{"id":507,"date":"2017-03-31T17:32:41","date_gmt":"2017-03-31T17:32:41","guid":{"rendered":"http:\/\/charliemungersays.com\/?p=507"},"modified":"2017-10-24T23:14:38","modified_gmt":"2017-10-24T23:14:38","slug":"69-wesco-financial-annual-meeting-2005-lessons-learned-part-2-points-7-12","status":"publish","type":"post","link":"https:\/\/charliemungersays.com\/index.php\/2017\/03\/31\/69-wesco-financial-annual-meeting-2005-lessons-learned-part-2-points-7-12\/","title":{"rendered":"69. Wesco Financial Annual Meeting 2005: Lessons Learned – Part 2 – Points 7-12"},"content":{"rendered":"

\"\"<\/a>Excellent Book: Charlie Munger For All Seasons<\/a><\/a><\/strong><\/p>\n

Point 7. Should Accounting Firms Do Only Audit? Also, Combination of Flaws From Accounting Firms and Investment Banks Can Lead To A Big Mess <\/strong><\/p>\n

Accounting firms and investment banks had reached a near bottom. The combination helped messes like Enron to happen. In the accounting business, you\u2019ve had a change \u2013 it\u2019s been separated from the consulting business.<\/p>\n

There\u2019s another temptation: building buildings. You can save a lot of money by pouring less concrete, which is why buildings in Latin America often fall down. People will yield to temptation if they\u2019re not carefully checked, so we have regulations and the building commissioners actually have to be present when the concrete is poured. By and large, [the result is that] the building record is pretty good in the U.S. Building inspectors and permitters are like judges \u2013 they are paid a salary. In accounting, we\u2019re not going to treat them like building permit issuers \u2013 limit them to just checking things. We let them do consulting for tax shelters, etc. I was for it all the way along because for the most part they could do these things and the behavior was pretty good. But four or five years ago, this changed and pretty much every major accounting firm was selling fraudulent tax shelters and were participating \u2013 at least one partner was \u2013 in accounting fraud. They have thrown out those partners, in some cases reluctantly, but in any case they\u2019re gone and the accounting is way better.<\/p>\n

Whether we should have gone all the way and only let accounting firms do audits is an interesting question. I like accounting firms \u2013 we\u2019ve had good service. But given all the temptations, I don\u2019t know if it wouldn\u2019t be best to make them do only audits. If we have another wave of scandals, CPAs will be asked to choose between certifying the accounts of publicly traded corporations vs. other activities. They hate it \u2013 checking the accounts is very boring; other work is more interesting, so they won\u2019t be able to attract good people [to the profession].<\/p>\n

The investment banks were just unbelievable. If you want to be really horrified, those of you who haven\u2019t already read FIASCO [The Inside Story of a Wall Street Trader, by Frank Partnoy], the account of the derivatives trading desk at Morgan Stanley, it will turn your stomach.<\/p>\n

I recommend the new book by Kurt Eichenwald, Conspiracy of Fools [about the Enron scandal]. He takes some liberties, like what the guy was thinking as he got on the elevator, but I don\u2019t think the gist is wrong. The title is right: Conspiracy of Fools. A lot of this was delusion.<\/p>\n

But the thing that is sickening is the investment bankers \u2013 but lawyers and accountants behave badly too. It\u2019s good to rub your nose in it. If you can\u2019t stand it all at once, then do it in bursts. If you throw up in between episodes, that\u2019s OK too. (Laughter)<\/p>\n

Some of these faults ought to be judged as they are in the church \u2013 as mortal vs. venial. The sin of smoothing of earnings was so widely done by so many people that we have to accept it as a venial sin. But now we\u2019re changing the category, and we should. I think<\/p>\n

we should think long and hard before we smooth the achievement record. I think a lot of smart people have decided \u201cI\u2019m not going within 10 miles of this whirlpool that can suck you down, break you up and spit you out.\u201d Some people who only had small sins are going to get clobbered. But overall the prosecutorial discretion has not been abused.<\/p>\n

However, once people are disgraced, pay a fine, etc., what\u2019s the point of beating up a guy who\u2019s half dead? Once he\u2019s disgraced, do you need to stomp on him?<\/p>\n

I don\u2019t want to suggest that all of the puffery and folly is over, however. Now they wear tailored suits, but there\u2019s a good bit of the old Mark Twain culture in those suits.<\/p>\n

