The Wall Street Journal this week defended executive compensation by citing the case of Doug McMillon, CEO of Walmart (NYSE:WMT) since 2014, who in the year to January 31, 2025 earned $27.4 million. With a good track record in a company with $681 billion in revenues and 2.1 million employees worldwide, that amount was reasonable in today’s market. However, over $20 million of McMillon’s pay came in stock awards, providing McMillon incentives to goose Walmart’s stock price artificially. This indeed appears to have happened, since Walmart’s stock price was up 310% during his tenure, while its revenues were up only 40%, only a tick above the period’s 36% inflation. This, combined with Elon Musk’s extreme pay award at Tesla, suggests we must return to first principles and redesign CEO compensation to make capitalism work better.
McMillon’s performance over his 10 years in office has been decent but not spectacular, with revenues rising just ahead of inflation, however much he has puffed up the stock price to inflate the value of his options. On the other hand, Walmart’s 2.1 million employees, nearly as many as China’s People’s Liberation Army, should surely entitle its CEO to a premium remuneration, equal to 930 times his average employee’s pay of $29,000.
Incidentally, one wonders about the amazing efficiencies brought by modernity. The largest retailer of a century ago, Great Atlantic and Pacific Tea Company (A&P) had an empire of 15,000 stores in 1930, but only 200,000 employees, whereas Walmart requires ten times that many to operate its global portfolio of 10,771 stores. McMillon claims to be using AI to assist in managing the Walmart empire; however, it would seem that firing some bureaucrats, HR people, diversity counsellors and AI experts and hiring a few of A&P’s low-tech but diligent and helpful employees of 1930 might be more productive. I put it to you, Modernity, that your entire story is a tissue of lies from beginning to end, and that 1930 A&P was both more efficient and gave its customers better service than today’s Walmart!
As Professor Alfred D. Chandler laid out in “The Visible Hand” professional management originated in the 1850s in U.S. railroads, whose capital requirements became too large for a small group of entrepreneurial investors and who therefore developed a cadre of salaried professional management. That management devised modern management methods to manage the rapidly growing networks of the largest railroads. The Pennsylvania Railroad was especially innovative; through mergers and investment it developed a network stretching from the East Coast to Chicago, so that by 1880 it had 30,000 employees, the largest enterprise of that time.
In the 1870s and 1880s, companies outside railroading developed the size and capital requirements that necessitated professional management. For example, Standard Oil took over the Pennsylvania oil refiners so that by 1880 it was refining 90% of U.S. crude oil, then in 1882 developed a new corporate structure, the trust, to manage its ungainly collection of assets. Similarly, Carnegie Steel took over other steel companies; with only around 2000 employees in 1880 it grew during the 1880s to be the largest steel company in the U.S. and indeed the world. John D. Rockefeller and Andrew Carnegie remained at the top of their groups until their retirements, but in both companies there was by 1890 a vast structure of middle and upper management that undertook the day-to-day management of the businesses.
Those management structures were adopted in other industries as they outgrew their original entrepreneurs and sources of capital, with the first great wave of mergers and initial public offerings taking place during the McKinley administration in 1898-1901. The Sherman Antitrust Act was passed in 1890 to tackle the problems of monopolization that were beginning to emerge.
By 1960, with the damage done to entrepreneurship by the two World Wars and the Great Depression, it appeared that the Chandlerian giant corporation had forever become the dominant entity in most U.S. businesses. At that point, there was almost no venture capital industry; the embryonic venture capital company American Research and Development was able in 1957 to take a 70% stake in Digital Equipment Corporation for a mere $70,000, so Ken Olsen, the founder of Digital Equipment never became more than modestly rich, with a peak net worth of $160 million.
Human nature being what it is, the original efficient Chandlerian corporation does not stay efficient forever, if it has built a dominant position in its industry and thereby reduced the force of competition. Often, it degenerates into a country club, like the banks, which followed the 3-6-3 rule – borrow at 3%, lend at 6% and be on the golf course by 3pm. The other alternative, increasingly prevalent from the 1980s and goaded by the leveraged buyout/private equity industry, is that top management while working hard gets greedy, finding a way to exploit the company’s strength to siphon off massive value to themselves, effectively stealing from the shareholders.
