|Are you keeping an eye on her?|
I bring up this saying because of a financial scandal we’re having down here: There’s a retail chain called La Polar—fairly big, catering to lower-middle- and lower-income consumers—that’s been caught cooking the books.
Ordinarily, a financial scandal in a second-tier retailer in an out-of-the-way Latin American country doesn’t rate much of a reaction. A shrug, maybe, but that’s about it.
However, it seems to me that the La Polar scandal illustrates something not just about corporate governance, but about political governance as well. And not just in Chile—more to the point, it reflects corporate and political governance in the United States and Europe today.
This trivial financial scandal reflects why the political and economic leadership of both Europe and the U.S. are not acting in the long-term best interests of their countries. Rather, they are acting in the short-term best interests of themselves—to the detriment of the nations they are responsible for.
The reason is simple: IBG–YBG.
Let me recap the scandal first.
The La Polar scandal blew from actually two different directions: On the one hand, consumer protection advocates were seeing how La Polar was unilaterally “renegotiating” store-card balances, and tacking on huge interest hikes, fees and penalties. Some people started complaining how one missed store-card payment meant their balances were summarily “renegotiated” by La Polar—in some cases multiplying what they owed the retailer by three or four or even five times the original amount. A US$200 washing machine could wind up costing a lower-income family US$1,000 when all was said and done.
Consumer advocates started making a fuss about a few isolated cases of this blatant gouging—
—and then promptly discovered that all of La Polar’s store-card holders were being gouged in similar fashion: It was a systematic process.
On the other hand, the Chilean private-pension fund managers—the AFP’s (which I wrote about here, discussing how they are structured and how they operate)—private-pension funds with big positions in La Polar—were noticing that the store’s balance sheet numbers didn’t add up, or were radically different from competitors’ numbers. So back in March-April, they put a whole lot of pressure on La Polar and eventually took over the board of directors of the company—
—and then promptly discovered that the books were cooked like a burnt Thanksgiving turkey. Specifically, their store-card numbers were way off, with the number of delinquent accounts far higher than the industry standard. Which of course made La Polar’s bonds way dodgier than what everybody thought.
Turns out, La Polar had had its own version of the sub-prime mortgage mess: In a blind pursuit of profits, the store had drastically lowered its store-card lending standards, offering their lower-income customers so much credit that some of these customers—a lot of these customers—had defaulted.
As the defaults rose and became a flood, La Polar found itself drowning. So the retailer’s management had done two things: They tacked on outlandish fees, interests and penalties on their still-performing store-card holders—trying to squeeze every last drop of blood from these lower-income consumers—while simultaneously hiding the actual number of their delinquent customers. La Polar’s management had even gone so far as to set up a separate server system with the actual numbers, so as to hide the truth from their auditors, and of course their shareholders.
On discovering this fraud, the AFP-appointed board members went straight to the financial authorities, while at more or less the same time, the consumer advocates got the attention of the prosecutors.
All hell broke loose.
It turned out that the management team at La Polar were more akin to a street gang in bespoke suits than proper businessmen. According to reports, the managers had basically been involved in a “pump-and-dump” scheme: Inflating the retailer’s earnings and sales, and then selling stock in the company—making out, well, like bandits.
Aside from the stock manipulation, apparently there were huge bonuses, disproportionate perks, “loans” to senior management, et cetera, depressing et cetera: Basically the worst parts of corporate malfeasance.
At the end of the day, La Polar’s balance sheet hole is looking to be in the neighborhood of US$893 million. As a percentage of national GDP, imagine that K-Mart or Sears had a $52 billion hole—you get the picture how big this is. La Polar’s stock took a beating on the exchange—then was suspended outright. Its bonds dropped off the ratings map. There’s now criminal investigations, outrage, political fallout, lawsuits—you get the picture.
What struck me about La Polar’s story is not that there was fraud—there are thieves everywhere, be they mean-street back-alleys or mahogany-lined boardrooms.
What struck me about this story is that La Polar is the only major business in Chile that does not have a controlling owner.