Part of it is from people who shrink from doing unpleasant things. Who hasn\u2019t? It\u2019s terribly unpleasant to fire someone. Or how do you tell someone not to go into a field [of business] with lots of money to be made because it smells? Or if their incomes are going down, there\u2019s huge pressure to invent some products to keep their income up.<\/p>\n

That\u2019s why Warren doesn\u2019t lay people off when our home-grown insurance company volume goes down.<\/p>\n

There\u2019s been ghastly behavior in the sale of annuities. The idea of shifting an old lady from one annuity to another to make a commission \u2013 you laugh, but it happens. The trouble is always with us. At the cost of being sickened by all the scandal, I think the behavior is getting better.<\/p>\n

Point 8. Hedge Funds Results: You Need To Verify<\/strong><\/p>\n

I don\u2019t know what will happen with hedge funds. They now have $1 trillion and all of them are on margin. History would indicate a certain percentage will lie about their results if they have any discretion whatsoever, and will try to cover up market errors if they can. I can confidently predict scandals. It will always be thus.<\/p>\n

If you rise high in a corporation or elsewhere in life, you have a duty to be an exemplar \u2013 you have a duty to take less than you deserve, to set an example. [And By The Way, Jack Welch Was Underpaid When He Was Chairman and CEO of GE.]<\/p>\n

The corporate governance thing, as it affects compensation, I do not think is getting improved. They [CEOs] will accomplish the same old thing, helped by clever lawyers. People will just get more sophisticated in the way they do it.<\/p>\n

Perhaps a semi-public place like the NYSE will behave better, but the ordinary corporation will continue to escalate compensation. The key officers appoint the directors and then the directors decide how much the officers make. And then the officers increase the compensation of the directors, etc. You look around the table and nobody else is objecting. There are psychological pressures tending to gross abuse.<\/p>\n

That\u2019s not to say that all CEOs are overpaid. In my opinion, Jack Welch was underpaid for what he did at GE. But if you rise high in a corporation or elsewhere in life, you have a duty to be an exemplar \u2013 you have a duty to take less than you deserve, to set an example. This goes all the way back to Athens. The Athenians were like today\u2019s United Jewish Appeal.<\/p>\n

Public duty was not optional. Civilized man had a duty to act as an exemplar \u2013 and this was not a minor duty; it was a major duty of life. This is not mentioned by compensation consultants. (Laughter)<\/p>\n

Point 9. Code Of Ethics: Apply Conduct Unbecoming an Officer<\/strong><\/p>\n

This should change. When I was an officer in the military, we had a rule called Conduct Unbecoming an Officer. It was not specific, but it said there were certain ways to behave as an example for others. I don\u2019t see why we shouldn\u2019t have this for our corporate executives. I would argue the CEO of Boeing was removed for Conduct Unbecoming an Officer. Messing up the email system of a corporation with hot and dirty email is Conduct Unbecoming an Officer. I would love to see the SEC make it explicit: \u201cWe hereby exercise our authority and say that there will be a new standard for officers of public companies called Conduct Unbecoming an Officer.\u201d The lawyers would scream though \u2013 it\u2019s not specific enough.<\/p>\n

But if we ask our military officers, who risk their lives and risk being maimed [to adhere to this standard], then why can\u2019t we ask this of some guy making $2 million per year? (Applause) Well that\u2019s corporate governance. It\u2019s certainly been interesting to watch as these messy stories unfurl.<\/p>\n

    \n
  1. If a well-trained orangutan can see certain serious financial problems and the people in authority chose to ignore, what do you expect?<\/strong><\/li>\n<\/ol>\n

    Oh, I\u2019d say this: if you read the Eichenwald book on Enron, if there\u2019s one issue to highlight, it\u2019s that Arthur Andersen and the SEC allowed them to use Wall Street accounting to account for long-term contracts. It\u2019s one of the worst things. A well-trained orangutan could see what it would lead to, but the SEC and the accountants lay down. This was 90% of the problem.<\/p>\n

    When accountants lie down, they are failing civilization in a truly important way. There\u2019s no reason that people so secure \u2013 there are only four firms and they\u2019re all the same, so it doesn\u2019t do any good to fire them \u2013 can\u2019t do better than they do. They\u2019re secure and it\u2019s terrible publicity, so there\u2019s no reason the accounting can\u2019t be better.<\/p>\n

    10. Harvard and Yale\u2019s Investment Successes Have Unintended Impact<\/strong><\/p>\n

    There\u2019s $1 trillion in hedge funds and private equity is 3-4 times larger. Private universities have fixed-income departments, private equity for mid-stage investments, masses of complicated math to track risk in each class and how to judge each class, etc.<\/p>\n

