Interesting article at Bloomberg today about the recent vintage of under-performing M&A deals (see M&A Losers, ht Donald).

More than half of the 100 biggest takeovers made during the last mergers-and-acquisitions boom have something in common: By one measure, they never should have happened.

The stocks of 53 companies that made the biggest purchases from 2005 to 2008 lagged behind industry peers two years later, according to data compiled by Bloomberg’s ranking group. Among the worst performers were McClatchy Co., Boston Scientific Corp., and Sprint Nextel Corp., all three of which are now valued at less than the price they paid for their acquisitions.

Companies struck $10 trillion of deals during the last merger binge, even after more than a decade of research showing deals often don’t pay off for the buyers. The average stock price of all the top acquirers trailed benchmark indexes by an average of about 3 percentage points.

I’ve written a fair amount about how difficult it is to acquire successfully (see Great Shareholder Ripoff, Why M&A Deals Go Bad, Dumbfounded by the Data, and The Complexity of Strategic Acquisitions). That notwithstanding, what never ceases to amaze me is that although we know, and have known for quite some time, that deals generally under perform and that most fail, we continue to repeat our mistakes.

Are managers incapable of learning, …or are the incentives to acquire so perverse that they just cannot resist??

The New York Times Dealbook published an article last week on a corporate deal that worked for the right reasons (see A Merger that Works). According to the NY Times:

Academic studies generally support the idea that shareholders of companies that make acquisitions get the short end of the stick.

MY COMMENT: Yes, that’s a fair assessment of the academic literature. Most deals fail; and often, shareholders of the acquiring firm end up bearing the brunt of the costs (see Great Shareholder Ripoff and Why M&A Deals Go Bad).

But that’s not always the case. Stanley Black & Decker, the tool giant created this year, is shaping up to be a notable exception if Wednesday’s quarterly report is any guide. Investors might want to make a punch list of the deal’s key components.

From the start, the merger, announced last November, looked good on paper. Stanley Works agreed to buy Black & Decker for stock valued at a 22 percent premium…[but] the amount Stanley was paying above Black & Decker’s market capitalization was dwarfed by the value of cost cuts promised by the deal.

MY COMMENT: OK, but I am hard pressed to think of a deal in which decision-makers don’t justify the acquisition by appealing to “the premium is justified by the cost cuts” rationale. The numbers, however fabricated calculated, should always come out that way. Otherwise, the deal makes no sense. Where most deals fail is in the integration phase – in the process of trying to capture the supposed cost savings/revenue enhancements. And in fairness to the author of the NY Times piece, he/she recognizes that…

These, of course, were no sure thing; achieving them depended entirely on management making them happen. But in the first full quarter as a combined group, these are now being captured.

The company reported better-than expected second-quarter results and raised its outlook… Moreover, the company said it was “firmly on track” to meet its estimates for cost cuts and was examining opportunities for revenue synergies.

Since the deal was announced, Stanley shares have risen by more than 20 percent…By comparison, the Standard & Poor’s 500-stock index has added just 4 percent.

The lesson should be fairly simple: mergers can work if the blueprints are solid. In the Stanley Black & Decker case, the elements included overlapping businesses with broad scope for expense reduction, a modest premium amply justified by the synergies, clear governance and control, and a shared distribution of future gains. Put those tools in the box, and there’s no reason shareholders can’t benefit from such deals.

MY COMMENT: Maybe. But I think that most managers enter such deals believing (perhaps erroneously) that their blueprints are solid. Further, we always hear about synergies and the benefits of buying overlapping businesses, and yet most deals still fail.

And therein lies what makes evaluating individual deals so difficult.

First, we don’t get to observe the counter-factual. Although the share price of the combined entity (in this case Stanley Black & Decker) may have risen (by 20% according to the author), we don’t get to observe what would have happened to Stanley Works’ stock and Black & Decker’s stock individually had the deal not gone through. Perhaps it would have increased by more than their combined shares, perhaps by less.

In addition, there is another potential explanation for Stanley’s positive outcomes that I think the author may have overlooked: market power. Bringing together two powerful competitors within a largely commodity business is one way to quickly extract value. Whereas the firms previously competed vigorously with each other in various segments of the market, the ability to remove a competitor via acquisition enhances the pricing power of the combined entity. So although there may have been cost cutting synergies for Stanley to exploit, the true benefit may have come from the industry consolidation itself. The lesson: Industry structure matters, …and that is not easy to replicate no matter how complementary the businesses.