A few people in Chile have noted this fact as a curious footnote . . . but I think it points to something larger—something important.
Chilean corporate law is similar to other countries’: More shares in a company buys you more seats on the board. With 50%+1 of the shares, you control the board. And with a 66.66%+1 share in a company, you can change the corporate charter of a company—so in other words, with 67% of a company you pretty much have absolute power over it.
Now, every major company in Chile—“major” being defined as being worth more than US$500 million, whether public or private—has a controller: One individual (or family) that owns and/or controls 50% of it. In some cases, the 67% absolute-control stake is owned by partners working in concert. In a few cases, it’s one man or one family.
But La Polar was unique in Chile: There was no controlling interest. There was no controlling partnership. There was no one man or family who controlled it.
The controllers of La Polar were its managers.
The man who is being fingered as responsible for this scandal is Pablo Alcalde. From 2002, he was the CEO of the retailer, before crossing over in 2009 to the post of Chairman of the Board in 2009. In that time, he grew La Polar from 12 stores to 45, including an expansion into Colombia—the guy was La Polar.
In the Chilean newspaper of record, El Mercurio, Alcalde was interviewed this past Sunday as saying that he has no idea who was responsible for this mess—he only dealt with the information he was given by his managers, and assumed it was accurate.
This is the My-Underlings-Ate-My-Homework line of corporate defense: Patent bullshit, of course—
—but not unprecedented: Not Alcalde’s defense, nor his arrogance in thinking that bullshit and a nice suit can get you out of trouble.
But most of all, it’s not unprecendented that the management of a company essentially crashes that company in order to make a buck along the way.
After all, the entire MBS crisis and subsequent Mortgage Mess scandal was predicated on exactly that managerial approach: Making loans to prospective home-buyers whom the lenders, the loan processors, the investment banks, the ratings agencies, and everybody else in the chain of this process knew—beforehand—would eventually default.
Same with banks that have lent money to sovereign states which they knew would eventually default—but which added huge commissions to their bottom line at the time. Same with insurance companies that wrote credit default swaps they knew they couldn’t make good on—but which added huge commissions to their bottom line at the time.
In fact, most of the problems we’re currently experiencing end with the tag-line “but it added huge commissions to their bottom line at the time.”
During the Mortgage Mess, I read somewhere that a low-level guy at a bank realized the loans they were making would eventually blow up. When he mentioned this fact to a senior guy, the colleague turned to him, smirked, and said the following:
Those inscrutable letters say it all, once you decipher the acronym:
“I’ll Be Gone—You’ll Be Gone.”
In other words, by the time this mess blows up, we’ll be out of the picture, and therefore scot-free.
By the time this blows up, it’ll be somebody else’s problem.
By the time this blows up, we’ll be enjoying the riches we took, sipping piña coladas on a white sandy beach, while some other chumps will be left cleaning up the mess we left—a mess we knew beforehand we would eventually be leaving behind.
Of course, the IBG–YBG mentality doesn’t exist with someone who actually owns their company—or someone who’s spent their life building a company. In the case of La Polar’s competitors—Cencosud, D&S and Falabella—they are all controlled by either their self-made founder (Horst Paulmann in the case of Cencosud), or the children of the self-made founder (the Ibáñez brothers with D&S, the Falabella sisters with Falabella). None of these companies subscribe to the IBG–YBG mentality—of course not. And they especially don’t subscribe to it as they are all self-consciously leaving their businesses to their offspring.
“The cow grows fat under the watchful eye of the owner.”
Many people wonder why investment banks went haywire in the last twenty years—but the answer is obvious: Before Salomon Brothers opened the door to the corporatization of investment banks in the mid 1980’s, all the investment banks were owned by the partners who ran them. And the governance rules were such that, when a partner retired and cashed out, he didn’t get all his money at once: It was spaced out over time, and depended on the continued success of the investment bank.