    So far, it\u2019s worked beautifully for Harvard and Yale \u2013 they got into some good things. But I feel about Harvard and Yale the way I feel about my own career: I feel that by getting rich in the way I did, I think my own example has hurt my own country. I think that Harvard and Yale have caused every charitable foundation to act in the same way. I think it has pernicious effects on civilization.<\/p>\n

      \n
    1. Too Many Brains Going Into Money Management Is Not A Good Thing<\/strong><\/li>\n<\/ol>\n

      It\u2019s my guess that something like 5% of GDP goes to money management and its attendant friction. I define it broadly \u2013 annuities, incentive pay, all trading, etc. Nobody else has used figures that high, but that\u2019s my guess. Worst of all, the people doing this are among the best and the brightest. Hundreds and thousands of engineers, etc. are going into hedge funds and investment banking. That is not an intelligent allocation of the brainpower of the civilization.<\/p>\n

      While we\u2019re doing this, in Korea at Samsung, they have a meeting every day at 11 pm to review the day. Well, who is going to win if our brainpower is going into hedge funds and theirs is having a meeting at 11 pm? But nobody is talking about this. These people are honored. If people talk at the country club, one person might say, \u201cBoy, my daughter is getting married to a hedge fund manager.\u201d They\u2019re making heroes.<\/p>\n

      My daughter is an art dealer and she says that most of her business is selling to hedge fund managers. If you make $100 million, why not have a fancy apartment and two Chagalls? You can\u2019t get this [kind of money] elsewhere, so it goes on.<\/p>\n

        \n
      1. Leverage is a Dangerous Thing That Can Lead To Real Mess<\/strong><\/li>\n<\/ol>\n

        The action, the trading, the amount of credit… And to get good returns, the hedge funds need more use of credit. Of course, the firms that are extending the credit are the investment banks. If there\u2019s any great wave of running for the exits, those people will get out fast. Unless the Federal Reserve decides to protect hedge funds, you could have a real mess.<\/p>\n

        http:\/\/www.valuewalk.com\/wp-content\/uploads\/2014\/05\/Charlie-Munger-2005-2013-minus-Harvard-Westlake.pdf<\/p>\n","protected":false},"excerpt":{"rendered":"

        Excellent Book: Charlie Munger For All Seasons Point 7. Should Accounting Firms Do Only Audit? Also, Combination of Flaws From<\/p>\n","protected":false},"author":1,"featured_media":0,"comment_status":"open","ping_status":"open","sticky":false,"template":"","format":"standard","meta":{"om_disable_all_campaigns":false,"footnotes":""},"categories":[3,4],"tags":[],"class_list":["post-507","post","type-post","status-publish","format-standard","hentry","category-investment","category-wisdom"],"jetpack_featured_media_url":"","_links":{"self":[{"href":"https:\/\/charliemungersays.com\/index.php\/wp-json\/wp\/v2\/posts\/507","targetHints":{"allow":["GET"]}}],"collection":[{"href":"https:\/\/charliemungersays.com\/index.php\/wp-json\/wp\/v2\/posts"}],"about":[{"href":"https:\/\/charliemungersays.com\/index.php\/wp-json\/wp\/v2\/types\/post"}],"author":[{"embeddable":true,"href":"https:\/\/charliemungersays.com\/index.php\/wp-json\/wp\/v2\/users\/1"}],"replies":[{"embeddable":true,"href":"https:\/\/charliemungersays.com\/index.php\/wp-json\/wp\/v2\/comments?post=507"}],"version-history":[{"count":2,"href":"https:\/\/charliemungersays.com\/index.php\/wp-json\/wp\/v2\/posts\/507\/revisions"}],"predecessor-version":[{"id":866,"href":"https:\/\/charliemungersays.com\/index.php\/wp-json\/wp\/v2\/posts\/507\/revisions\/866"}],"wp:attachment":[{"href":"https:\/\/charliemungersays.com\/index.php\/wp-json\/wp\/v2\/media?parent=507"}],"wp:term":[{"taxonomy":"category","embeddable":true,"href":"https:\/\/charliemungersays.com\/index.php\/wp-json\/wp\/v2\/categories?post=507"},{"taxonomy":"post_tag","embeddable":true,"href":"https:\/\/charliemungersays.com\/index.php\/wp-json\/wp\/v2\/tags?post=507"}],"curies":[{"name":"wp","href":"https:\/\/api.w.org\/{rel}","templated":true}]}}