Why did (perhaps "do") banks hassle so many homeowners who wanted to refinance?

Gretchen Morgenson's NYT story (here) points out the link between incentives not to refinance (more interest charges and, of course, maintaining the higher interest rates) and the small number of refinancings that actually happened.  My favorite quote from her article?

It is never wise to exclude incompetence as a reason for the trouble that borrowers may be having with loan modifications. But Mr. Inwald [the director of foreclosure prevention at Legal Services NYC] said there could be a financial motivation as well. Delaying a borrower’s loan modification request can be profitable for a bank; extra time for the bank means more interest and fees can be charged to the borrower, increasing the amount owed on the mortgage.

Not rocket science, Toshiba.

My go-to joke about rocket science is that my husband's best friend is, in fact, a rocket scientist at NASA--so every time I need to know if something's rocket science, I can just ask Randy.  ("No, that's not rocket science, Nancy.")

It's not rocket science to figure out that alleged pressure from Toshiba's top brass may have led to serious accounting problems (see here and here).  The formula is [top brass has particular incentives to get big rewards] + [incentives are linked to the company's financial performance] + [the better the performance, the bigger the incentives] = [increased tendency to lean on lower-level managers to fudge results].

Do the lower-level managers have options?  Sure, but none of those options will end with happy results.  Balk at upper-level pressure?  Get fired.  Yield to upper-level pressure?  Run the risk of being part of a conspiracy.  Blow the whistle (I have no idea what the whistleblower laws are in Japan)?  Maybe come out unscathed (technically) but run the risk of becoming a pariah.  Cynthia Cooper's autobiography is still my favorite book about whistleblowing.

So what's the solution?  Boards need to think hard--and strategically--about what incentives they're giving to their C-level officers.  Bad incentives = bad consequences, every single time.

Lucy Kellaway is right (as usual)--this time about the selection and interview process for corporate boards.

See here.

One way to get better employees? Read this New York Times interview.

Vivek Gupta's interview includes some really great ideas (here).

Perverse incentives strike again.

Cross-posted at my main blog here.

Thoughts on The Secret Sauce of Corporate Leadership in The Wall Street Journal

Yesterday, I read this great piece by Lawrence Cunningham about the need for a "skeptical #2" in the C-suite.  He's absolutely right, of course:  the best leaders of anything* (big businesses, small businesses, higher education, primary and secondary education, government, teams of people, etc.) recognize that they need people who can force them to think things through.  The "skeptical #2" is the opposite of the "yes man."  He or she is the person who says, "yes, but."

Here's my favorite part of the piece:

Many legendary CEOs were the more visible halves of hidden duos: Mike Eisner with Frank Wells at Disney ; Roberto Goizueta with Don Keough at Coca-Cola ; and Tom Murphy with Dan Burke at Capital Cities/ABC. Though the arrangements varied among personalities and settings, there are common threads. A prominent leader drew enormous value from a second in command who quietly contributed complementary talents, provided a sounding board—and exercised veto power. Results went far beyond good governance and performance to extraordinary achievement.

It's that "complementary talents" point that we should take away from this piece, if we remember just one thing about it.  No one's good at everything, and the value of an honest, direct second-in-command is that that person can bolster those skills that aren't as strong in the leader.  Great second-in-commands are hard to find, because they have to have enough ego to be able to speak frankly to the leader and yet be willing to let the leader take the spotlight.  And they have to have enough clout with the leader to be taken seriously.

What if there's no good second-in-command?  A Chief Legal Officer (if there is one, and if the structure allows the CLO to interact with the CEO directly) might be able to help.  If the CEO is smart enough and secure enough in his or her talents, some other direct way of giving the CEO advice might help, but the point is to be able to reach the CEO before a big decision is made, not afterwards.  The most important thing that a leader must know is that very smart people can make some very dumb decisions (for my incessant squawking about this, see, e.g., here, here, here, here, here, and here), and that even the most talented of people needs a trusted ally to help provide the necessary checks and balances.
____________________
* Anything that involves more than one person.  If you're "leading" just yourself, you're either a bit unstable or really, really self-actualized.

We're not very good at learning from our mistakes, are we?

