothers lineup of mutual funds. Re-dubbed ClearBridge Advisors, with the funds being sold under the Legg Mason Partners brand, this fund shop now operates as an autonomous unit under Legg. Not surprisingly, the new firm started cleaning house in August 2006 by announcing a slew of fund mergers and a consolidation of the funds' 10 (yes, 10!) boards of directors, thereby cutting the number of directors in half, from 60 to 30. (The various boards have agreed on the changes, but shareholders still need to sign off on them.)
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The sprawling number of boards under the Legg Mason Partners umbrella is a legacy of Citigroup's growth-through-acquisition strategy in the 1990s, which involved swallowing up a number of bank- and insurance-run fund groups. Legg Mason Partners has proposed reducing the number of boards to two--one for equity and one for fixed-income funds (a third, smaller board, will handle money-market and other cashlike offerings). Although each of the two boards will retain a high number (12) of independent directors, the funds would be kicking roughly half of the independent directors to the curb. In addition, Legg wishes to eliminate the various pension plans available to directors going forward.
The consolidation makes sense in many respects. The current structure is illogical and cumbersome in that both equity and fixed-income funds are all spread awkwardly across the many boards. Under the new setup, board members will be asked to oversee more funds (though not an excessive number), but the issues for those funds will be similar and allow the new boards to specialize. Plus, by downsizing the number of boards and directors and eliminating the costs associated with the unnecessary retirement plans, the overhaul will likely lower costs to fund shareholders going forward. Finally, Legg Mason has said that it will pick up two thirds of the proxy costs needed for shareholder approval of the mergers and board consolidation and one half of the costs of the board buyouts.Nice Work If You Can Get It
However, the consolidation isn't entirely a positive for fund shareholders--not by a long shot. That's because the board reorganization entails massive lump-sum payments to the funds' current directors as compensation for the various retirement and emeritus plans to which most of them are entitled. Although a dying practice, retirement plans for mutual fund board directors used to be fairly common. Vanguard's board only stopped providing a retirement package to new directors in January 2001; those who began service prior to that still were entitled to a stake in the former plan. Boards at AIM and Oppenheimer Funds still have retirement plans that can provide directors as much as 80% of the annual compensation they earned while serving on the board, every year for as long as 10 years.
Of course, the idea of directors, many of whom are already retired, receiving a pension for what can easily be described as a part-time job strikes us as absurd. Many directors, especially those overseeing large numbers of funds at big fund shops, are already handsomely paid for the few days they devote a quarter to overseeing their charges. Plus, it's hard to fathom how a director who may have spent as few as five years on a board and who is no longer serving the interests of current fund shareholders deserves further compensation. That's likely why this practice has been going away quietly.
Hands Tied?
But the one-time buyout by the Legg Mason Partners funds shows how tricky it can be to dismiss directors--as well as the perks they have granted themselves. That's because Legg Mason is, in essence, asking 30 directors to fire themselves. The firm can recommend such changes, but it's up to the boards themselves, and shareholders, to approve these moves. And so it is with the various existing pension packages to which current directors are entitled.
Remember, boards of directors are paid from assets from the funds they oversee, and determining board compensation is in the hands of the board itself, not the fund company. Thus, the firm faces the dilemma of how to get a number of directors to give up their cushy jobs and also the promise of additional money after their service is done.Board #8 and the Ugly Details
Needless to say, Legg had little choice but to offer a carrot to existing directors--a generous buyout of the various pension plans--to get them to go along. Not all of the blanks have been filled in as yet, but the figures that are available are not pretty. Nine of the 10 boards had emeritus plans that entitled directors to 50% of their annual retainer and meeting fees for a maximum of 10 years, plus expenses for travel costs to attend board meetings as nonvoting members. According to filings, for members of Board #3--who oversee a smattering of municipal bond, equity-income, and other funds--the proposed payout averages out to $272,560 for each of the six directors being asked to leave. That's more than $1.5 million for just one of the nine boards.
But it gets worse. Board #8, which happens to be the largest board with nine independent directors, has not one, but two, full-blown retirement plans. Directors that had served prior to 2000 are covered by the first. The second covers all directors and entitles them to as much as 5 times the amount of their annual compensation as directors. By our count, with four of the nine directors double-dipping into both plans, the total buyout of this board alone will cost shareholders nearly $5.5 million. Adding insult to injury, eight of the nine directors from Board #8 will be staying on as directors on the fixed-income board, where their annual compensation will likely double given that they will now oversee roughly twice as many funds as before.
