Rob Cox: Coke takes fizz out of shareholder spring

April 24, 2014

By Rob Cox
The author is a Reuters Breakingviews columnist. The opinions expressed are his own.

America’s shareholder spring hit a cold patch. Just when it seemed investors were finally breaking through entrenched boards’ barricades, the owners of Coca-Cola turned to jelly, led shockingly by Warren Buffett. The failure to challenge a transfer of vast shareholder treasure to the top 5 percent of Coke’s soda jerks shows the agency problem is still alive and well in American capitalism.

Not that investors will retreat from behaving more like owners. Greater shareholder democracy is still on the march. Last month, for instance, activists made nearly 100 U.S. Securities and Exchange Commission filings, exceeding the February number by a third, according to Activist Insight.

The capital markets are filled with anecdotes about shareholders getting more involved. Massive companies have seen their cages rattled by uppity investors with minor economic stakes. Some smaller firms have been forced to change strategy entirely just to satisfy stakeholder demands. Even little guys are getting into the act, successfully putting resolutions on the ballots at annual meetings.

While many of these actions are substantive, some are frivolous, even downright nit-picky: Should Darden Restaurants spin off Red Lobster with or without its real estate? Still others are a total waste of time: Should General Electric hire an investment banker to sell itself?

None, however, had the signaling power of the Coca-Cola compensation debate. Coke tops CoreBrand’s 2014 ranking of the most powerful brands in the world. A $180 billion market capitalization makes the beverage giant one of America’s 20 largest public companies. Its stock is widely held by pension funds, mutual funds and individual investors. Its largest holder is arguably the most respected investor on the planet.

But like a senior citizen clinging to his Cherry Coke, company owners resisted change. On Wednesday, just a small minority of shareholders voted against a compensation plan that would potentially have handed up to $16.6 billion worth of stock to 6,400 executives. It makes sense to align the interests of some of Coke’s most prized employees with investors by compensating them in part through equity, but the plan was just too big.

It was a classic example of what economists call the agency problem. In short, the contract between the principals – Coke shareholders – and their agents, company management, was dramatically off kilter. It’s not a new phenomenon. The extraordinary increase in executive pay over the past few decades is a testament to the failure of these so-called principals to assert control over their agents.

But in an age when activist investors are taming wayward management with ever-increasing war chests, the balance should be shifting. That’s especially true at companies like Coca-Cola that have mature businesses and long-standing assets.

Coke is obviously no startup. It has had the same company historian for 35 years, six years longer than Mark Zuckerberg has been alive. Its secret syrup was first mixed by a former Confederate soldier as a tonic in the late 1880s. The company is now a global business that requires careful stewardship.

But it can no longer expect growth much above global GDP. In the last three years, net operating revenue and earnings have been flat. All that seems to have blossomed is Coke’s long-term debt, which is up 39 percent since 2011. These figures partly explain why Coke’s stock performance has lagged the S&P 500 Index over the past five years.

They also suggest why Wintergreen Advisers’ David Winters objected to a plan that would have effectively handed assets created by previous generations of Coke entrepreneurs to today’s shop stewards. Coke’s defense – that dilution from the option scheme could be offset by stock buybacks – only compounded the notion that the principals’ wealth is being used to overpay their agents.

But the real disappointment is that Buffett, known as a bold straight-shooter, came off as a coward in the Coke affair. He didn’t agree with the company’s compensation plan but abstained from voting for fear of suggesting he lacked confidence in Chairman and Chief Executive Muhtar Kent.

As Winters summed it up, Buffett “had the opportunity to take a stand against excessive management compensation and failed to seize it.” That’s true. But by saying later he thought the plan stunk, the Oracle of Omaha may have at least sent a useful message: The next proposal to transfer so much booty from investors to their agents should be struck down.

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