So when it comes to M&A deals, I am always weary of a one-size-fits-all punch list. And you should be too.

For those of you who read my blog, you know that I’ve had an interest in Tata’s acquisition of Jaguar and Rover. When it was announced, I failed to see the value proposition in the combination of Tata and JLR, and I remain somewhat skeptical of JLR’s ability to provide value to Tata (for background see Jaguar/Rover Revisited, Jaguar/Rover Update, and Buyer’s Remorse).

Irrespective of my opinion, it was with great interest that I read this week’s Economist, which contained an article on Tata’s progress with those previously beleaguered brands (see Tata Motors’ Boss Moves Up a Gear).

After a torrid couple of years in which demand for JLR’s pricey models evaporated…2010 has seen at least a partial recovery in sales and profits…

After the success of the mid-size XF and with heavily revised Range Rovers and the radical new XJ saloon just launched, JLR’s product line-up has never looked in better shape.

MY COMMENT: I will give that to them. Tata Motors is performing better now than in 2009. They are profitable again, with net income of around $550 million. However, a look under the hood suggests that profitability was not bolstered much by results at JLR (Jaguar Land Rover). A good chunk of Tata Motors’ profitability came from a gain booked on the partial sale of Tata’s stake in Telco Construction Equipment. JLR’s net profit was reported at around $20 million. That’s very small (less than 5% of total profit for a brand that represents greater than 50% of Tata’s entire automobile enterprise), …but it’s admittedly greater than zero.

Another thing that I will say about Jaguar and Land Rover: Their new models are stylish. They are good looking cars. And boy have they been marketing the heck out of them in the US. Everywhere I turn I feel like I see/hear another JLR advertisement – on TV, radio, billboards, and even through the internet (e.g., pandora radio). This is more than I ever remember Ford promoting those brands.

So Tata Motors is definitely making the investment. The question remains: Will the pricey advertising campaigns pay off, or are the brands already too far gone??

Nevertheless, I will admit there are definitely some things for the optimists to get excited about.

Back to the article:

One of the biggest puzzles Mr Forster [the Chief of Tata Motors] has to solve is how to replace the legendary Land Rover Defender…The new vehicle will have to be cheaper to make (and sell) than the current “Landie” to make it competitive with Japanese rivals in developing-country markets…[and] come up with a product capable of finding at least 80,000 buyers a year—four times as many as the current Defender. There is a good chance that, to keep costs down, the new model will be made in India.

MY COMMENT: Um wait. From what I remember of the original deal, Tata agreed not to shift production out of the UK, and made pledges not to cut staff or close plants. It’s unclear to me therefore how many of those 80,000 cars they’ll be able to assemble in India.

The new-model blitz is in impressive contrast with the sluggish pace of development under JLR’s cash-strapped previous owner, Ford.

MY COMMENT: Yes, I agree the new models (especially the Jaguar XF/XJ and the Land Rover Evoque) are impressive. However, lest we forget, these models were designed and developed under the previous owner, Ford. What matters most is what comes next, …in the generation of models that follow. We’re still several years away from seeing the fruits of any design efforts under Tata Motors.

And one of the big takeaways from the article:

Apart from economic uncertainty in its traditional markets, there is, however, one big cloud on the company’s horizon: ever-tightening fuel-efficiency and emissions rules.

MY COMMENT: Really?? That’s it? Fuel-efficiency and emissions rules? That’s the best you can come up with?

