Analogously: The Gangs That Can’t Shoot Straight
Last week in The Understatement of the Year! we wrote, “The problem, dear reader, is that few senior managers (and almost no board members) understand the valuation and risk models used for securitizations…”
Today, there is an article in The Wall Street Journal, Citi Directors Mull Replacing Chairman, that provides additional evidence to support our claim.
To be frank, unless it is we, we don’t really care who Citi selects as a chairman, and we doubt that you do, also.
We’re more interested in the way that the article’s writers describe board member Richard Parsons as “one of the few Citigroup directors with experience in financial services.”
One of the largest financial service firms in the world, and only a few directors with (any type of) financial service experience. How could they lose? we ask sarcastically. There is a multitude of types of experience with financial services firms; so, we’d argue that while such experience is necessary, it is by no means sufficient to understand and evaluate complicated products, hedges, strategies, and risks.
To be faced with such inexperience, it must be the case that either senior managers are particularly poor judges of talent or those inexperienced directors were nominated specifically because they lacked experience or despite their lack of experience.
The former reason for purposely selecting the inexperienced is clearly cynical and involves senior management attempting to nominate members who are much more likely to be weak and unable to provide the requisite level of oversight.
The latter reason may or may not be cynical. For example, an unknowledgeable director may have been chosen because he or she is particularly savvy and a fast learner (not cynical) or because he or she has a membership at Augusta or Oakmont or some other exclusive golf club where senior managers might like to play (very cynical).
Now, we’re willing to stipulate that in many market and economic settings, it may not seem to matter. In fact, it is possible in the overwhelming majority of the cases that it doesn’t seem to matter, but that doesn’t mean that such nominations are indeed consequence-free.
For such cases, we like the analogy of a cop who is a particularly bad shot. That fact is almost never directly relevant as law enforcement officers rarely draw their weapons and fire. So, it may seem that it doesn’t matter.
Unfortunately, the self-aware officer realizes that he or she is a poor shot and acknowledges his or her inability to respond effectively to extreme situations. This knowledge likely colors or influences his or her behavior in all settings, including incidents where only a very small probability of escalation exists.
Such behavior is usually correctly interpreted by the other relevant parties as weakness. However, in some cases the officer’s may over-react or behave in an extremely risk-averse manner due to his or her personal insecurity. Regardless, in both cases, the officer’s and society’s well-being has been compromised.
It is much the same with governance and risk management within firms. Those directors lacking adequate firepower are unlikely to deter anti-social behavior; thus, weak boards are more likely to induce excessive risk-taking and increased odds of a disaster (although that realization may not occur). Is that increased probability of disaster worth 18 holes at a world-famous course? Don’t answer that!
