Put managements' own capital at risk.

• Author: Rich, Jude
• Position: Chairman's Agenda: Balancing Shareholder Interests

Put Managements' Own Capital at Risk

It was an astonishing statement! The chief executive of a multibillion dollar industrial company had just said his management was not trying to maximize the value of the company for shareholders. Over the past decade, this company averaged nearly a 20% return on equity, almost tripled its sales volume, and quadrupled its stock price. Why would the chief executive of such a high-performing company say such a thing?

His explanation was compelling. In the last few years, he had heard comments from top executives who had participated in leveraged buyouts or other restructuring efforts resulting in significant debt and far greater management ownership. The management teams - now substantial owners of the business - began to take actions that would have been unthinkable in the past. They sold off bad businesses, gutted bloated corporate staffs, and pressed for greater attention to customer satisfaction and productivity throughout their businesses. The results were startling: In most of these cases, the value of the companies increased enormously.

But, in this case, the chief executive was concerned that he and his management team were not substantial owners and, therefore, were not truly acting as owners would. In board rooms and executive offices throughout the country, corporate leaders and institutional investors increasingly are harboring similar concerns. The question often raised is: How can we increase the true sense of ownership that occurs when the management team faces both significant risks as well as outstanding reward opportunities? Short of actually undertaking an LBO, or some other massive restructuring that results in significant increase in debt, what can be done?

One answer is a move from the era of leveraged buyouts to a new period of executive "leveraged buy-ins." In a leveraged buy-in (LBI), executives put up their own money, usually by borrowing, to gain a significant ownership position in their companies. With this added ownership comes the risk of loss of their own assets but also the opportunity for financial gains greatly in excess of those of the average top executive.

Today, the vast majority of top U.S. executives have virtually no risk of losing money they have invested in their companies - even if company performance deteriorates dramatically or if the business fails to earn returns available on a Treasury bill. At the same time, these executives have far less gain opportunity...