C’mon, JLR’s downside risks are far greater than that. For example:

1. How will JLR compete with the Japanese (Acura, Infiniti, Lexus) on price or the Germans (BMW, Audi, Mercedes) on perceived quality? My view is that JLR’s models are too expensive to effectively compete with the Japanese manufacturers. They just don’t have the volume. And they are not as highly regarded as the German brands. They just don’t have the prestige, and as a result must settle for lower margins. In this sense then, JLR is stuck in the middle.
2. The auto industry continues to be saddled by mass overcapacity. Coupled with what I suggested in point #1, it’s not entirely clear to me how Jaguar and Land Rover can survive the inevitable industry shakeout.
3. What happens if/when the global economy slows again (especially in Europe and the US) and sales of durable goods decline? JLR is already teetering on the verge. Even a modest economic slowdown could spell the end to the brands.
4. JLR still carries a hefty debt burden that Tata Motors is working through. Even with a restructuring of that debt, a turnaround of JLR is a tall order, and $3 billion in debt is not chump change. It’s reasonable to ask whether Tata will ever earn enough (even if JLR remains profitable) to provide a reasonable return on investment.
5. As in my previous posts, I still wonder about Tata’s ability to derive synergies from JLR, to rationalize JLR’s operations, and right two long-uncompetitive brands.

But who knows. Tata Motors might just prove me wrong. After all, JLR is marginally profitable (for now). And Tata Motors certainly picked a qualified leader in Carl-Peter Forster to lead the group.

Only time will tell…

It’s been a long time since I’ve thought about the JP Morgan/Bear Stearns shotgun wedding (see Rescue for Bear? and Rescue Update for background). Back when I wrote those blog entries, I wondered aloud whether, in addition to preventing Bear’s collapse, the Fed also orchestrated a backdoor bailout of JP Morgan in the process.

Anyhow, as part and parcel of the JP Morgan/Bear Stearns deal, the Fed acquired a host of assets that were packaged into what would become known as the Maiden Lane portfolio. The Maiden Lane portfolio housed approximately $30B “worth” of assets, with JP Morgan agreeing to assume the first $1B in losses associated with the portfolio, and the Fed assuming any losses thereafter.

Last week an interesting article in Bloomberg questioned when the Fed knew about the poor quality of the assets it acquired in the Maiden Lane deal, and how it communicated what it knew about those assets (see Fed Made Taxpayers Unwitting Junk-Bond Buyers).

According to Bloomberg:

Federal Reserve Chairman Ben S. Bernanke and then-New York Fed President Timothy Geithner told senators on April 3, 2008, that the tens of billions of dollars in “assets” the government agreed to purchase in the rescue of Bear Stearns Cos. were “investment-grade.” They didn’t share everything the Fed knew about the money.

The so-called assets included collateralized debt obligations and mortgage-backed bonds…that were so distressed, more than $40 million already had been reduced to less than investment-grade by the time the central bankers testified.

At the time Maiden Lane was created, the Fed claims that the assets were solid, credit-worthy, and investment grade.

“As was noted in testimony, all of the cash securities in the Maiden Lane portfolio were investment grade on March 14, 2008, when the deal was agreed to in order to facilitate the acquisition of Bear Stearns and to prevent the systemic consequences of its sudden and disorderly failure,” Michelle Smith, a spokeswoman for the Fed’s Board of Governors, said in an e-mail.

“The Federal Reserve considered not just credit-rating valuations, which have varied some over time based on economic conditions, but also relied on a separate assessment from an independent investment firm, which advised us that over time, we would likely fully recover our principal and interest,” Smith said. “We continue to expect the loan to Maiden Lane to be fully repaid.”

“You’ve got about $30 billion of collateral. And some comments have been made that you feel comfortable because it’s highly rated,” Senator Jack Reed, a Rhode Island Democrat, told Bernanke, according to a transcript. “But a lot of highly rated collateral these days is being subject to questions.”

“Senator, as was mentioned, it is all investment-grade or current performing assets,” Bernanke responded. “We do not know for sure what will transpire,” he said. “But we have engaged an independent investment-advisory firm who gives us reasonable comfort that if we can sell these assets over a period of time that we will recover principal and interest for the American taxpayer.”

That was then. This is now:

More than 88 percent of Maiden Lane’s CDO bonds and 78 percent of its non-agency residential mortgage-backed debt are now speculative grade, according to data compiled by Bloomberg based on holdings as of Jan. 29.

