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Golden parachute
The term "golden parachute" is used to describe the effort to pay off someone in power. Originally, the term "golden parachute" was used to describe bail out packages given to dictators. Therefore, "golden parachute" originated as a political term and has only recently been used to describe CEOs or employees.
A golden parachute is an agreement between a company and an employee (usually upper executive) specifying that the employee will receive certain significant benefits if employment is terminated. Sometimes, certain conditions, typically a change in company ownership, must be met, but often the cause of termination is unspecified. These benefits may include severance pay, cash bonuses, stock options, or other benefits. They are designed to reduce perverse incentives - paradoxically (and ironically) they may create them.
For example, it is fairly easy for a top executive to reduce the price of his/her company's stock - due to information asymmetry. The executive can accelerate accounting of expected expenses, delay accounting of expected revenue, engage in off balance sheet transactions to make the company's profitability appear temporarily poorer, or simply promote and report severely conservative (eg. pessimistic) estimates of future earnings. Such seemingly adverse earnings news will be likely to (at least temporarily) reduce share price. (This is again due to information asymmetries since it is more common for top executives to do everything they can to window dress their company's earnings forecasts).
A reduced share price makes a company an easier takeover target. When the company gets bought out (or taken private) - at a dramatically lower price - the takeover artist gains a windfall from the former top executive's actions to sureptitiously reduce share price. This can represent 10s of billions of dollars (questionably) transferred from previous shareholders to the takeover artist. The former top executive is then rewarded with a golden handshake for presiding over the firesale that can sometimes be in the 100s of millions of dollars for one or two years of work. (This is nevertheless an excellent bargain for the takeover artist, who will tend to benefit from developing a reputation of being very generous to parting top executives). This is just one example of some of the principal-agent / perverse incentive issues involved with golden parachutes.
Similar issues occur when a publicly held asset or non-profit organization undergoes privatization. Top executives often reap tremendous monetary benefits when a government owned or non-profit entity is sold to private hands. Just as in the example above, they can facilitate this process by making the entity appear to be in financial crisis - this reduces the sale price (to the profit of the purchaser), and makes non-profits and governments more likely to sell. Ironically, it can also contribute to a public perception that private entities are more efficiently run reinforcing the political will to sell of public assets. Again, due to asymmetric information, policy makers and the general public see a government owned firm that was a financial 'disaster' - miraculously turned around by the private sector (and typically resold) within a few years.
Proponents of golden parachutes argue that they provide three main benefits:
- Golden parachutes make it easier to hire and retain executives, especially in industries more prone to mergers.
- They help an executive to remain objective about the company during the takeover process.
- They dissuade takeover attempts by increasing the cost of a takeover, often part of a Poison Pill strategy,
although tin parachutes (giving every employee takeover benefits and/or job protection) are generally far more effective in this regard.
Critics have responded to the above by pointing out that:
- Dismissal is a risk in any occupation, and executives are already well compensated.
- Executives already have a fiduciary responsibility to the company, and should not need additional incentives to stay objective.
- Golden parachute costs are a very small percentage of a takeover's costs and do not affect the outcome.
The use of golden parachutes have caused some investors concern since they don't specify that the executive had to perform successfully to any degree. Their concern is understandable since many golden parachute clauses can promise executive compensation benefits well into the millions. In some high-profile instances, some executives such as Carly Fiorina cashed in their golden parachute while under their stewardship their companies lost millions and thousands of workers were laid off as a result.
The first known use of the term "golden parachute" dates back to when creditors sought to oust Howard Hughes from control of TWA airlines. The creditors provided Charles C. Tillinghast Jr. an employment contract—dubbed a golden parachute in likely reference to the protection a parachute offered—with protection against the almost definite job loss Tillinghast would have faced if famed aviator Howard Hughes had successfully maintained control of TWA.
The use of the term "golden parachute" has significantly increased in 2008 due to the global economic recession, especially being used by news media and in the 2008 Presidential Debates.[1]
The use of golden parachutes expanded greatly in the early 1980s in response to the large increase in the number of takeovers and mergers.
According to a 2006 study by the Hay Group human resource management firm, the French executives' golden parachutes are the highest in Europe, and equivalent to the funds received by 50% of the American executives. In contrast, the French standard revenues for executives located themselves in the European average. French executives receive roughly the double of their salary and bonus in their golden parachute.[2][3]
