Firm Leadership

Rants, Raves, Rebuttals, Reflections, Revelations & Ruminations

This is the time of year when most of America's largest public companies release their 10-Ks, also known as annual reports. Lending drama to the 2002 vintage of 10-Ks is the fact that pension plan liabilities are skyrocketing to become a very serious problem for many companies . . . and the annual 10-K filing is the only public document in which companies must fess up to these ugly truths.

Several well-known corporations, like General Electric, have already dispatched their 10-Ks. But many more of these revealing annual filings are yet to emerge. Normally, pension plan health doesn't change very materially over a 12-month span. But 2002 wasn't "normal" - the stock market tumbled and health care costs soared, which means that many pensions suffered a wicked double-whammy. Ryan Labs Inc., a New York-based pension plan consultancy, calls 2002 "the worst year in pension history".

By way of example, thanks to the long-running bull market of the 1990s, GE hasn't made contributions to its pension plan since 1987. The company optimistically states that no future contributions will be needed, as long as expected rates of return are achieved. But that's a significant caveat. GE's management expects its pension plan's investments to earn about 8.5% per year! Even if GE achieves its unrealistic investment-return bogey of 8.5%, health-care costs are soaring out of control. That's a particularly acute problem for a company like GE, where nearly three quarters of pension plan participants are retired personnel and therefore, more likely to require medical care than current employees.

The bad news for corporate America, is that GE's pension plan is fairly typical of established U.S. companies in that the lion's share of the plan's participants are retired, which makes any retroactive benefit reduction nearly impossible. In other words, there's no easy way to get rid of these nasty liabilities! Net-net, GE may find itself functionally working for its pensioners rather than its shareholders.

Here are a few questions to test your current knowledge of the business landscape, the answers to which might surprise some:

1 How many US companies are publicly traded?

a. 7,000 b. 14,000 c. 28,000 d. 40,000

2 What percentage of US companies employ 4 or fewer people?

a. 35% b. 50% c. 70% d. 85%

3 What percentage of US companies are manufacturers?

a. 5% b. 10% c. 15% d. 25%

4 How many US establishments have a foreign office?

a. 500,000 b. 900,000 c. 1.7 million d. 2.7 million

5 What percentage of companies grew at least 20 percent over the last 4 years?

a. 3% b. 6% c. 9% d. 12%

Answers (in reverse order): 5(a); 4(c); 3(a); 2(c); 1(a)

Just as three U.S. professional service firms have joined with a major Canadian firm to form the China Alliance, an association intended to better serve the growing interest of clients in that country, executives of multinationals say corruption is growing worse in Asia.

These executives, according to a survey released by Hong Kong-based Political and Economic Risk Consultancy, pinpoint Indonesia, India and China as the most corrupt, The survey, of 1,072 executives, found that corruption is perceived to have worsened in seven of the 12 countries, including Malaysia, Taiwan and Vietnam.

The rise in perceived corruption is attributed, in part, to a more widespread consciousness of the problem, fuelled by media coverage of big scandals in the US and Asia over the past year or so. The magnitude of corruption in China, ranges from 3 to 5 per cent of GDP, the report said. India is viewed as even more corrupt than China. The report portrays the country as a Kafkaesque place, where bribes extracted by its oppressive bureaucracy have spread to virtually every walk of life.

Indonesia is perceived to be the most corrupt country in the region. Despite a new code of conduct for judges implemented last September, the report said that "courts are still making very controversial verdicts and no judges are being punished".

I fondly remember a time, many years ago, when I had the privilege of working alongside Dr. Jack Zenger of Zenger-Miller fame. One of the t hings that always struck me, was how Jack would greet you with a smile and a question that always made you think. One of his favorites was, "Are you doing anything that's interesting?"

I'm told that Shelly Lazarus, the CEO and Chairman of Ogilvy & Mather has a similar style. She claims that as a CEO, her job is to "develop talent, to bring people together, and create an atmosphere where they will thrive and do their best work." In a meeting of the heads of O&M's European divisions she asked her managers, "Can the people who come to work for you, come into your office at the end of the day, take their shoes off, and feel comfortable expressing their opinions?"