Casablanca moment: I’m shocked, shocked…

Needless to say, I’ve been stewing over that article for the better part of a week now, and several thoughts came to mind:

1. The Fed was fleeced. It was in over its head – unable, and unequipped, to properly value extremely complex derivatives – and as a result, was on the wrong side of the Maiden Lane trade.
2. The Fed knew best. It was a liquidity problem and not a solvency problem. The Fed bought assets that no other party was willing to buy because potentially interested parties were scared (wrongly pricing Armageddon). The assets still had value and the Fed paid a fair price. To its credit, even the CBO estimates that the Fed will end up realizing a $200 million return on its Maiden Lane investment. So the Fed was on the right side of the trade.
3. It doesn’t matter whether the Fed made a good or bad trade. It failed to properly disclose information about the true state of the Maiden Lane assets. That is, the Fed knew that the assets were largely junk but bought the assets anyway in an effort to wind Bear down in an orderly manner and stave off the risk of a systemic collapse.

I hope the answer doesn’t lie behind Door #1. It oughtn’t. There are some pretty sharp minds at the Fed, so I highly doubt they got taken. If the Fed executed a horrible trade, then how could it possibly be seen as a credible central bank, especially in light of the increased regulatory powers that the financial reform bill looks set to grant it? And as Kevin Warsh stressed in a recent speech: “The Fed’s institutional credibility is its most valuable asset…”

I am also skeptical that the answer lies behind Door #2. I keep coming back to the absence of suitors for Bear (and/or those assets). Why was there no market for Bear? Why was nobody interested in what were then largely “investment grade” assets? Did the market really have it that wrong?? As the Bloomberg article notes:

“Why wouldn’t JP Morgan want a bunch of AAA assets?” said Mark Calabria, a former Senate Banking Committee staff member…“The answer is it was all borderline junk.”

The CBO even leaves a wide range for expected returns on Maiden Lane’s assets recognizing in its report that, “the returns realized on asset-backed securities such as those in the Maiden Lane portfolios could deviate significantly from what is expected…”

And so we come to Door #3. Whether the Fed executed a good or bad trade is, in some ways, immaterial. It’s about the way it was handled.

I understand the desire, and the urgency, on the part of the Fed to step in and wind down Bear, much as the FDIC acts as a receiver to failed banks. I am one of those who believes that the alternative (letting Bear fail in a disorderly manner) might have had catastrophic consequences for the global financial system. Of course, we will never know, not having the opportunity to observe the counter factual.

But to me, this is starting to look like a case in which it’s debatable whether the ends justify the means.

As I understand it, the issue is that the Fed did not (at the time) have resolution authority over non-bank financial institutions such as Bear. Therefore, it invoked Section 13(3) of the Federal Reserve Act, which enables it to provide credit to corporations like Bear in extraordinary circumstances, but only in exchange for high quality collateral. Moreover, whereas the FDIC is funded by the premiums collected from member banks and draws upon the Deposit Insurance Fund when winding down a bank, in this case the Fed put taxpayer money directly at risk.

And therein lies what bums me out so. It’s not the kind of assets acquired by the Fed. It’s not the price at which the Fed acquired the assets. It’s not whether the assets will ultimately get paid back, though that’s important (and debatable). It’s not even whether the Fed, through its actions, effectively rescued the financial system from the brink.

In the end, it’s about what the Fed knew about the quality of the assets when it structured the rescue, and the possibility that the Fed put taxpayer money at risk in violation of Section 13(3) of the Federal Reserve Act, perhaps knowing ex ante that it was acquiring collateral of dubious quality.

This is why, in my opinion, Bernanke was so careful with his language in his April testimony. Yes, technically, the assets were investment-grade rated and/or performing assets when Maiden Lane was created. Therefore, at the time, the assets were likely meet the “indorsed or otherwise secured” criteria. Brilliant really, if you think about it.

But did the Fed anticipate that the assets would remain high quality? That’s another story.

If the Fed knew that the Maiden Lane assets were likely to become junk assets irrespective of how they were rated at the time (and we might never find out), it would be eerily reminiscent of a “You can’t handle the truth” kind of moment, …which speaks to a whole different kind of credibility.

In January I predicted that “major” bankruptcies in 2010 would number around 300 (see Notable Bankruptcies of 2010: Q1). According to Bankruptcydata.com, there were 59 “major” filings in the first half of 2010. Assuming that bankruptcies are equally distributed throughout the year, this puts us on pace for around 120 bankruptcies. Again, this would be well shy of my prediction.

