Money Talk

Episode 16

The Stress Free Path to Megabucks-The Corporate Executive

The eternal optimist. “What do you do?” Some custodians clean floors, some make buckets of money. It’s not hard for Ed to be surrounded by bright people. Jack Welch was a celebrity. It might rain frogs. The old guys have long tongues and all of the green. $25 million gets you “premium content”.

Welcome to our listener-supported podcast, Money Talk, uncompromised absolute financial truths behind financial perceptions with host, Ed Sutkowski and Chuck LeFebvre. Let’s listen in.

Chuck LeFebvre: I am Chuck.

Ed Sutkowski : And I’m Ed.

Chuck: Today, we’re still talking about the wealth accumulation stage and particularly the path to Mr. Megabucks. This has to do with the corporate chief executive officer. Ed, I understand you may have a few opinions that you’d like to share on this topic.

Ed: Well, let’s say observations. They’re only observations. They’re little opinions.

Chuck: I see.

Ed: Specifically, I like to visit with you and our listeners about the differences between the founder and chief executive officer of a business organization. The creator of the organization and the custodian. The chief executive officer, who is the custodian of the assets created by the creator, and compare and contrast compensation.

Chuck: Perfect.

Ed: First, the personalities of the entrepreneur. In my travels, I’ve noticed that the entrepreneur is the eternal optimist.

Chuck: I agree.

Ed: There is always another way of doing this and no fear of failure. Failure is something that occurs to other people. It doesn’t occur to the entrepreneur. The passion is just incredible. 12 hours a day, seven days a week. The focus is like a laser. It blocks everything else out. I’m talking about the successful ones.

Chuck: What do you think drives them?

Ed: I have asked that question time and time again. I guess it’s because I have this need to create something, to create value, to do with what I have that could benefit others. I’m not sure. Maybe just to make money in. Making money with them is merely a game.

Chuck: That’s why I asked the question. It’s in my observation. Just coincidentally, I was having a conversation with a client who founded a successful business. This conversation was just yesterday and this person is now since retired, turned this over to the next generation. It was very clear from that conversation that the creation of personal wealth for the founder was just not really even on the radar screen. That was never part of the motivation. It was, “I want to create something that is providing the service that will outlast me.”

Ed: They have the issue of the, “You want to last beyond your life.” We know it’s finite in the physical sense of the word. Some religion suggests that it’s infinite. The bottom line is you create scholarships, buildings perhaps, but they can come down. Scholarships go away. You can create descendants. You can make turbo gifts. Something that allows you to, in your mind, think that you’re going to live forever.

Chuck: Yes. You’re doing some good. I guess this depends on the business involved. For some people, they’re very passionate about the service they’re providing to wherever their customers are, or goods that they’re providing to their customers. In some cases, it’s a real sense of service and value that’s being provided to the employees of the organization, and the fact that I’ve created a bunch of jobs here for people who otherwise may not be able to fully realize their skills.

Ed: Chuck, what’s the second question someone asks you when you first meet them?

Chuck: “What do you do?”

Ed: That’s right. What you do determines who you are, that you have a job, that you are doing something rather than nothing. That’s part of the value creation. You have the quantitative value. The dollars which you suggest mean nothing in the long run, but the quality of creating an opportunity for someone to say, “I got a job.” I respect me and I respect the person. I’m respected by the person that’s asked me the question. I want to have it drilled, folks, on that topic. I sense that when I do a tour of facility, Pete has this job and Pete really feels good about himself. There is that aspect of it, but the other part about it that’s so pervasive is the entrepreneur is aware of the fact that the only constant is change.

Chuck: Very true, yes.

Ed: Every day is different.

Chuck: I’ve certainly noticed that trend with the folks who I’ve personally interacted with, who were founders and managers of businesses that they really have to avoid getting entrenched in whatever their conception of the business was 20 years ago or 10 years ago or two years ago-

Ed: – or even yesterday.

Chuck: – or even yesterday in some cases. Right.

