Interview: Stanford Graduate School Professor Talks about Accounting
June 14, 2010 (Associated Press) Professor David Larcker weighs in on CEOs, corporate boards, proxies, mark-to-market accounting and more.
TOM KEENE, EDITOR-AT-LARGE, BLOOMBERG NEWS: And now joining us at our world headquarters, usually in Palo Alto, Miller Professor of Accounting, Stanford's Graduate School of Business, David Larcker joins us. Welcome to the program.
DAVID LARCKER, PROFESSOR, STANFORD GRADUATE SCHOOL: Thanks a lot, Tom.
KEENE: We do a lot with Stanford people and you know - I don't think of Stanford and accounting, but you realize the battle out there. And I go back to executive comp in Silicon Valley, many years ago, where there was basically an effort to move ordinary income, let's call it 40 percent, 50 percent marginal to an attractive 20 percent model of capital gain. Is that shell game over?
LARCKER: I think it probably is. I mean, I think we got a lot tighter in terms of the accounting and the whole rush to new kinds of enterprises in companies have kind of matured.
KEENE: They've matured up, but it was a game to convert everything into capital gain and get a lower tax treatment. And part of the Wall Street, Main Street distrust maybe came out of not so much that a given person made a lot more money than I do, but it was the way they did it. Is it a more legitimate game to make a lot more money now than it was 10 years ago?
LARCKER: Well, I think there's a lot less pressure on companies or executives where they started the company and they've done the innovation. And I think it's pretty clear what value's been created there. I think the distrust is more companies that are not doing that well and seeing these enormous levels of CEO pay. But I think the issues of stock options and heavy incentives, all right, have been really good for the Valley. But you know obviously there's been a few problems along the way as well.
KEENE: I was talking, I believe it was the Laureate Michael Spence the other day. We were talking about boards of directors and the changing task; he's on a number of boards. Do members of boards actually get into the accounting of a firm or do they just say, we trust you?
LARCKER: Well, there's obviously a lot of trust. I mean the boards - at least the ones I've been involved with are given a lot of information about the accounting. You do executive sessions with the CFO and you do executive sessions with the external auditor, but obviously they're not there during the test, so there's a lot of reliance on the information that's brought up to them and what you hope is that the board members are sophisticated enough they can spot the red flags if there are any and sort of ask the tough questions. But that said, it requires them to actually have some pretty detail accounting knowledge.
KEENE: I mean, I used to go to the back of an annual report, you'd - I'd read prospectuses, folks, and annual reports backwards to front. And the first thing you do is look at the people. And within a generalization there's two kind of boards. Boards, where you go oh, yes, Bossity (ph), I know that name or - you know guys that used to run companies. I saw Rick Wagner's (ph) picking up a board seat somewhere off of GM. And you know you got boards that have a certain character, and then you got other boards, where maybe they're just friends of the force. Are we getting away from that?
LARCKER: I think it's interesting. If you go back into the '80s, I mean there was a lot of friends of friends. I think a lot of board seats now it's you get appointed boards because you know somebody who knows somebody, that kind of thing. Now, there's nothing wrong with that. It's just that you want to hold these people up to a high standard to actually monitor and pay attention. The thing I find kind of interesting what's happening is related to the difficulty finding quality board members is you start to see the reemergence of the professional director. In the '80s, you'd see people are on six, seven boards and you'd say, God, how could they have the time and energy to do that. But I think now you're starting to see where their primary job is being on a board and I don't think it's necessarily bad because this is what they're doing if they blow it on a board in some form, they're probably going to lose other board seats. So I mean I think you do have incentive -
KEENE: What's an appropriate number of boards to be on of major - you know, you're on a couple heavyweights, a couple of middleweights, and you got three side projects. Is it six boards?
LARCKER: I think that's probably too many, but I mean -
LARCKER: What would you worry about? Here's someone who's an active CEO so he's having some difficulty running his own company and then if you see this person on two or three other boards, I mean it's hard to imagine. But what you typically see in a surveys are that if nothing unusual is happening in a board, you're probably spending at least 20 hours a month and we can all do the arithmetic and figure out where you run out of time.
KEENE: Yes, right.
LARCKER: I think you know how busy the board is is something you want to look at. But, yes, you still see people that are on six, eight boards and I guess I have to really wonder about you know what's going on there, but maybe they have more energy than I do.
KEENE: If you're just joining us, folks, David Larcker with us of Stanford Miller, Professor of Accounting. We're talking some of the drier but more sensitive efforts of corporations. I get in the mail, you get the proxy thing. And I remember my parents dutifully filling them out and it just seems today they've all become computer-driven and they're supposedly easier and it's just amazing how they end up in the recycle bin on the computer or the trash basket in the kitchen.