In previous posts I discussed why I believed “major” business bankruptcies were tracking below expectations (see Notable Bankruptcies of 2010: Q1 and Notable Bankruptcies of 2009). The candidate explanations include: an improving economy; massive government stimulus/liquidity programs keeping structurally weaker firms on artificial life support; and the recovery disconnect between Main St. and Wall St. (i.e., small-firm bankruptcies are on the rise even while major bankruptcies have declined).

Personally, I continue to believe that the significant dip in “major” business bankruptcies that we have witnessed over the past year has a lot to do with the extraordinary government stimulus and liquidity programs. Nowhere has this been more evident than in the disconnect between the bankruptcy patterns across small and large corporations (see Notable Bankruptcies of 2010: Q1 for details). And as I’ve maintained all along, absent a second round of stimulus, we will find out if my hypothesis is correct as the stimulus and liquidity programs begin to wind down. In this sense then, the true test for corporate balance sheets (and by extension, the economy) will come in the second half of the year.

Given the recent troubles in Europe and the softer economic employment and growth numbers at home, it continues to be my expectation that the pace of corporate bankruptcy filings will increase in the second half of 2010. Will we ultimately reach 300 “major” business bankruptcies? At this point, likely not. But I do not think 200 is out of the question.

If fundamentally weak companies are being propped up by an artificially-stimulated economy that cannot structurally support them, it is only a matter of time before bankruptcies begin to reflect true underlying economic fundamentals.

Anyhow, below you can find an updated list of what I see as the “noteworthy” bankruptcies of 2010, as reported by Bankrupctydata.com. New additions since March appear in RED (please note that this is not an exhaustive list):

• Affiliated Media, Inc. (Newspapers)
• American Mortgage Acceptance Company (Real Estate)
• Anthracite Capital, Inc. (Real Estate)
• Atrium Companies, Inc. (Windows and Doors)
• Beach First National Bancshares, Inc. (Banking)
• Black Gaming, LLC (Gambling)
• Chem Rx Corporation (Pharma Services)
• Community Bancorp (Banking)
• Corus Bankshares, Inc. (Banking)
  
• Electrical Components International, Inc. (Manufacturing)
• EnviroSolutions Holdings, Inc. (Waste Disposal)
• Evergreen Bancorp, Inc. (Banking)
• FirstFed Financial Corp. (Banking)
• Haights Cross Communications, Inc. (Publishing)
• International Aluminum Corporation (Real Estate)
• Mesa Air Group, Inc. (Airlines)
• Morris Publishing Group, LLC (Media)
• Movie Gallery, Inc. (Retail)
• Neenah Enterprises, Inc. (Manufacturing)
• Neff Corp. (Construction)
• Orleans Homebuilders, Inc. (Real Estate)
• Penton Business Media Holdings, Inc. (Media)
• Point Blank Solutions, Inc. (Security)
• Regent Communications, Inc. (Media)
• R&G Financial Corp. (Banking)
• Saint Vincent’s Catholic Medical Centers (Healthcare)
• Spheris Inc. (IT Services)
• TierOne Corporation (Banking)
• The Newark Group, Inc. (Paper)
  
• Uno Restaurant Holdings Corporation (Restaurants)
• US Concrete, Inc. (Construction/Basic Materials)
• Xerium Technologies, Inc. (Paper)

File this under funny…

The Economist ran a brilliant (the sad but true kind of brilliant) article last week about the increasing meaninglessness of job titles (see Too Many Chiefs). Their take-away: “Inflation in job titles is approaching Weimar levels.”

Kim Jong Il, the North Korean dictator, is not normally a trendsetter. But in one area he is clearly leading the pack: job-title inflation. Mr Kim has 1,200 official titles, including, roughly translated, guardian deity of the planet, ever-victorious general, lodestar of the 21st century, supreme commander at the forefront of the struggle against imperialism and the United States, eternal bosom of hot love and greatest man who ever lived.

When it comes to job titles, we live in an age of rampant inflation. Everybody you come across seems to be a chief or president of some variety. Title inflation is producing its own vocabulary: “uptitling” and “title-fluffing”. It is also producing technological aids. One website provides a simple formula: just take your job title, mix in a few grand words, such as “global”, “interface” and “customer”, and hey presto.