Ed: While they have a plan coming in at the same time every day, I know there’s some that don’t even go to work in the same way. Trying to go to work in different roads, it’s just changes in bread. If you can’t handle failure, change, you shouldn’t be an entrepreneur.

Chuck: Now, this, I think, stands in contrast to the custodian, right?

Ed: Yes, big time.

Chuck: By custodian, we’re not talking about someone who’s handling a broomstick or a mop. We’re talking about a caretaker who is taking over what I will ┬áreferred to as someone else’s company.

Ed: The someone else’s company, I was thinking about the other day. I start with Cornelius “The Commodore” Vanderbilt. He was the creator of the modern theory of capitalism, steamships, railroads, Illinois Central Railroad. Big contributions, the Vanderbilt University. The football team is called the Commodores. His day of death in January 1877, he gave to his son William $100,000,000.

Chuck: In 1877?

Ed: ‘77, yes. Wonder what that’s worth now and what the tax would be?

Chuck: Oh my goodness.

Ed: Let’s not get into that.

Chuck: Right.

Ed: Let’s hold that for another day. I think of Phil Knight, the Nike guy and the book, the Shoe Dog: A Memoir by the Creator of Nike, and then most importantly, Charles Schwab, who just came out with a book, invested. He’s 82, 3.8 billion. Get this, he’s dyslexic. From what I understand, when you read the book, you recognize that being dyslexic was a positive. He can only easily think conceptually.

Chuck: That makes sense.

Ed: He surround himself with people that can do everything else. The quants of the world. The theory is surround yourself with people that are brighter. I get back to discuss with my father. “Eddie,” he said, “One thing you got to understand. You got to surround yourself with people that are brighter. I love you, but for you, that’s not going to be difficult.”

Ed: It happens to be a true story.

Chuck: That’s funny.

Ed: Let’s talk about the custodian.

Chuck: Okay. Now, that’s the person who comes into an existing corporation, right? I’m thinking Jack Welch, my favorite example.

Ed: Yes, the king of GE.

Chuck: Right. I say that is my favorite example. We’re talking about a guy who really used that position as CEO to launch himself into a type of celebrity. I’m not sure if there are many predicates to that. Before Jack Welch, can you think was there such a thing as the celebrity CEO or was he the first?

Ed: He was the top of the bottle. In other words, during his tenure, which was from ’60 to ’81. By the way, he was a chemistry or chemical engineer major at the University of Illinois. He was the eighth chairman of GE. During his tenure, the market cap was increased by $400 billion.

Ed: Chuck, what happened with GE if you remember?

Chuck: This is the interesting thing about Jack Welch. The reason why he’s a good example to talk about because he’s famous for doing all these good things too for GE. Everybody celebrated him while he was there. Now that he’s not there– By the way, the way he handled his own retirement was, I think, an exemplar as well of probably the right way to exit. Famously, his mantra was, “Look after I retire. I’m not stepping put in the building again. When I’m gone, I’m gone.” You don’t see enough of that. Yet, looking at GE post-Jack Welch, what you notice is that now they’re saddled with all these problems that really you can lay at his feet. It’s almost like there’s a tragedy there that perhaps you could draw an ancient literature as an analogy here, but it seems like there’s a story here about the way American business works, American business cycles work, and the way the celebrity and the recognition of business leadership works. At the time when decisions are being made, the full impact of those decisions is a little bit opaque to the board, to the shareholders and to the larger world. Jack Welch and GE provide an excellent example of exactly why that is, why that so. Now, GE is spinning off all of these side businesses that I think most people would look at and they’d say, “Why was GE ever in this business in the first place?” The answer is, well, why were they in there in the first place because Jack Welch put them into all of these extra businesses and they’ve turned out to be a very bad thing for the company to be saddled with.

Ed: We’ll get into the randomness of the corporate executive being in the right place at the right time and not having to live with their decisions. Unlike the entrepreneur, going back to the focuses on the large corporations, typically, the Fortune 500, which I referred by revenue or the S&P 500, which is market cap, but this can also apply to smaller companies and the management of a family business organization. Its highest income group consists of people and through the three-fifths of the top 1%. It comprised largely of business executives, financial professionals. We’ve talked about investment advisors, hedge funds, and the like, and not inherited wealth but including movie stars. Now, the executive, as I said, is a person who has a fiduciary duty to the shareholders of the corporation. Chuck, this fiduciary duty thing, I sometimes struggle with. What does that really mean?

