It's Time for Public Pension Reform

The photo above is of CalPERS' list of Top 10 pensioners. Between $200K-$500K a year for life? Good for them, but not for the taxpayer. (Click here for California Pension Reform's searchable database.)

Daniel Borenstein at the Contra Costa Times has been doing a bang-up job of reporting on how out of control our public pensions are in California (see link below). Not only is the system itself outdated and flawed, but the tactics used by some public employees -- with the support of their bosses -- to "spike" their pensions just prior to retirement border on criminal behavior, as far as I'm concerned.

Those of us in the private sector have to rely on our self-funded 401(k) plans for our retirements. Why are we providing full pay (or more) -- for life! -- to retirees who are in their early 50s? The outrageousness of this problem is exacerbated by recent surveys that show that public workers are also better paid and have dramatically better benefits than private sector workers in similar positions. In other words, they should be more capable of providing for their own retirements than the typical private sector employee. To add insult to injury, not only do many public workers have generous pensions, but they also have the equivalent of 401(k) plans (403(b) plans, etc.) with generous employer matching. How much is enough? Especially in light of the outrageous abuses that have been exposed in the Bell, California scandal, one has to wonder why no one is responsible for monitoring the fairness of these compensation schemes. It's time for serious public pension reform.

Click here for a good article by Borenstein.

The Importance of "Systems Thinking"

I came across a good article last night from the consulting firm, Booz & Company. It discusses what is known as systems thinking. The use of the word “systems” is a reference to a corporation as an organic whole, with many interconnected and interdependent functions. The article dovetails nicely into my own MBA research. I’ve been thinking a lot about this topic recently due to the BP oil spill, which one can very clearly identify as a breakdown in systems thinking, once you know what to look for.

What became very clear to me in my own research was that the bedrock of any successful, enduring corporate system consists of its leaders’ vision and values, which are expressed on a daily basis through the ethics and standards by which the company operates, through the delivery of its value proposition (i.e., the unique value it intends to deliver to its customers), and in how it operates internally in order to deliver that value proposition.

The vision of how a company will operate internally is communicated in the form of what I call an operating psychology, which consists of the organizational structures, methods, standards, processes, technologies, etc., that the organization will use to accomplish its work. The operating psychology needs to ensure that the leaders' values will be maintained through their employees' daily decisions and actions, and that such actions will produce the long-term vision the leaders have for the company.

A very basic issue to address, for example, when developing an operating psychology is to determine the level of quality the company wants to deliver as part of its value proposition, as quality has huge implications on the investments a company will make on plant and equipment, how much it will spend on training, the quality of people it will hire, whether it will use outsourcing, how much supervision it will provide to its staff, etc., etc.

Safety is another important issue. If a company's business activities are inherently risky, then the business needs to incorporate that degree of risk into its operating psychology. A company like BP, for example, would need to make sure that safety is prominently woven into the fabric of the company, and that safety would always take top priority over everything else. It must do so, as the consequences of doing otherwise can jeopardize the very existence of the company. To make safety the highest priority, the company would need to rigorously train its employees on good safety practices, and it would need to reward exhibitions of putting safety first, even when doing so results in short-term costs. Importantly, there can be no negative consequences on an employee who exercises appropriate caution -- no sideways glances, no withheld promotions, etc. Simply put, a commitment to safety must be a core value, and it must be continuously hammered into the psyche of the company.

Long story short, clearly communicating the operating psychology to the employees is every bit as important as disseminating the customer value proposition. This is where companies often fall down. After watching a 60 Minutes segment on the events leading to the BP disaster, it was obvious that there were both managerial failings on the rig and through every level in the company preceding those failings. It’s no coincidence that BP had the worst safety record in the industry even before this disaster. Clearly, a linkage between safety and the long-term sustainability of the corporation has not been firmly ingrained in BP's operating psychology. In other words, there are reasons why you get horribly short-sighted, costly and dangerous decisions from a mid-level manager on a rig in the middle of the Gulf. Those bad decisions result from breakdowns throughout the entire organization, all of which can be traced back to a failure in having a clear, enduring, and well communicated vision of how the company will operate and achieve success over the long haul.