The rot starts at the top. Not that long ago companies had just two or three “chief” whatnots. Now they have dozens, collectively called the “c-suite”. A few have more than one chief executive officer; CB Richard Ellis, a property-services firm, has four. A growing number have chiefs for almost everything from knowledge to diversity. Southwest Airlines has a chief Twitter officer. Coca-Cola and Marriott have chief blogging officers. Kodak has one of those too, along with a chief listening officer.

…The number of members of LinkedIn, a professional network, with the title vice-president grew 426% faster than the membership of the site as a whole in 2005-09. The inflation rate for presidents was 312% and for chiefs a mere 275%.

Although I believe that title inflation is a real phenomenon, I’m not sure that citing the growth in vice-president, president, and chief titles listed on LinkedIn over the period 2005-2009 is the cleanest evidence of such (however clever). It could just as easily indicate that senior officers who were reticent to join LinkedIn in the early going finally recognized its value and joined en masse later in the game.

But back to the article:

What is going on here? The most immediate explanation is the economic downturn: bosses are doling out ever fancier titles as a substitute for pay raises and bonuses.

Not sure that’s quite the right explanation. Although the downturn has probably fed title inflation, I doubt bosses have been systematically doling out fancier titles in lieu of pay. They haven’t had to. After all, who’s going to leave the firm in this market??

Rather, my hunch is that it has just as much to do with displaced workers being forced into becoming chief of their very own micro (single person) enterprise. That, and an increasing trend toward independent contracting (explanations that are not mutually exclusive).

I would have been more willing to buy the “bosses are doling out ever fancier titles” to try to manipulate an employee’s sense of worth within the organization. After all, title inflation is not a new phenomenon. It’s an increasing trend that predates the financial crisis, and even the dotcom era.

One of the oldest jokes floating around the financial industry for as long as I can remember is that “Everyone’s a VP at a bank.” And part of the fun during the high-tech/dotcom era was watching the titans of this new industry eschew traditional titles while, at the same time, mocking convention. So I found myself disagreeing with the author’s assertion that:

The American technology sector has been a champion of title inflation. It has created all sorts of newfangled jobs that have to be given names, and it is also full of linguistically challenged geeks who have a taste for “humorous” titles. Steve Jobs calls himself “chief know it all”. Jerry Yang and David Filo, the founders of Yahoo!, call themselves “chief Yahoos”. Thousands of IT types dub themselves things like (chief) scrum master, guru, evangelist or, a particular favourite at the moment, ninja.

Rather than engaging in title inflation, if anything, by adopting quirky titles, I think the chieftains of tech are really just calling “Bullshit” on the whole title inflation charade.

But my nitpicking aside, I encourage you to take a read of the whole article. Hysterical!

So after Fox 5 shifted the originally planned segment from Monday to Tuesday and changed the time from 7:15am to 8:15am, they finally ran their story on the New York MTA. See the embedded video below.

If the video doesn’t work for you, feel free to visit Fox’s website (see Where the MTA Spends Money). In a story accompanying the video, Fox writes:

With an $800 million budget shortfall that has resulted in service cuts and the looming possibility of fare hikes, the MTA should look to cutting employee costs, Robert Salomon, a professor at the NYU Stern School of Business told Good Day NY on Tuesday.

“I think that’s the elephant in the room,” said Salomon.  “A full sixty cents on every dollar goes to employee costs”

From salaries, to health benefits and pensions, a significant amount of money is spent on employees.

MTA officials have said there are consolidating functions to reduce unnecessary spending, but at the end of the day, Salomon says it’s up to elected officials to force changes on the agency.

“It’s up to legislators to say enough is enough,” added Salomon.

Unfortunately I didn’t get to touch upon all the points that I came prepared to discuss, but I guess that’s what happens in a short segment.

I came armed with data. For example, not only do employee costs account for some 60% of the overall MTA budget, but its employment cost structure compares unfavorably with other large municipal transportation authorities (e.g., Boston, DC, and Chicago) and even a privately-operated transit company (e.g., Keolis). Believe it or not, the MTA spends in excess of $100,000 per employee in pay, benefits, and pensions ($7.2 Billion annually). It doesn’t even collect enough in revenue ($6 Billion in fares, tolls, etc.) to cover its employee costs.

That said, it was not my intent to bash unions on the show. I certainly hope it did not come across that way.