Chuck: Well, I’m a little troubled by its use in this context even though, legally speaking, it’s correct. You won’t find any dissenters from the view that the chief executive owes a fiduciary duty to the shareholders as do the members of the board of directors. That word is a little misleading. In its most basic form, a fiduciary duty would mean the duty to place the needs of, in this example, the shareholders above the personal needs of the executive and really above all other considerations. This is a really watered-down version of fiduciary duty when you’re talking about executive management because it’s so hard to enforce. There’s a great deal of latitude that is given to executives to essentially make bad decisions.

Ed: The business judgment role.

Chuck: The business judgement role, they can make bad decisions as long as those decisions were made, given consideration to the appropriate factors. Frankly, they’re allowed to do a fair amount of self-dealing too which, in my mind, when you talk about a fiduciary, one of the most basic rules would be, you’re going to avoid self-dealing. Well, there’s no avoiding that in the context of executive management. It happens all the time and everybody just accepts it. Yes, the chief executive has a fiduciary duty, but it’s not like a trustee or an executor or even an attorney or an accountant in terms of the way that fiduciary duty works. It’s, I think, a pretty severely watered-down version of fiduciary duty, and yet it is used, I think, sometimes as an excuse to focus almost singularly on profit-making above other considerations when issues are raised, for instance, regarding, I guess what you would broadly describe as maybe issues about social justice or fairness or impact on the community.

Ed: Those sorts of literature coming out, we’ve got to consider third parties getting employees on the board, thinking about the community, et cetera.

Chuck: Right. The pushback for that is, “Hey, wait a minute. We can’t do that because the executive team has a fiduciary duty to the shareholders,” right? I think that this is an area that is open to argument. Society is going to decide and, I guess, is continuously deciding what exactly this means.

Ed: I get a kick-out of how you protect yourself as a corporate executive, the due diligence scenario. You hire all the consultants, business consultants, the lawyers. The lawyers make all kinds of disclosures and even address the issue. What happens if it rains frogs? We’ve got to assume that it’s going to rain frogs. Those old guys with all green with the long tongues. How do we avoid a catastrophic issue so the executive goes in and encourages the lawyers to do the due diligence as to protect? We looked at everything.

Chuck: Well, there’s entire industries that surround, essentially, the protection of the executives against scrutiny from the board of directors, right? Maybe I’m being a little harsh here, but I don’t think so. It’s a big part of what corporate attorneys do. It’s a big part of what corporate accountants do. It’s a big part of what all kinds of different employee relations consultants and compensation consultants and risk management consultants and every other kind of consultant, marketing consultants that you can name. All of these are ways of an executive essentially outsourcing, not necessarily decision-making. Let’s say the papering over of decisions in order to make a sales pitch to the board of directors about what’s going on with the business.

Ed: The consultant has no skin in the game?

Chuck: Precisely. Well, they don’t have the kind of skin in the game that you’re looking for. They do have skin in one game, which is that they want to get hired by the executive again and other executives.

Ed: If they’re wrong, they just go about their business?

Chuck: Well, correct.

Ed: The executive, the recipient of this consultant review can say, “Well, I hired Charlie, the consultant, and we covered everything. It’s not my fault. I’m protected.”

Chuck: The conversations go on full circle. This comes back to the business judgment rule, right? When General Electric, as a random example, starts falling apart financially because it’s, let’s say, invested widely into developing an entire side business that consists of financial services and the entire financial services sector is collapsing because it’s 2009, nobody who’s involved in executive management needs to be held accountable for that because the whole thing has been on the advice of other professionals.