So the partners all had a vested interest in looking after the long-term health of the investment bank—thus they never would have dreamed of doing any of the crazy deals all these other banks have carried out, carried out in order to pump up that quarter’s stock price of the bank, or prop up their numbers for their year-end bonuses.
But that’s all that the corporatized investment banks care for—which is why they blew up in 2008.
And why they will likely blow up again with the Eurozone Crisis.
That’s why I recommend to my clients at the Strategic Planning Group that they work with private bankers—exclusively—and I explain how to set up such an account. My reasoning is quite simple: A private bank’s liabilities are guaranteed not merely by the bank’s capital, but by the personal capital of its partners. That’s why it’s called a “private bank”: It is privately owned, privately held, and if it makes stupid bets and loses its customers’ money, its owners will have to pay for it.
They won’t be down in a villa in Costa Rica, while regulators untangle the mess—
—and they certainly won’t trip over the same stone twice.
Why do I say that? Because it’s looking like the corporatized banks wrote a whole lot of credit default swaps. Again. Because selling CDS’s of Greek, Irish, Portuguese and Spanish debt was so lucrative that they couldn’t resist—
—and after all, the guys who cut those CDS deals even after the 2008 meltdown and even as they knew that Greece and Ireland will likely default, were not thinking about the long-term health of their banks.
They were thinking about cashing out their stocks.
They were thinking about their year-end bonuses.
They were thinking, IBG–YBG
So much of the problems we are having stem from the disconnect between the people running the institutions, and the long-term well-being of those institutions.
The people running these institutions don’t have a long-term vested interest: They just want to make a short-term splash, and get out with the biggest bundle that they can.
And it’s not just retailers or banks—it’s governments.
The men and women governing the Western democracies—North America, Europe—have no compunction about going into all sorts of expensive domestic programs, all sorts of pointless, self-aggrandizing wars, all sorts of monstrous debts—all in the name of looking good in the short-term, confident that once they leave office, there will be no consequences of any sort, not even for the most egregious violations.
Hence they go into massive sovereign debt that will weigh down future generations—generation-s plural. The U.S. has, what, about USD$15 trillion in debt? Roughly 100% of GDP? If we cut the deficit completely—then further cut the Federal government budget in half, whereby one dollar of tax revenue goes to fund government operations and one dollar of tax revenue goes to pay off the Federal government debt—it would still take 20 years to pay off the U.S. Federal government debt!
That’s a debt that belongs to all of us—the shareholders in U.S.A., Inc. But it is a debt which our successive management teams have foisted on us—the costs we bear for their pointless wars, their unworkable social programs, their grandiose promises which simply cannot be kept except with the most massive debt ever issued.
Now, why has this happened?
Easy: Just like the management of La Polar—just like the men running the corporatized banks—when the political leadership of a nation does not think it has a vested interest in the outcome of its decisions—or if they believe there will be no punishment for their bad decisions—then they will make short-term decisions for their own benefit, rather than for the long-term benefit of the nation.
Today’s leadership knows that it can promise anything, do anything, carry out the most egregious corruption, violate every sacred principle—and there will be no punishment. There will be no reckoning. Alan Greenspan crashed the economy with his 24-year money-subsidy. Michael Chertoff makes millions exploiting people’s fear of flying. George W. Bush and Dick Cheney set the Constitution on fire and used the Bill of Rights as toilet paper, while Barack Obama is carrying on their policies—except more, expanded, bigger, better.
Will any of these men face any consequences for their terrible actions and decisions?
One of the problems we are experiencing as an outgrowth of the Sixties’ mentality of “do your own thing” and the conceit of Relative Morality is, if we as a nation do not have a common goal, and if we as a nation do not have a common moral metric by which to gauge our individual actions, and if we do not have punishment for the evil and corrupt actions of our leadership—as we currently do not—then it is inevitable that our nation will not merely flounder, not merely decay, not merely decline: We will crash—outright.
“The cow grows fat under the watchful eye of the owner”: Indeed.
If you are interested in a discussion about how to exit America, please visit The Strategic Planning Group’s home page, as well as the Membership Preview and FAQ page. Thank you.