I am not anti-union by policy; however, the fact is that in the midst of the worst recession since the Great Depression, MTA employees are not sharing in the pain. In fact, in December 2009 the MTA was forced to grant a three year pay increase of 11% to the employees represented by the Transit Workers Union (TWU). This leaves commuters and taxpayers to shoulder the burden not only for the previously anticipated MTA budget shortfall caused by the financial crisis, but also the added shortfall caused by the mandated TWU pay increase.

This begs the question: How much more in taxes, service cuts, and fare hikes (which have significantly outstripped inflation over the years) can the commuter/taxpayer absorb???

And the worst of it is that absent the involvement of legislators, nothing can be done about the contracts that bind the MTA to overly-generous pay packages. This is why I said that simply streamlining existing operations and shedding administrative employees is not enough. It’s up to our elected officials to intervene, more equitably divide the pain among the parties involved, and say “Enough is enough!”

Given that the unions hold incredible sway with our public representatives, I am not holding my breath…

I will be appearing on Fox 5′s Good Day New York tomorrow morning (Tuesday) for a segment on the (mis)management of the New York MTA at 7:15am (changed to 8:15am). They want to discuss not just the financial trouble the MTA currently finds itself in, but also the organizational constraints that the MTA faces in trying to run as a leaner, more efficient organization.

The thing that strikes me about the MTA is how much of the organizational budget is dedicated – in some way, shape, or form – to employee costs. Nearly 60% of the total budget is comprised of payroll, overtime, benefits, and pensions. Wow!

The MTA does not compare favorably with its peers in this respect. And given the current structure of its contracts, I’m not sure there’s much the MTA can actually do about it in the near term.

Feel free to tune in if you’re interested in this topic, …and I’ll post a clip after the segment airs.

Rob Cox and Rolfe Winkler penned an opinion piece in which they argue that GM ought not re-enter the finance business (see Perils of Finance for Carmaker). They are absolutely right!

The carmaker [GM]…is weighing a return to the finance business, possibly by acquiring its former unit, GMAC. Such recidivism is troubling on many levels.

G.M.’s challenge was not to recreate its past footprint…but to slim it down. While G.M. jettisoned or pledged to shutter some of its smaller distractions, including Saab, Pontiac, Hummer and Saturn, it retained its biggest, Europe’s Opel.

That decision might have been defensible based on the remuneration G.M. would have received, the automotive technology it would have transferred and the prospect that it could turn this leg of its core car business around.

Despite the foregone revenue that its sale would have generated and the cost of restructuring/operating it, I agree that keeping Opel is strategically defensible. Opel is obviously highly-related to GM’s existing lines of business, and it is a repository of small car technology.

But that would not be the case for a return to banking, even one focused on financing car purchases.

For one, it’s a clear case of mission drift. G.M. has yet to repay the government for its $50 billion conversion of loans into a majority stake. G.M. executives might argue that boomeranging into auto financing makes G.M.’s equity more appealing, thus paving the way for a more robust initial public offering of stock in the company.

That’s not obviously true. G.M.’s priority — and one that public shareholders would reward — is to return to a level of sustainable profitability as a manufacturer of decent cars. Even after wiping out $90 billion of debts and other obligations, G.M. failed to make a profit in the second half of 2009.

Another plausible argument might be that without a captive financing arm, G.M. is at a disadvantage by being unable to offer cheap loans to consumers. Yet that’s precisely the kind of poor credit judgment that led G.M. to divert its attention from quality and GMAC to make dud loans and mortgages that culminated in a $17 billion taxpayer rescue.

I could not agree more.

Just because the economy is showing signs of recovery does not mean that it is time to return to business as usual. Have we learned nothing?

GM needs to focus on making cars that consumers want, and doing so profitably. The business of financing automobile purchases is better left to a disinterested third party.

Ultimately, Cox and Winkler conclude that rather than reflecting sound strategic judgment, any decision to re-enter the financing business would simply reflect CEO Ed Whitacre’s personal desire to rebuild the GM empire (for background on the role empire building and managerial hubris play in acquisitions see Acquisitions: A Great Shareholder Ripoff and Why M&A Deals Go Bad).

As an American taxpayer, and hence GM owner, I do not believe such a move would be in the best interest of the shareholders.