Ed: I think about comparing the free market compensation derivative with the absence of a free market. For example, in the free market sector, you are going to be rewarded on the basis of your value determined by the market. Think of Prince, the performer; think of Aaron Rodgers, quarterback for the Packers; think of George Lucas, think of KKR; Stephen Strasburg, a Major League Baseball pitcher, I understand, can get 1,000 or $10,000 a pitch. There’s Gerrit Cole, an Astros pitcher who was traded to the Yankees. He’s making $230,000 per game. We get upset about that, I suppose, because he’s making more than you can envy them because you’ll never do that. The point is it’s set by the market, period, versus the corporate executive. For example, in 2014, this guy, Moonves, CEO of CBS, received a cash bonus of, get this, $25 million to recognize his leadership and direction in the creation of premium content. $25 million.

Chuck: What does premium content mean, Ed? Do you know?

Ed: No.

Ed: We had a wordsmith that design that. My point is we’ll get to how that occurred because how this occurs is kind of like if you really knew how sausage was made, you would never buy or eat sausage. The point is Jack Welch was not the subject of a free market. The book Jim Collins, Built to Last, you had some interesting observations about that.

Chuck: Well, yes. It’s interesting because that book, the title says what the thesis of the whole book was. What Jim Collins and really the researchers who were working with him were purporting to have identified in the book, which was that they had 18 different companies that they examined. They said, “Look, this is what’s making these businesses, not just businesses that have been successful so far, but their management style and the way they operate are such that these are the companies that are going to last well into the future.” They kind of set the standard for business operations going forward. Now, that book was published in 1994. In 1994, just like today, it was a fact. Just as we’ve talked about in prior episodes of our podcast that you really can’t pick reliably the performance of stocks. When you think about it, that’s what the authors of this book were purporting to do. They were saying, “Well, we found 18 companies that, by golly, if you look at them over the long haul, these are going to be the winners.” Well, guess what? The long haul is largely in the rear-view mirror now from 1994. It’s embarrassing when you look at this list of companies. For instance, they singled out Merck as one of the companies and actually spent some time comparing Merck to Pfizer and talking about how Merck really, “They had all the magic. They were the ones that were going to take off. This was quite a company.” Now, you can pull up– I just would say go to Google Finance or Yahoo Finance and pull up a chart starting in 1994 of Merck versus Pfizer. It’s like almost from the day the book was published, Pfizer started outperforming Merck and has never stopped doing that. Of course, GE is one of the books or one of the companies that’s singled out in this book. IBM is still around obviously, but I would say the years since 1994 have not really been the best years for IBM. That’s been a company whose relevance has continued to become lower as time goes on in spite of the fact that it’s still a company that does some important research and development in the technology space. Hewlett-Packard is usually in the news for the wrong reasons these days. That was one of the ones they picked out. Sony has been a company that has struggled. There’s companies on that list that have done well too, but this has turned out not to be a very good prediction. Now, why does this relate to compensation? Because the kind of information that this book was singling out and saying, “These are companies that are well-managed,” are also the kinds of things that executives are telling their boards when they’re saying, “Look, I’m managing this company well. Therefore, I deserve, for instance, a $25 million bonus.”

Ed: We talk about the custodian now.

Chuck: Right.

Ed: There are at least four CEO delusions. Let’s go through those.

Chuck: Please.

Ed: The importance delusion that is, “I am responsible for the performance of the company. If it does well, I should get most of the credit and the reward.” I think you’ve demonstrated in part that it really is being at the right place in the right time.

Chuck: Well, we started off this conversation talking about entrepreneurs. Do they talk that way, Ed?

Ed: No.

Chuck: When I talk to the entrepreneurs and, “What’s the magic? How did your company become so successful?” it seems to me that an awful lot of them say, “Boy, I just got lucky.”

Ed: That’s right and that gets to the issue, the right place at the right time. If it’s not working out for the entrepreneur, that person, male or female, changes the direction.

Chuck: Right.

Ed: Takes the loss, changes the direction. Maybe he doesn’t get paid for several years, not months. Let some money stay in, let the money stay in the company and do well. That’s the importance delusion. The view is, now, if I’m representing an individual seeking to become a CEO, I’d say, “This guy, Charlie, here is like the quarterback on our football team. In fact, Charlie is no better than the waterboy.”