This past week while working with one firm, I had an interesting discussion with a particular practice leader who was explaining to me a rather frustrating encounter he had had with one of his partners. As he became more and more animated while describing the situation, you could see the veins in his neck beginning to protrude. As he continued to obsess about his unpleasant encounter, I asked of him, "Why would a logical, rational and sensible person behave in such a manner?" His response -- "Hmm . . . perhaps there is something here I should be better understanding."

So what kind of interesting questions are you posing to your people this week?

It's time once again to consider the candidates for the annual Stella Awards. The Stella's are named after 81-year-old Stella Liebeck who spilled coffee on herself and successfully sued McDonald's. That case inspired the Stella awards for the most frivolous successful lawsuits in the United States. The following are this year's candidates:

1. Kathleen Robertson of Austin, Texas, was awarded $780,000 by a jury of her peers after breaking her ankle tripping over a toddler who was running inside a furniture store. The owners of the store were understandably surprised at the verdict, considering the misbehaving little toddler was Ms. Robertson's son.

2. A 19-year-old Carl Truman of Los Angeles won $74,000 and medical expenses when his neighbor ran over his hand with a Honda Accord. Mr. Truman apparently didn't notice there was someone at the wheel of the car when he was trying to steal his neighbor's hub caps.

3. Terrence Dickson of Bristol, Pennsylvania, was leaving a house he had just finished robbing by way of the garage. He was not able to get the garage door to go up since the automatic door opener was malfunctioning. He couldn't re-enter the house because the door connecting the house and garage locked when he pulled it shut. The family was on vacation, and Mr. Dickson found himself locked in the garage for eight days. He subsisted on a case of Pepsi he found, and a large bag of dry dog food. He sued the homeowner's insurance claiming the situation caused him undue mental anguish. The jury agreed to the tune of $500,000.

4. Jerry Williams of Little Rock, Arkansas, was awarded $14,500 and medical expenses after being bitten on the buttocks by his next door neighbor's beagle. The beagle was on a chain in its owner's fenced yard. The award was less than sought because the jury felt the dog might have been just a little provoked at the time by Mr. Williams who was shooting it repeatedly with a pellet gun.

5. A Philadelphia restaurant was ordered to pay Amber Carson of Lancaster, PA, $113,500 after she slipped on a soft drink and broke her coccyx (tailbone). The beverage was on the floor because Ms. Carson had thrown it at her boyfriend 30 seconds earlier during an argument.

6. Kara Walton of Claymont, Delaware, successfully sued the owner of a nightclub in a neighboring city when she fell from the bathroom window to the floor and knocked out her two front teeth. This occurred while Ms. Walton was trying to sneak through the window in the ladies room to avoid paying the $3.50 cover charge. She was awarded $12,000 and dental expenses.

7. This year's favorite could easily be Mr. Merv Grazinski of Oklahoma City, Oklahoma. Mr. Grazinski purchased a brand new 32-foot Winnebago motor-home. On his first trip home, having driven onto the freeway, he set the cruise control at 70 mph and calmly left the drivers seat to go into the back and make himself a cup of coffee. Not surprisingly, the R.V. left the freeway, crashed and overturned. Mr. Grazinski sued Winnebago for not advising him in the owner's manual that he couldn't actually do this. The jury awarded him $1,750,000 plus a new motor home. The company actually changed their manuals on the basis of this suit, just in case there were any other complete morons buying their recreation vehicles.

Success in 2003 will hinge on being decisive, nimble and willing to make constant course corrections.

Take for example the fact that an increasing number of CPA firms are now planning to outsource their tax return work to be prepared overseas. It is expected that some 40,000 US tax returns will be completed in India in 2003. India has a large population of highly educated, highly motivated professionals with good English skills. Indian outsourcing vendors generally price their services at about $100 a return, while that same return could cost $700 to prepare in-house. Outsourcing is expected to boost CPA firm profit margins considerably.

Outsourcing individual returns allows firms to spend more time on more complicated or more sensitive corporate tax matters. It also allows partners and managers to be more involved in planning and less concerned with compliance. Partners emphasize to clients that although the preparation of the return is outsourced, each return continues to go through an internal firm review process.