The Economist ran an article last week reviving the decades-old debate between models of shareholder wealth maximization and stakeholder wealth maximization (see A New Idolatry).

The basic idea behind the shareholder wealth maximization model is that a firm’s sole purpose is to maximize shareholder value (i.e., share price). The stakeholder view offers a different (although not necessarily contradictory) perspective.

According to stakeholder theory, the aim of the firm is to maximize value by taking the concerns of all its stakeholders, not simply its shareholders, into consideration. That is, firms ought to incorporate stakeholder – shareholder, supplier, customer, employee, community, and any other constituency with a “stake” in the firm – interests into their decision calculus, thereby generating value not just for shareholders, but also for society at large. It shifts the maximization problem from one of individual utility maximization (in the interest of shareholders) toward one of joint utility maximization (balancing the disparate concerns of various interested parties). Wikipedia provides a and brief overview of stakeholder theory for anyone interested in reading more (see Stakeholder Theory).

Oh yeah, back to The Economist article:

The economic crisis has revived the old debate about whether firms should focus more on their shareholders, their customers, or their workers.

[The shareholder maximization model] has dominated American business for the past 25 years, and was spreading rapidly around the world until the financial crisis hit, calling its wisdom into question.

…Roger Martin, dean of the University of Toronto’s Rotman School of Management, charts the rise of what he calls the “tragically flawed premise” that firms should focus on maximising shareholder value, and argues that “it is time we abandoned it.” The obsession with shareholder value began in 1976, he says, when Michael Jensen and William Meckling, two economists, published an article, “Theory of the Firm: Managerial Behaviour, Agency Costs and Ownership Structure”, which argued that the owners of companies were getting short shift from professional managers. The most cited academic article about business to this day, it inspired a seemingly irresistible movement to get managers to focus on value for shareholders. Converts to the creed had little time for other “stakeholders” …[and] American and British value-maximisers reserved particular disdain for the “stakeholder capitalism” practised in continental Europe.

I have long been a proponent of a more stakeholder-oriented approach. However, I admit that it might be a bit difficult to advocate for European versions of “stakeholder capitalism” given the recent problems in the PIIGS nations.

That notwithstanding, I think the shareholder-stakeholder divide speaks to one of the fundamental criticisms of the field of financial economics, and its dogged adherence to the shareholder wealth maximization paradigm (see The Future of Financial Economics and Part Deux for criticisms of that approach). Back in March of 2009 I wrote:

…I have had more than a few conversations with prominent economists and sociologists about the social implications of a dogmatic adherence to models of shareholder wealth maximization. Unfortunately, if incentives are structured such that they exclusively reward shareholders (and in some cases, managers) at the expense of other constituents (stakeholders), this could lead to suboptimal social outcomes.

Shareholder maximization vs. Stakeholder maximization has been a topic of considerable debate in the strategy literature over the past 15-20 years. And given the social costs of this financial crisis, I would not be surprised to see the Stakeholder view gain more traction in the years to come.

Although I have been an advocate of a more stakeholder-oriented approach, this is not to say that there are not valid criticisms that can be leveled at stakeholder theory. The shareholder maximization approach is appealing precisely because profitability and share price are quantifiable, and easily measured. However, concepts from stakeholder theory defy quantification in a conventional sense. It’s not always clear which are the right stakeholders to pay attention to, and even if you can identify the appropriate stakeholder set, how do you weight their interests accordingly? In addition, how do you quantify, for example, when firms are effectively meeting the needs of their local communities, and what those needs are to begin with?

Admittedly, the stakeholder view of the firm is still in its infancy, but given its broader social implications, and in the wake of the financial crisis, I think it is well worth the effort to try to advance the field.

In recent years I have worked with Michael Barnett of Oxford on ways to better quantify stakeholder performance, and on how to bridge the stakeholder-shareholder divide. Other scholars in strategy, management, and finance are likewise devoting increasing attention to this topic. I am therefore hopeful that we, as a field of organizational scholars, will come to some new understanding in this respect.

Of course, the Economist article that I quoted does not break any particularly new ground in this respect; nevertheless, I am glad that folks in the mainstream media are finally starting to pick up on the shareholder-stakeholder debate. I am convinced that it remains an important one, and the truth is: It is a debate well worth having.