KEENE: The state of proxy voting now, where are we?
LARCKER: Well, I mean, the proxies have obviously gotten big and complicated and I think the SEC to their credit, has tried to provide more information, more standardized tables and the like. And I think the companies are a lot more forthcoming and transparent about what they're doing. That said, it's hard for a typical person to sit down and read 50, 60 pages of pretty terse, I don't think it's boring, but let's say, sort of boring material. You know, for the typical shareholder, they're going to know should they vote in favor of this equity-based plan or not, things like that. And I think in proxy voting, what you have now, is the big money market companies and people like that I mean they're spending a lot of time on that, but they're also using recommendations from external firms - you know like RiskMetrics and people like that.
KEENE: There's literally a public relations enterprise now if somebody's yes or somebody's no on a critical vote. I mean the shareholders are now getting messaged if you will.
LARCKER: No, that's absolutely right. And that's the thing that's changing a lot. One thing that's really happened is the revision of Reg 452 where broker non-votes - or broker voting is not going to count in lots of the important elections, like for directors and things like that.
KEENE: What's a broker vote?
LARCKER: Where your shares are held in street names. So they're actually voted by whoever holds these things in the brokerage. So you don't - the shares are not in your -
KEENE: If I'm at Merrill Lynch and I've got 4,000 shares of blah, blah, blah -
KEENE: I don't vote. They vote for me.
LARCKER: Yes, that's right and what's happened is that now - those votes would typically go along with whatever management thought was a good idea.
LARCKER: But now they're not going to be counted. And so if you get into these things where you're actually looking for majority voting, it's going to be much harder to get that and so what you're going to see is this publicly relation issue is going to become a much more active thing. So if you're asking for new shares for a stock option plan or something like that, what you're going to see is they may be knife-edge kind of votes and you're not going to be able to count on the brokers anymore and you actually have to go the real -
KEENE: To say for the real -
LARCKER: And so that's a big shift and I think the dynamics have changed a lot.
KEENE: Fascinating. How does the buy side treat this, any given mutual fund company? Do you feel that they're like you and I are sitting in our kitchen going check, check check, or are they really - I mean come on, they've got, what -
LARCKER: Ten thousand -
KEENE: Yes, I was going to say 800 companies between three mutual funds with some overlap, but -
LARCKER: Well, I think that what we're going to have to worry about going forward is the big money management companies, they obviously hold those shares. They have a fiduciary interest to their shareholders and what is appropriate level of analysis, how do they vote those shares in interest of shareholders and things like that. I mean my guess is going forward we're going to see a lot more interest. But obviously, they're in the market to manage money. They're not - they don't have tons and tons of people you know going through each of the 10,000 proxies. So I think that's something to watch going forward. KEENE: Yes, interesting. Let - just to close out here in the last few minutes that we've got with you. Mark-to-market, it has been a pendulum on my various shows over the years for, against.
KEENE: Where are we with FASBI right now?
LARCKER: Well, I mean what you see with FASBI is that, you know, you're integrating what we do in the States with the International Accounting Standards and you know National Accounting Standards; it's a mark-to-market sort of orientation. I think the turmoil in the market on the last few years, you're sort of seeing, you know can you actually count on these prices, are they appropriate. Can you find them? Things like that. But I think mark-to-market, at some levels is real economics and unless the prices are fire sale prices or something like that, I think it's a good idea. There's the accounting and then there's the economic and the economics aren't always the same thing.
KEENE: Just in the minute we've got left with you, do we have a better understanding of goodwill versus bad will on a balance sheet now?
LARCKER: Well - KEENE: I mean, are we better off than we were with the mysteries of 20 years ago?
LARCKER: Yes, the mysteries, yes. So yes, the good will and when goodwill's impaired I think is sort of an art form. I think a lot of the value in companies is intangible and it's kind of captured in these goodwill numbers and I think going forward, I think we're going to have to start taking a closer look at what are the value of these assets.
KEENE: Do you use White Friedsondi (ph) in courses? Do your students have to pound through White Friedsondi?
LARCKER: Sometimes, yes, but there are - yes, I mean, that's obviously one of the classics.
KEENE: Folks, you know, Ambien is not a sponsor of the program. But if you ever want, White Friedsondi in accounting is a real jaw-dropper. I had to pound through it any number of times.
KEENE: Yes. Tom, it's just too cruel, too cruel, yes.
KEENE: It's just painful as all get out. We thank David Larcker, Miller Professor of Accounting, Stanford University.
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