The situation with Board #8 can only be described as a travesty, with some directors taking home roughly $1 million dollars for doing little more than switching seats. It's unconscionable that eight of these directors are being retained, with a raise no less, to serve on one of the newly formed boards. What are the odds of these directors doing a standup job of protecting the interests of shareholders going forward?
Money for Nothin'
The interested chairman of the Legg Mason Partners board described the process surrounding the consolidation and asking directors to leave "emotionally difficult." Forgive us if we don't shed a tear. All of these boards and directors were asleep at the switch as the former Citigroup Asset Management fleeced shareholders to the tune of $93 million by charging its funds inflated transfer agent fees (assets paid to an entity that's basically a fund's recordkeeper). Instead of running their own competitive bidding process, each of these boards relied on CAM, despite its clear conflict of interest, to do it for them. And as we've laid out in our Stewardship Grades for these funds, none of these boards have done much for shareholders in terms of improving poorly run funds or ensuring that their charges passed along economies of scale to shareholders through lower annual expense ratios as assets grew at a number of funds.
But what are shareholders to do? If they don't vote for the reorganization, the pension plans will continue to exist and 30 directors will continue to be compensated for being little more than a rubber stamp. But by voting for the proposed consolidation they're affirming the worst practices of greedy boards and rewarding them with big upfront payments for undeserved "retirements," even though Legg is picking up part of the tab. A "no" vote, especially for Board #8, however, would send a powerful message to these rogue boards of their duties to shareholders and possibly send Legg Mason back to the drawing board to work a deal palatable for shareholders--or face investors voting with their feet.
Kerry O'Boyle does not own shares in any of the securities mentioned above.
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Golden Parachutes for Fund Directors
Thursday October 5, 7:00 am ET
By Kerry O'Boyle
Overpriced CEOs aren't the only ones collecting fat paychecks on their way out the door these days. Fund directors at Legg Mason Partners funds are poised to get a big payoff of their own. Thanks to an overhaul in the board structure of these funds, directors will be pocketing lucrative retirement benefits at shareholders' expense for doing nothing more than stepping aside or becoming part of a brand new board. Background
How did this situation came to pass? In December 2005, Legg Mason (NYSE:LM - News) acquired the asset management arm of Citigroup (NYSE:C - News), known for its Smith Barney and Salomon Brothers lineup of mutual funds. Re-dubbed ClearBridge Advisors, with the funds being sold under the Legg Mason Partners brand, this fund shop now operates as an autonomous unit under Legg. Not surprisingly, the new firm started cleaning house in August 2006 by announcing a slew of fund mergers and a consolidation of the funds' 10 (yes, 10!) boards of directors, thereby cutting the number of directors in half, from 60 to 30. (The various boards have agreed on the changes, but shareholders still need to sign off on them.)
ADVERTISEMENT
The sprawling number of boards under the Legg Mason Partners umbrella is a legacy of Citigroup's growth-through-acquisition strategy in the 1990s, which involved swallowing up a number of bank- and insurance-run fund groups. Legg Mason Partners has proposed reducing the number of boards to two--one for equity and one for fixed-income funds (a third, smaller board, will handle money-market and other cashlike offerings). Although each of the two boards will retain a high number (12) of independent directors, the funds would be kicking roughly half of the independent directors to the curb. In addition, Legg wishes to eliminate the various pension plans available to directors going forward.
The consolidation makes sense in many respects. The current structure is illogical and cumbersome in that both equity and fixed-income funds are all spread awkwardly across the many boards. Under the new setup, board members will be asked to oversee more funds (though not an excessive number), but the issues for those funds will be similar and allow the new boards to specialize. Plus, by downsizing the number of boards and directors and eliminating the costs associated with the unnecessary retirement plans, the overhaul will likely lower costs to fund shareholders going forward. Finally, Legg Mason has said that it will pick up two thirds of the proxy costs needed for shareholder approval of the mergers and board consolidation and one half of the costs of the board buyouts.Nice Work If You Can Get It
However, the consolidation isn't entirely a positive for fund shareholders--not by a long shot. That's because the board reorganization entails massive lump-sum payments to the funds' current directors as compensation for the various retirement and emeritus plans to which most of them are entitled. Although a dying practice, retirement plans for mutual fund board directors used to be fairly common. Vanguard's board only stopped providing a retirement package to new directors in January 2001; those who began service prior to that still were entitled to a stake in the former plan. Boards at AIM and Oppenheimer Funds still have retirement plans that can provide directors as much as 80% of the annual compensation they earned while serving on the board, every year for as long as 10 years.