My husband, my friend Bala, and I have edited two books on Enron.  We edited the first one as a way of figuring out what had happened at Enron so that people could avoid making those mistakes again.  We did the second book after realizing that no one seemed to have learned from Enron, and we wanted to figure out why smart people don't learn from their mistakes.  (I'm talking with the publisher soon about a third edition, meant for both law schools and business schools.)

Two different articles this week made me realize that the willingness to learn from mistakes is a rare quality.  The first one, in the Wall Street Journal, involved a CEO who allegedly wanted his subordinates to lie about the company's financials (shades of, among other things, WorldCom).  The second one (here) has to do with Fannie and Freddie being willing to finance mortgages that have very low downpayments.  A three percent downpayment leaves the buyer with very little skin in the game.

So why don't we learn from others' experiences?  There's a whole slew of possible explanations, but the one that appeals most to me is the idea that humans will find a number of ways to fool themselves--maybe not consciously, but subconsciously.  After all, "we're" not manipulating financials; we're "adjusting" them to comport with the predictions that "must" be correct.  "We're" not encouraging people to lower their emotional and financial connections to their homes; we're "enabling people who wouldn't otherwise be able to afford a home to get one."  It's a frustrating business, this refusal to extrapolate from past financial disasters.  But it's a stubborn problem.

Hat tip to Jack Ayer for pointing out this interview about ethics and finance.

Here.  My favorite paragraph in the interview?

The ethical subversions which have cost banks and their shareholders so much, the collusion and self-dealing, were genuinely frowned on in my parts of the financial world. However, the wide gap between our practices and our clients’ true interests was so inherent in our business proposition that I can easily imagine how such behaviour seemed perfectly appropriate to practitioners elsewhere in the firms.

The answer to the question of whether we learn from our past missteps: "No."

Over at Credit Slips, there's an Adam Levitin post on the new QM/QRM mortgage rules (here).  Couldn't have said it better myself, and his post is worth reading.

If you subscribe to the Financial Times, read this story about whisleblowers.

See here.  The discussion of the retaliation against the whisleblowers reminded me a lot of Cynthia Cooper's wonderful autobiography.

Two reasons to watch the Dewey & LeBoeuf indictments.

Here's one.  The other one is the use of RICO to include lawyers in conspiracies (here).  It will be interesting to see if the two intersect.

Really good advice from Fay Vincent that applies to all leaders.

In the WSJ (here).

CEOs and off-the-job behavior.

Today's New York Times includes a report by Floyd Norris on a paper that links a CEO's off-the-job rule-flouting behavior with an increase in the likelihood that the CEO's company is going to have to restate earnings or that it might engage in fraud.

I'm looking forward to reading the paper.  My gut tells me that people who routinely break some rules make it easier for them to break others (a la classic cognitive dissonance theory).  It's not a huge leap from that conclusion to the conclusion that people who report to rule-flouting CEOs will likewise be tempted to bend the rules.

It's not what you say; it's how you say it--and to whom.

I loved James B. Stewart's story in today's New York Times (Boss's Remark, Employee's Deed and Moral Quandary).  When one is a boss, one needs to be painfully aware of how even the most tossed-aside comment will sound to an employee.  My favorite part of the story:

No one asserts that Mr. Corzine told Ms. O’Brien to take customer money. Mr. Corzine’s lawyer, Andrew J. Levander, said Mr. Corzine was told the night before that the firm had $82 million in cash and another $602 million in unencumbered securities, and “it never dawned on him” that Ms. O’Brien or anyone else might “violate the golden rule” about safeguarding customer assets.

But how would Ms. O’Brien have interpreted Mr. Corzine’s comment? When I discussed this with John Hasnas, director of the Georgetown Institute for the Study of Markets and Ethics, he drew an analogy to the murder of Thomas Becket, archbishop of Canterbury, after Henry II is said to have uttered, “Will no one rid me of this troublesome priest?”

“He didn’t actually tell anyone to murder the archbishop,” Professor Hasnas noted. “But people knew what would make him happy.” Indeed, history records that four of Henry’s courtiers promptly set off and dispatched the archbishop in the nave of Canterbury Cathedral. 

