BP and golden parachutes

The wages of failure

Despite the howls, Tony Hayward’s departure as boss of BP was deftly handled. And other firms are trying harder not to reward bad leadership

| NEW YORK

WHEN Tony Hayward said “I’d like my life back” on May 30th, losing his job as boss of BP was probably not what he had in mind. But on July 27th he accepted the inevitable. On his watch, zillions of gallons of oil spilled into the Gulf of Mexico. When the microphones were on, gaffes gushed from his lips. He was a walking public-relations disaster and had to go.

His replacement will be another BP veteran, Robert Dudley, an American who grew up in Mississippi. Mr Dudley has had PR problems of his own. While head of BP-TNK, a joint venture in Russia, he fell out with BP’s Russian partners and left the country in some disarray after the Russian security services raided BP’s office in Moscow. None of this will make Americans think worse of him, however.

BP’s timing is shrewd. The leaking well is capped. An understanding has been reached with the American government. Had the board brought in a new face too early, it might have attracted mud. Instead, Mr Dudley is well-placed to lead BP out of its hole. On July 27th the firm announced a record loss of $17 billion, the consequence of a one-off charge of $32 billion to clean up the oil spill, compensate its victims and settle fines. The firm will have to sell more than a tenth of its assets to cover this, but it will survive.

Mr Hayward will receive severance pay of a year’s salary (about £1m, or $1.6m) and the right to start drawing from a pension pot conservatively valued at £11m. (He may also become a non-executive director of BP-TNK, which is perhaps the closest BP could get to sending him to Siberia.) This “payment for failure” has prompted outrage: “£12m payoff for Captain Clueless,” fumed a typical headline. Edward Markey, a congressman, grumbled about “multi-million-dollar golden parachutes”.

This is unfair. Mr Hayward has worked at BP for 28 years, most of them successful. At least half of his pension pot was earned before he became chief executive. And the plunge in BP’s share price has wiped out the equity-related part of his pay package as CEO—a significant punishment.

Nonetheless, the story has intensified a necessary debate about how to avoid rewarding bad leadership. The financial crisis revealed that top bankers were fabulously remunerated for doing what turned out to be a lousy job. Some pocketed immense bonuses when they falsely appeared to be doing well, and then kept much of the loot when their firms collapsed. Other industries sometimes pay handsomely for failure, too (see table). It is not only business-bashing politicians who find this upsetting. “If I was running things,” growled Warren Buffett, an investor, in January, “if a bank had to go to the government for help, the CEO and his wife would forfeit all their net worth.”

That might satisfy the public’s appetite for executive blood. But it is highly unlikely to happen. “Boards of directors feel embarrassed about removing the chief executive and it is not their money, so they tend to be generous,” says Nell Minow of the Corporate Library, a corporate-governance research firm. Failed bosses are seldom fired. Instead, they are usually allowed to resign or retire with dignity, and usually with money thrown at them. This culture of sympathy will be hard to break, not least since most board members are current or former bosses and may feel that “There, but for the grace of God, go I.”

More importantly, ruining bad bosses is a bad idea. Who would want to take a job that came with a serious risk of financial destruction? Whoever did take it would surely manage in a way that minimised the risk of catastrophic failure. That sounds peachy until you remember that capitalism depends on risk-taking. Penalise failure too harshly and “you risk creating bureaucrats,” says Ira Kay of Pay Governance, an executive-pay consultancy.

Bronze parachutes will do

Abolishing all golden parachutes would be foolish. Far better to design them intelligently. They should be generous enough to make a dud boss leave without a fuss or a lawsuit, but no more. BP’s parting gift to Mr Hayward looks about right. Had he been the boss of an American firm, he would surely have walked away with far more. Ken Lewis made Bank of America swallow the toxic Merrill Lynch but still pocketed $125m when he left last year. Bob Nardelli banked $210m in 2007 after a six-year value-destroying reign at Home Depot.

In Britain, the abuse of golden parachutes was sharply reduced in the 1990s by the corporate-governance reforms ushered in by the Cadbury and Hampel codes for public companies. “The norm in Britain is for severance pay of one year’s salary, two years in exceptional cases, which is far less than the norm in America,” says Paul Hodgson of the Corporate Library. Nor is there any early vesting of share options as part of the severance process, as happens in America. During the financial crisis, Mr Hodgson calculated that firing the bosses of British banks would have cost only a few million pounds each, whereas firing the titans of Wall Street would have cost hundreds of millions a head.

Following the financial crisis, efforts are afoot to make it harder for bad bosses to walk away with a fortune. Some contracts include “clawback” clauses, which allow performance-related payments to be reclaimed if the performance that was rewarded turns out to have been worse than it seemed at the time. So far, however, no money has been clawed back from failed Wall Street bosses, even though titans such as Richard Fuld of Lehman Brothers took home fortunes that now seem unjustified, points out Mr Hodgson. A second change may have more impact: a requirement in America’s recent financial-reform act for shareholders to vote on executive pay, including golden parachutes. They could do worse than to require American companies, in this respect at least, to copy the reviled BP.