Meanwhile, Ernst & Young believes that 1040's are merely the tip of the iceberg. Their Indian operation prepares corpor ate and partnership returns, has completed a litigation support project for a New York firm, bookkeeping for a Massachusetts client, and back office pension administration work for a Baltimore firm. E&Y monitors the quality of the work by asking clients to submit satisfaction surveys.

Is there some component of your firm's service offering that could be profitably outsourced?

On the first day of class, two different teachers in different rooms, were glancing over the roll when they both noticed a number after each student's name.

One teacher saw numbers like 142, 136, and 154. "Wow! Look at these IQs," she thought to herself. "What a terrific group." That teacher right there and then determined to work harder with this group than with any other she had ever had. Throughout the year, she came up with innovative lessons that she thought would challenge the group, because she didn't want any of them to be bored with work that was too easy. And as expected, her plan worked. This group outperformed all the others that she had ever taught using her usual methods.

The second teacher happened to see numbers like 84, 68, and 91. "Gaad, what kind of a dysfunctional group of students did they stick me with this year," he thought to himself. Thinking this to be a group that was not likely to accomplish a great deal, this teacher resolved not to expect very much from any of these students or challenge them beyond the most basic level. As expected, his expectations were also realized.

By the sheerest of coincidences during the last quarter of the year these two teachers happened to be comparing notes on the progress (or lack thereof) of their different respective groups. The School Principal, overhearing their discussions, advised them both as to what those numbers after each students' name really represented -- that student's locker number!

Are you creating a motivating work environment? The beginning of the year is the best time to analyze your firm's work processes. Determine what is wasteful and what is productive. Eliminate those things causing people not to perform at their very best.

Planning -- looking ahead is a seen as a legitimate business activity. Reflection -- looking back is not. And yet, often only through some thoughtful reflection might we see glimpses of the road ahead.

For example, corporate bankruptcies broke records in 2002. Chapter 11 welcomed 186 companies. Filings included 5 of the largest Chapter 11 cases in history - totaling more than $368 billion in assets. Of the top ten largest bankruptcies for the year, nine were the result of accounting `irregularities'. And it's possible we haven't seen the worst of it yet. Debts are the fattest they've been in many decades . . . perhaps ever. In the manufacturing sector, interest expense has risen from just 23% of profits in 19 97 to almost 100% today.

Meanwhile, a Business Roundtable poll shows that 80% of big company CEO's have no intention of increasing their capital spending in 2003 . . . while in a survey of 431 companies conducted by Watson Wyatt Worldwide, 53% plan to reduce staff in response to plunging profits; another 46% plan to reduce salaries or have enacted hiring freezes; and another 21% plan to severely cut bonuses, or eliminate them altogether. And IF THAT WASN'T ENOUGH . . . here's an obituary for business-as-usual:

We have now been rudely awakened to the troubles that underfunded pension plans could pose for corporate America. With the stock market down and pension-fund assets shrinking, these companies (your clients) ranging from Continental Airlines to Avon Products to the New York Times indicated they had made, or planned to make, fresh contributions to bolster the value of their pension plans. Why? Well, most corporate pensions find themselves woefully underfunded. That painful moment of truth has already arrived for a few and close to arriving for a few hundred more. Indeed, 360 of the 500 companies in the Standard & Poor's 500 Index are underfunded by about $243 billion, according to a study by Credit Suisse First Boston. For these American corporations, the painful consequences will be twofold: the excess earnings produced by large investment gains in their pension plans will be gone, and as pension plan surpluses turn into deficits, many companies will have to contribute cold, hard cash to make up the shortfalls.

These accumulated pension liabilities are even more daunting. We have over $300 billion of pension-fund deficits in 2002 for S&P 500 companies. That's $300 billion of cash these companies have to come up with over the next few years, and $300 billion that comes out of corporate cash flow. If a pension plan remains underfunded, a company over time might need to direct its cash flow to pay its pension obligations before investing in its business, paying down debt, repurchasing shares or making other strategic moves. Imagine this: companies could end up working for their retirees instead of their shareholders.

So strap on your seat belts, I think this year is going to be a wild ride!