The BP manager on the rig was worried about staying on schedule, as a slip in the schedule may have cost the company a few million dollars. Instead, by not keeping the long-term perspective in mind, he (and BP, through its bad management) created a disaster that may well bring down the entire company, and have costs on the people and ecosystems of this planet for decades to come. These same types of failings have brought down many corporations over the years, including many of the financial houses in the past couple of years. Hence, learning about these issues is really important, which is why I wanted to share these perspectives and the Booz article.

The article can be found here:

"Seeing Your Company as a System," from Booz's Strategy+Business online magazine.

Similarities between the Shuttle Challenger and BP Oil Spill Disasters

Most of the major accidents we're all familiar with could have been easily prevented. The more I learn about the BP oil spill, the more I see similarities with the Space Shuttle Challenger disaster: 1) speed and schedule were put before safety; 2) vital information provided by engineers in the field was ignored by management; 3) those same engineers allowed themselves to be bullied into continuing their work, rather than escalating the matter or seizing the power necessary to take control and avert disaster; 4) an overconfidence due to prior records of good safety led to complacency; 5) the failure of a relatively cheap and simple component (in both cases, a type of rubber seal) ultimately triggered the catastrophic failure.

If you've never studied the results of the Challenger investigation, I can recommend it as an excellent case study in poor communication and bad management.

60 Minutes ran a great investigative segment on the causes of the BP oil spill. The video can be seen here.

The results of the Challenger investigation can be seen here.

Citigroup on "Plutonomy"

Plutonomy: where the rich rule with the support of the government. (Obviously, a derivation of the word "plutocracy.") Bill Moyers was just talking about this on his show and referenced a series of reports from Citigroup on the subject. (Ironically, taxpayers now own the majority of Citigroup!) When something becomes so obvious that investment houses start to build investment strategies around it, then you know it's for real, and in this case, we have a problem.

I have no problem with people making the most of their available opportunities and becoming rich, evenly astonishingly so. I only care that we have fair playing fields, and a government that is not in the hip pocket of a few. From one of the Citigroup papers:

"Our thesis is that the rich are the dominant drivers of demand in many economies around the world (the US, UK, Canada and Australia). These economies have seen the rich take an increasing share of income and wealth over the last 20 years, to the extent that the rich now dominate income, wealth and spending in these countries. Asset booms, a rising profit share and favorable treatment by market-friendly governments have allowed the rich to prosper and become a greater share of the economy in the plutonomy countries."

Click here to access Citigroup's report on plutonomy.

Bill Black and Barry Ritholtz on the Goldman Sachs Fraud

Here's a good discussion on the Goldman fraud allegations. Folks, how many examples do we need to see before we realize these guys should be put out of business? When you come across a corrupt culture, there's never just one incidence of fraud. It's like the old "you can't be a little bit pregnant" saying. As Black says, if you're rotten, you're rotten to the core. Given that these types of situations take awhile to unravel, but then they just get uglier and uglier, it's beyond me why GS stock was only down 13% today. This is only the beginning. Take a look at this quote from Fabrice Tourre, the man who orchestrated this deal at Goldman. Of course, incompetence and/or irresponsibility do not necessarily equate to illegality, but I would say that there'd have to be a good chance that other of his "monstrosities" would have been illegal as well (from an Associated Press article):

In an email to the friend, he described himself as "the fabulous Fab standing in the middle of all these complex, highly leveraged, exotic trades he created without necessarily understanding all of the implications of those monstrosities!!!"

Elizabeth Warren on the Collapse of the Middle Class

Elizabeth Warren is a law professor at Harvard and has become a public figure recently due to her leadership role on the TARP Congressional Oversight Panel. She's also an expert on trends concerning the middle class. In this lecture at U.C. Berkeley in 2007, Ms. Warren discussed why the quality of life and financial security of the middle class has diminished year after year for the past 30 years. Not a pleasant subject, but it's an important topic. I hope you find it informative.

Credit Default Swaps Explained

Finally, someone has done a pretty straightforward video on how credit default swaps work. The punchline, if you will, is the part near the end about how someone can buy this type of insurance without actually owning the asset that's being insured. That was the magic ingredient that multiplied all of the problems in the meltdown and sent everyone into a panic. Also, take note that these swaps only cost about 2% per year of the insured value. So, when our government made good on AIG's contracts, they were providing Goldman Sachs and others with nice little 50:1 payoffs in many cases.