Ed: Now, the second delusion is the market delusion. There is a competitive market for the CEO, supply and demand. High prices reflect the low supply. Well, contrast that with Aaron Rodgers. He is really in the marketplace. What is the market for CEOs? I will bet you that any one of the CEOs of the major companies we’ve described and some of the smaller ones can be replaced for 20% what the current individual is making.

Chuck: I would agree completely. Now, of course, you would have a very hard time finding a board of directors that would be willing to consider that.

Ed: Chuck, I will tell you. That board does not exist.

Chuck: The thing about it, this is what’s kind of weird about that is that the board of directors would be hesitant to do that. They would be telling themselves that replacing their current CEO was somebody who would accept 20% of the current pay. They would see that as a risky move. Don’t you agree?

Ed: Well, yes, but the board members typically have no skin in the game. You do not want a major shareholder on your board. You want a generalist.

Chuck: Now, when you say– you’re talking about the executive does not want a major shareholder on the board?

Ed: That’s right. If I’m representing the exempt for just a moment here and I’m saying, “Mr. Executive, populate the board with a bunch of generalists. Get the diversity going. Get a lot of Poli-Sci majors. Don’t get any major shareholder on that board,” then the shareholders are going to be talking about, “What are you doing this for? How is this working?” and then that in front of me, the shareholder and make sure the meetings are long, all kinds of dinners and drinks. It’s a closed club and make sure the board members reciprocate. If you’re on the board of X company, your buddy is going to get you on the board of Y, but it’s vice versa. Make sure you pay him a lot of money. 10,000 a month is nothing and they should be rewarded $4,000 or $5,000 per working hour. In other words, make sure that they’re not only not going to cause problems, but they’re going to agree with whatever you tell them that’s going to happen.

Chuck: You sound like you’re speaking from a little bit of experience.

Ed: I would say that perhaps, there’s little experience. When you’re around for a very long time, you have a series of experiences firsthand and derivative. I will tell you, looking at the board of the major companies, you look at the composition. Many are names that are prominent. You can have the head, George Shultz, a former head of whatever. Someone on a big board. You’ve got to populate the board with names. They don’t necessarily have to have money in the game, but you’ve got to make sure that they are the greatest thing since sliced bread. You treat them with respect when, in fact, they’re not a working board.

Chuck: Skill in connection with the business that is being represented by that board, is that a plus or a minus?

Ed: Skill is a problem because they are challenging– The issue if you were to challenge the executive, better to do it one-on-one. You never want to challenge the executive during the course of an open meeting. If you can play that cat-and-mouse game, you’re going to be just fine. You also want to engage in the perception and correct the dilution that bonuses aren’t the best way to motivate CEOs, and that you can measure performance effectively. I am sorry. That’s not the way the world works. You also think that stock options are the very best way to compensate an executive. Bearing in mind that a stock option is a lose proposition for the corporation. The executive wins, the stock goes up. It doesn’t lose and it goes down. What is the proper way to compensate an executive? Cash and you buy stock equal to two to three times your annual wage.

Chuck: Or restricted stock, right?

Ed: You make an election. Let’s go through restricted stock for a second.

Chuck: I see that as a way of making sure– First of all, you want it to be restricted because you don’t want the members of the executive team to be able to exit quickly. You want them to be long-term holders of the stock. That’s the type of value that you’re trying to build here. Second, I think it’s important for them to share in the losses. Farm with the options is that there’s no loss sharing. There’s no real skin in the game in that respect. A restricted stock, I think, can be a part of a compensation package that makes some sense because it does provide some “skin in the game” here. That said, I think even there, there’s a couple of misconceptions about it. One is just as we’ve been talking about. People are not actually very good predictors of how their current decisions are going to impact a company’s performance long-term. Giving them stock may provide the right kind of motivation, but that doesn’t necessarily mean that they’re armed with all the knowledge they need in order for that motivation to align with the long-term performance of that stock. Second of all, wherever I’ve seen these things put into place, it’s been such a complicated type of formula and system that nobody understands how it works.