Of course, the idea of directors, many of whom are already retired, receiving a pension for what can easily be described as a part-time job strikes us as absurd. Many directors, especially those overseeing large numbers of funds at big fund shops, are already handsomely paid for the few days they devote a quarter to overseeing their charges. Plus, it's hard to fathom how a director who may have spent as few as five years on a board and who is no longer serving the interests of current fund shareholders deserves further compensation. That's likely why this practice has been going away quietly.
Hands Tied?
But the one-time buyout by the Legg Mason Partners funds shows how tricky it can be to dismiss directors--as well as the perks they have granted themselves. That's because Legg Mason is, in essence, asking 30 directors to fire themselves. The firm can recommend such changes, but it's up to the boards themselves, and shareholders, to approve these moves. And so it is with the various existing pension packages to which current directors are entitled.
Remember, boards of directors are paid from assets from the funds they oversee, and determining board compensation is in the hands of the board itself, not the fund company. Thus, the firm faces the dilemma of how to get a number of directors to give up their cushy jobs and also the promise of additional money after their service is done.Board #8 and the Ugly Details
Needless to say, Legg had little choice but to offer a carrot to existing directors--a generous buyout of the various pension plans--to get them to go along. Not all of the blanks have been filled in as yet, but the figures that are available are not pretty. Nine of the 10 boards had emeritus plans that entitled directors to 50% of their annual retainer and meeting fees for a maximum of 10 years, plus expenses for travel costs to attend board meetings as nonvoting members. According to filings, for members of Board #3--who oversee a smattering of municipal bond, equity-income, and other funds--the proposed payout averages out to $272,560 for each of the six directors being asked to leave. That's more than $1.5 million for just one of the nine boards.
But it gets worse. Board #8, which happens to be the largest board with nine independent directors, has not one, but two, full-blown retirement plans. Directors that had served prior to 2000 are covered by the first. The second covers all directors and entitles them to as much as 5 times the amount of their annual compensation as directors. By our count, with four of the nine directors double-dipping into both plans, the total buyout of this board alone will cost shareholders nearly $5.5 million. Adding insult to injury, eight of the nine directors from Board #8 will be staying on as directors on the fixed-income board, where their annual compensation will likely double given that they will now oversee roughly twice as many funds as before.
The situation with Board #8 can only be described as a travesty, with some directors taking home roughly $1 million dollars for doing little more than switching seats. It's unconscionable that eight of these directors are being retained, with a raise no less, to serve on one of the newly formed boards. What are the odds of these directors doing a standup job of protecting the interests of shareholders going forward?
Money for Nothin'
The interested chairman of the Legg Mason Partners board described the process surrounding the consolidation and asking directors to leave "emotionally difficult." Forgive us if we don't shed a tear. All of these boards and directors were asleep at the switch as the former Citigroup Asset Management fleeced shareholders to the tune of $93 million by charging its funds inflated transfer agent fees (assets paid to an entity that's basically a fund's recordkeeper). Instead of running their own competitive bidding process, each of these boards relied on CAM, despite its clear conflict of interest, to do it for them. And as we've laid out in our Stewardship Grades for these funds, none of these boards have done much for shareholders in terms of improving poorly run funds or ensuring that their charges passed along economies of scale to shareholders through lower annual expense ratios as assets grew at a number of funds.
But what are shareholders to do? If they don't vote for the reorganization, the pension plans will continue to exist and 30 directors will continue to be compensated for being little more than a rubber stamp. But by voting for the proposed consolidation they're affirming the worst practices of greedy boards and rewarding them with big upfront payments for undeserved "retirements," even though Legg is picking up part of the tab. A "no" vote, especially for Board #8, however, would send a powerful message to these rogue boards of their duties to shareholders and possibly send Legg Mason back to the drawing board to work a deal palatable for shareholders--or face investors voting with their feet.
Kerry O'Boyle does not own shares in any of the securities mentioned above.
Get Morningstar's portfolio tools, data, and editorial insight, plus Analyst Reports on 1,450 stocks and 2,000 funds. Start your free 14-day trial today.