MEMO to Ousted Business Leaders: Surrender Your Ill-Gotten Gains

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Companies Seek To Recover Pay From Ex-CEOs
By Joann S. Lublin
1,227 words
7 January 2004
The Wall Street Journal
B1
English
(Copyright (c) 2004, Dow Jones & Company, Inc.)

MEMO TO ousted business leaders: Surrender your ill-gotten gains.

That demand comes from a growing array of corporate boards, regulators, creditors and investors. They're aiming at the wallets of well-paid former chief executives who were forced out for poor performance or alleged fraud.

But toppled top bosses, from companies including Kmart Holding Corp., HealthSouth Corp. and Rite Aid Corp., are fighting back, assisted by ironclad employment contracts and savvy lawyers. The same scenario could soon unfold at the New York Stock Exchange and Freddie Mac.

The NYSE, relying on a report prepared by a former federal prosecutor, may insist that deposed chief Dick Grasso return as much as $150 million of his hefty compensation, people familiar with the situation say. Exchange directors are expected to decide tomorrow whether to sue their former leader. The move undoubtedly will spark a showdown with Mr. Grasso. He is mulling his own lawsuit to secure $48 million in future retirement pay he agreed to forgo and $9.7 million in severance, according to informed individuals. He left under fire last year amid outcry over $139.5 million he already had received.

Last month, a federal regulatory agency filed administrative charges seeking to force Leland Brendsel, Freddie Mac's former chief executive, to relinquish about $34 million for his involvement in its myriad accounting abuses. The sum includes a civil penalty of $5.8 million, $24.4 million in severance and benefits, and $3.8 million in past bonuses. Mr. Brendsel, whom the mortgage-finance concern asked to resign in June, ultimately can challenge the proposed punishment in federal court.

Efforts to recover portions of ex-chiefs' pay rarely succeed. Sometimes they even end up costing a company more in legal and other fees than they recoup. And corporate-governance experts partly blame directors themselves for the mess, because it is they who bestowed rich rewards upon the CEOs they later removed.

"There is going to be some liability" among directors, especially when they admit "they didn't understand the consequences of the compensation package," warns Roger W. Raber, president of the National Association of Corporate Directors. The NYSE investigation, for instance, has found substantial evidence that the exchange's board inappropriately granted Mr. Grasso's big pay package.

At Kmart, however, independent directors approved generous executive pay based on bad information from senior management about the discount retailer's financial health, maintains Rick Chesley, a partner at law firm Jones Day who represents a group of Kmart creditors who recently sued Charles C. Conaway, its fired CEO, and five other former executives. "It's hard to hold the board responsible for that," Mr. Chesley says. The litigation contends the men looted the Troy, Mich., company and mismanaged it into bankruptcy partly by concealing Kmart's distressed state from board members.

The creditors want Mr. Conaway to repay a $5 million "retention" loan that he considers forgiven. The suit also accuses him of "abusive self-dealing" at Kmart's expense. It cites dozens of personal trips that he and his family took on corporate jets -- plus perks including a chauffeur-driven Lincoln Navigator for his children.

Mr. Conaway "didn't do anything wrong. There's no reason he should pay the loan back," says his attorney, Scott Lassar. Kmart emerged from bankrupcty last spring.

Regaining compensation from an ousted leader often becomes an arduous ordeal. Cendant Corp. has tried to recover a $47.5 million severance package from former Chairman Walter A. Forbes for almost five years. The New York residential real-estate and travel-services concern struggled to rebuild its reputation after a huge accounting scandal in the late 1990s.

Mr. Forbes resigned under pressure from Cendant in July 1998. Cendant subsequently alleged he improperly charged the company for personal use of a leased jet, personal American Express charges and about $100,000 in cash advances. While insisting "there were no improprieties" in his travel-and entertainment expenses, Mr. Forbes wrote Cendant a personal check for $2.3 million in February 2000 to repay the disputed outlays.

Cendant decided those expenses should have been grounds for dismissing its chairman for cause and denying him severance. But an arbitration case that the company brought to recover the exit payments is stalled -- at his request. Mr. Forbes is set to stand trial next month in U.S. District Court in Hartford, Conn., on criminal accounting-fraud charges. Neither Mr. Forbes nor his attorney returned calls about the pending arbitration.

Similarly, a protracted scandal involving the discharged highest executive of Orange & Rockland Utilities Inc. cost the concern $23 million in investigation, arbitration and legal fees. The utility settled its dispute with ex-CEO James F. Smith for $4.99 million in March 1997 after he won an arbitration case over his multimillion-dollar severance package and was acquitted of felony charges that he had embezzled corporate funds. The company accused him in a suit of using about $326,000 of company money for his personal benefit.

"I don't believe that justice was done," says Jon F. Hanson, a former director of O&R, now a Consolidated Edison Inc. unit. (Through his lawyer Jay Fischer, Mr. Smith declines to comment.)

Mr. Hanson currently serves on the HealthSouth board. The provider of rehabilitation services and outpatient surgery last spring terminated rights to severance pay and benefits for its chairman and CEO, Richard Scrushy, when it fired him amid a massive accounting fraud.

Mr. Scrushy was indicted on 85 criminal charges in October. Prosecutors allege he used money gained by the HealthSouth fraud to buy assets including diamond jewelry, a plane, a yacht, Cadillacs, cuff links, works of art by famous painters, land and an armor-plated sport-utility vehicle.

HealthSouth will attempt to get back additional compensation from its ousted leader if he's convicted, informed individuals say. Under a new corporate-crime law, CEOs and finance chiefs must forfeit certain bonuses and stock-sale gains in connection with an earnings restatement that results from misconduct. HealthSouth is considered a test case for the 2002 federal statute. Mr. Scrushy collected about $11.5 million in bonus money during 2002, according to HealthSouth.

The company founder has denied any wrongdoing. His lawyers intend to challenge the law's constitutionality as part of his defense.

Meanwhile, Mr. Scrushy is opposing a recent court decision that he repay HealthSouth more than $25 million. In summer 2002, he used HealthSouth shares to repay a company loan for that amount. Ruling on litigation filed by HealthSouth investors, Delaware Chancery Court Vice Chancellor Leo E. Strine Jr. said the stock was worth less than the value of the loan because of the fraud.

"Scrushy is liable to HealthSouth under theories of unjust enrichment and equitable fraud," Judge Strine wrote in his Nov. 24 opinion. He later ordered Mr. Scrushy to repay the money by last Friday. Mr. Scrushy didn't make that payment, and instead his attorneys asked the judge to modify or vacate his order.

During a conference call yesterday with both sides, Judge Strine said he will deny that request because "there's been no manifest injustice here." Tom Sjoblom, a Chadbourne & Parke partner representing the deposed CEO, indicated last night that the Scrushy legal team is evaluating a possible appeal.

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