Ed: That’s where you get the consultants involved. Charlie Munger once said– The guy that’s the colleague of Warren Buffett. He once said he’d rather put a viper down the front of his shirt than hire a consultant. The bottom line is very simple. Let’s assume I am the lawyer or I’m on the board for a new executive. I’m saying, “Here’s what we’re going to do. We’re going to give 100,000 shares. That has a value of $10 a share, investing over a period of 10 years,” which means that each year, 10% of the restriction comes off. You can sell 10% of the shares, which means that you then make an election. It’s under a Code Section 83(b) to take everything in as income that year as if the restrictions didn’t exist. You’re going to borrow the money to pay your tax. You’ve got economic skin in the game, but you have voting rights. You get dividends off that stock. Maybe there’s some dilution and so the number of share is outstanding. If it goes south over that 10-year period, I am sorry. That’s tough because you’re in my boat. You don’t have an option. You can walk away with nothing. In terms of the closed club of the board and it is a close board. In talking about compensation arrangements, contrast this with– I used Aaron Rodgers. It could be any one of the quarterbacks. They don’t have severance benefits or any of the following perks. Think about the perks that are typically expressed in the proxy statement. The salary, short-term bonus, long-term incentives, stock options, non-qualified deferred comp, restricted stock, excess compensation, bonus or rewards, everything. I think they’re also talking probably about financial advisors gross up on your tax return, whatever you need to make sure that your existence is free of stress and you can focus on what you’re doing.

Chuck: I don’t think you mentioned golden parachutes in this litany you just went through, but you see that an awful lot too. If that’s an example of really the wrong kind of an incentive, it seems like that’s got to be at the top of the list.

Ed: I didn’t want to discuss that because that hurts so much.

Ed: Specifically, if there’s a change in control, I get gazillion dollars. If it rains frogs, I get a gazillion dollars. I have to sign a non-compete agreement, which is the way of expressing the validity of this excess compensation arrangement. I can’t steal trade secrets. Wait a minute. I’m not going to do that anyway. I am 65. I’m not going to go start a new business or 55 with $25 billion severance package. I don’t have to do anything, except pay my taxes.

Chuck: Imagine a world where you’ve got no golden parachute-type system in place. A buyer comes in and they want to buy a system. You have a member of the management team who really has demonstrated skills and has industry knowledge that would be dangerous to allow to be used by a competitor. It seems to me in those situations, part of the process of buying the company means the purchaser is locking up that management person or they’re funding some kind of a severance agreement. That involves the non-compete and all the other stuff that you’re trying to get in place. These golden parachute-type arrangements, tell me if I’m wrong, Ed. It just seems to me like it’s really hard to come up with an example where pre-planning that is really good for the company.

Ed: It’s not. We haven’t talked about these other groups. I’m speaking of a personal financial plan, country club dues, use of the corporate jet, a life insurance, home security system, psychiatric care, clerical support. In other words, all these other benefits that are such a distraction for the executive that you’ve got to provide for those. If there’s a tax, you got to gross it up. I think another change of control package that we’ve discussed, Charles Prince, 2007, at Citigroup. His was $40 million. There was a $2.24 billion loss. Stanley O’Neal, $161.5 million severance package. John Thain, one-year CEO of Merrill Lynch, 83.8 million plus $230,000 for his driver and 1.22 million to redecorate his office. Washington Mutual, John Killinger, $25.1 million paycheck, $15.3 million severance package, $445,000 lump sum payment for vacation benefits, and $300,000 as a “special payment.”

Chuck: Now, a lot of these people you’ve just named, first of all, those severances occurred in the middle of the financial crisis. 2007, 2008, 2009. Number two, these are kind of the list of people. When you hear folks complaining all the time about how there’s a certain group of people who basically wrecked the world economy and were never held accountable, there’s kind of an expectation at least in some quarters that maybe some of the folks who did that should have ended up in jail. Well, I’m not sure if they should have ended up in jail. That’s a different discussion. Certainly, this is what actually happened with some of those people. They were not only not held accountable, but they got a huge paycheck out of the deal.