This tendency was made much worse by the iniquitous provision in the Omnibus Budget Reconciliation Act 1993 by which salaries above $1 million for the top four officers of a company were not deductible against corporate tax – the provision exempted performance-based pay and stock options. This was not indexed for inflation — $1 million in 1993 is equivalent to $2.23 million today, even if you believe the artificially deflated consumer price index – so almost any mid-sized company’s CEO deserves to be paid far more than $1 million in today’s dollars. It is also precisely the wrong way round; the CEO’s base salary is a necessary expense of running the company, whereas “performance-based pay” is a mere frippery, an optional extra to the true costs of the company’s operations, and should be treated as a frivolous extra for tax purposes.
In such a remuneration system, McMillon would have a well-deserved base salary of say $10 million, and his bonus and stock options would be capped at another $10 million, more normally coming out around $5 million. Overall, the ratio of CEO pay to the average pay of workers in a Fortune 500 company, which had become too compressed at 31 times in 1978 and has now soared to 280 times, would be no more than 100 times, although McMillon, with a very large company and low-paid workers, would with a $15 million package still enjoy a ratio of 517 times average Walmart worker pay. Maybe Walmart should employ fewer workers and pay them more, as did A&P in 1930!
Reverse the 1993 tax provision, making basic pay tax-deductible and performance-based pay non-deductible, and also make stock repurchases illegal, as they were before 1978, and the incentives for CEOs and other top management would become properly aligned with those of shareholders. No longer would management want to overleverage their companies through stock repurchases, making them vulnerable in the next downturn. No longer would they want to inflate their company’s stock price like the South Sea Company’s infamous 1720 Bubble, making the company very vulnerable to collapsing confidence in any bear market. Management will also have less incentive to undertake acquisitions, the majority of which are value-destroying. In this way, they will once again act as the “hired hand” managers of the Chandlerian ideal.
As for Elon Musk, to the extent he wants to be an entrepreneur, he should do so in a private company. If he wants the benefits of public capital in Tesla or elsewhere, he will be subject to the normal tax rules on public companies, so his $1 trillion contingent pay deal will in this environment be impossible, because its tax cost to the company would be excessive. Currently, the accountants give executive stock option deals an excessively favorable accounting treatment, not accounting for the dilution of shareholder interests in the profit and loss statement; this should also be reversed.
Finally, we need to discourage mergers and acquisitions, which tend towards gigantism and monopoly. Lina Khan, former Chair of the Federal Trade Commission, is the one Biden administration official whose loss is to be regretted, because she stymied several mergers, and as Andrew Stuttaford of National Review wrote, there was an additional “cost” from “the deals that never took place because the parties didn’t dare risk Khan’s lawless approach to antitrust.” To those who believe in entrepreneurship and free competition and who know that mergers in general destroy value, that cost of her tenure was of course a benefit. Without Khan pushing the case, this week’s judicial decision refusing to reverse Meta’s acquisition of WhatsApp and Instagram was expected; a harsh repudiation of Meta’s competitive tactics by the Court would have been much better for the U.S. and global economies.
With a reversal of the iniquitous 1993 tax provision, accounting reform and Lina Khan’s approach at the FTC, making mergers almost impossible, we can revitalize the U.S. economy, most particularly the overstuffed behemoth corporate sector. Healthy capitalism demands no less!
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(The Bear’s Lair is a weekly column that is intended to appear each Monday, an appropriately gloomy day of the week. Its rationale is that the proportion of “sell” recommendations put out by Wall Street houses remains far below that of “buy” recommendations. Accordingly, investors have an excess of positive information and very little negative information. The column thus takes the ursine view of life and the market, in the hope that it may be usefully different from what investors see elsewhere.)