Yep.   And do I believe that Corzine's request added a silent "legally, of course" kicker?  Not for a minute. 

Skilling's sentence is reduced.

See here.  Is fourteen years enough for the havoc caused by those who led Enron (after Rich Kinder left)?  It's hard to say.  I've never been in a federal prison, even as a visitor.  I can't imagine what life "inside" is like.  I know it's not easy, even in a minimum security prison.  But I also know that there are many, many people who can't retire until they die, thanks to those who manipulated financial information at Enron, WorldCom, and the like.  The people whose pension funds were wiped out have life sentences, so to speak.

Let's assume, for the sake of argument, that the allegations about B of A are true.

Here's a story about the allegations.  If those allegations are true, and I have no idea if they are, then what we have here is a classic case of creating incentives that trigger exactly the behavior that the bank got from its employees.  An example from the news story:

“We were regularly drilled that it was our job to maximize fees for the bank by fostering and extending delay of the HAMP modification process by any means we could,” Gordon said. Managers instructed staff to “delay modifications by telling homeowners who called in that their documents were ‘under review,’ when in fact, there had been no review,” she said. 

Any employee is likely to work to do more of what the employer rewards and less of what the employer ignores or punishes.  Want your employees to serve customers better?  Then the incentives can't include "how many customers can you serve in an hour?," or you'll get cursory responses to tens of customers an hour.  Want your employees to process documents quickly?  Make sure that "accurately" is also in the incentive equation.

Everyone responds to incentives.  Companies need to pay attention to what their incentives really ask their employees to do.

Dear nominating committees of public boards (those who want some expertise in decisionmaking):

Pick me.

Insanity is doing the same thing over and over again and expecting different results.

If some traditional directors aren't doing their jobs (see today's NYT column by Gretchen Morgenson, here), then why is it that people who are likely to do a better job don't get chosen as directors of public companies?  It can't be that potentially good directors are that hard to find.  We aren't.  It must be that boards are afraid to try something new, even when the "old" doesn't work well for them. 

I'm looking for a board that is willing to take a chance on some new blood.  Takers?

What do these two things have in common?

The stor(ies) on Titanic II (e.g., here) and this story on how the banks are back to bundling up risky loans again. 

My favorite quote from the NYT story:

Banks have won over investors by taking steps to make this generation of structured products safer than the last one. But with demand for these products on the rise, credit ratings agencies and regulators are warning that the additional protections are already dwindling, allowing some of the old excesses to creep back into the market. 

And my favorite quote from the Daily Mail story:

Mr Kanerva, of Finnish boat designers Deltamarin, added: 'I can assure you that from a safety point of view it will be absolutely the most safe cruise ship in the world.'
'We are taking into account all of the possible incidents and accidents and we try to simulate all of those occasions.'

And people wonder why we keep making the same mistakes over and over....

Dear HP board: I'm available (still).

In today's New York Times, James B. Stewart walks us through the mechanics (here) of why the HP directors who have made some abysmal decisions were re-elected. 

If boards want to bring on people with different experiences (and that's a big assumption), then they're going to need to figure out a way to find those people.  They're not going to find them on the boards of other public companies.  They need to ask their search firms to be more creative in locating possible directors.

There are all sorts of people that those search firms could find.  Academics who write about governance or about the industries of those public companies are a good start.  But I'm sure that the search firms could cast their nets more broadly in all sorts of ways.

I've been interviewed for one public company's board, asked to interview for another one's board, and invited to interview for a private company's board.  In two out of the three cases, the search firm indicated that it was interviewing me for a "diversity" seat.  (In the third, I think that the company was hoping that I'd join the board and stop writing about it.  Sorry, Enron.) 

I'm not valuable to a board because I'm female.  I'm valuable to a board because of my study of why some very smart people have found themselves doing dumb things.  I'm valuable because of my thoughts about executive compensation.  I happen to be female, and I'm sure that my socialization as a middle-class, well-educated female might bring some new perspectives, but that's not why I'd be useful to a board.

Non-profits are comfortable putting me on their boards.  So, to those search committees looking for new blood, here I am.