Ed: It’s all forgotten by the way.

Chuck: Oh, it’s all forgotten.

Ed: Typically, on the boards now. This closed-circuit, this scratching of one’s back or this opportunity. By the way, this is confined to a very, very small population of those running business organizations. I don’t mean to cast out on everyone’s disingenuous nature. I will tell you. It’s the outliers that caused these bad vibes. Whether your lawyers, your doctors, accountants, there’s always some person or persons as outliers that create this bad taste for everyone.

Chuck: Here’s the reason why I think this discussion is important for maybe the larger theme of our podcast, which is that this is the group of people that are looked up to as exemplars for managers who are managing smaller businesses, public businesses, private businesses or whatever. They look at these types of compensation packages and they believe that, “Hey, given the difference in scale of my company to company XYZ, Citigroup or Merrill Lynch or whatever you’re talking about, then I just take what I see happening there and we scale it differently. That’s what I should be getting as well.” It perpetuates this myth that we’ve talked about before that there’s something rewarding or important about chasing extremely high W2 compensation. I think, for me, at least, that is the bottom line here, which is that when you’re talking about an entrepreneur or someone who’s running a company where the revenues of that company are, say, it measured in the millions of dollars versus the billions of dollars. That is a person who is interested in their own financial health. They are misled by the permeation to our culture of this type of compensation system into thinking that it is in their best interest to try to squeeze the maximum amount of compensation out of their company when, in fact, I see that as not only good for the company but not good for the individual as well. It is not the secret to getting wealth. Do you agree?

Ed: Not only that, but we’re talking about tax before. All of this excess is W2 comp.

Chuck: That’s exactly the problem, yes.

Ed: The payroll tax, Medicare tax, the short view, whether you’re a licensed professional, which is driving toward getting to maximum W2, that’s all ordinary income versus if we were left in the company by way of share buybacks or dividends to the share or you own shares, you’re going to be rewarded for that. It’s upside down. It’s driven by envy and ego. The optimum compensation solution in Ed’s world, which is probably incorrect, consists only of Polish corporate executive.

Ed: Would be, number one, W2 that matches competitive W2s, restricted stock for the 83(b) election. You’ve got to own stock equal to a multiple outright, multiple of your base compensation. You get a bonus based upon the excess of the rate of return on the invested capital over what tax-free or riskless return might be. Your other medical and health plans, no severance benefit, no non-compete, no change of control, except you can’t use trade secrets. Now, it’s very basic. It’s very simple. You work, you get rewarded end of the day.

Chuck: Ed, let me ask you this curve-ball question, which is, if you were the owner of a successful company and you could, in theory, set your salary at anything as a profitable enough company, you could take whatever you want it out of there, is there a maximum number that you would say, “Hey, W2 beyond this is just not worth it”?

Ed: I’d set my salary at $1 or $100 or $10,000, have an S corporation, a pass-through organization, and everything else come out as a profit distribution, not attract any of the payroll taxes and concentrate on cash flow and get as much out of the business in investments separately, and make sure my employees have skin in the games. They somehow participate. The more money that’s paid to the employees, 25% of pay, for example, in a profit-sharing arrangement, the better off everyone’s going to be.

Chuck: That is quite literally putting your money where your mouth is.

Ed: That’s the way the world should work, but I guess what?

Chuck: It doesn’t.

Ed: It doesn’t work. Thank you. Talk to you again.

Thank you for listening to Money Talk. Please join us again and do check out our previous Money Talk topics.

More Episodes

Episode 58

With today's program, let's address who's talking. What is the source of the information that you're relying upon? Specifically, should you be listening to someone who's talking? My answer to that is no.

Episode 57

Everyone can be an investment advisor. Which is better? Making less money or no money. There is a new math being used. Why pay attention? It's not my money. I would rather bet your money. Insulated from losses. Build your obituary today.

Episode 56

Whatever attorneys charge is too much. The problem is communication. Move across the river and save $3,000,000. You will be shot for a $500,000 bill. The quicker the bill is paid, the happier the client. Send your check via FedEx for better service. Peter Pan works here.