Size Matters

I admit it, I’m a metrics geek.  I’m always on the lookout for new ways of measuring even inane processes, and always probing for the underlying forces that influence those metrics.  Ratcheting back to a small set of three or four key metrics for my organization, a manageable number for the typical person, requires great effort on my part as I’d rather see a balanced scorecard filled with wonderful numbers in one point type.

This weekend’s Wall Street Journal pointed me to an article in the latest issue of Business Week that described a study comparing the size of the mansions of S&P 500 CEO’s and the financial performance of the companies they run.  Most people would now comment that the two finance professors that undertook the study have too much time on their hands.  However I, being the metrics geek, of course say that it’s about time someone looked at that relationship.  The result?

Yermack and Liu found that 12% of them lived in homes of at least 10,000 square feet, or on a minimum of 10 acres. And their companies’ stocks? In 2005 they lagged behind those of S&P 500 CEOs living in smaller houses by 7%, on average.

Yermack and Liu also looked at 164 CEOs in the sample who bought houses after taking the corner office, and found 23 had gone for big homes. There was the 13,000-sq.-ft. L.A. house bought by Hilton Hotels’ Stephen Bollenbach in 1997 and the 24-acre estate in Bedford, N.Y., purchased by Howard Solomon of Forest Laboratories in 2002. In the 36 months after their purchases, Hilton trailed the S&P by 74% and Forest Labs by almost 25%. Hilton declined to comment, as did Forest. And together, all 23 companies lagged the S&P by roughly 25% in the three years after their CEOs’ purchases, while smaller-home buyers’ companies beat it by 22%.

Now the mind of the metrics geek goes into overdrive.  What underlying factors could cause such a relationship?  Of course the article goes silent at that point and leaves the answer to our imagination and perhaps informed speculation.  I can think of a couple possibilities, the first being:

• The CEO is more focused on size than value.

To test that hypothesis we need to put aside any speculation that would require interviewing the CEO’s spouse and urologist.  But a perfect test case might be GM’s Wagoner, who is very focused on being "#1 in sales" regardless of profitability.  Although GM’s fortunes have improved significantly at least in the short term, they are still pursuing strategies like buying an unprofitable Malaysian automaker simply to retain the title of number one in unit sales.  So… does anyone know the size of Wagoner’s house?

But a second possibility also comes to mind:

• The CEO doesn’t know how to recognize waste.

Let’s be serious… who really needs a 13,000 square foot house?  My wife and I sometimes go to open houses, especially in neighborhoods we might be interested in moving to.  Last weekend we went to one just south of San Luis Obispo in an area known as Edna Ranch, which is a 3,000 acre working cabernet vineyard with 35 custom homes sprinkled on it and the rest forever zoned vineyard.  If you’ve been to California’s central coast wine country you’ll know the area is visually stunning.  My wife and I, wine lovers with no kids, have kept our eyes on the small handful of homes in that area that are of average size but architectually stunning, and even made an offer on one last year. 

But the rest of the "homes," if that’s the correct word for them, would be more at place in Orange County.  These McPalaces are in the 7,000+ square foot range, often the french chateau style that is a little out of place in California, and have so much marble that you wonder if the weight of the house would cause the entire vineyard to sink.  Luckily each "home" is separated by many acres of rolling vineyard so you don’t have to look at them.  The McMansion my wife and I toured had so much space, so many bedrooms, so many nooks and crannies, that there would be entire sections of the house that we wouldn’t see for years at a time.  The cats might get lost and never be found, or we could give each cat their own bedroom suite. 

So much waste.

Waste really bugs me, as I’m sure it does most people in the lean manufacturing community.  Too much space, too much room to store clutter, paying for utilities on space you never spend time in, lost cats.  But apparently it doesn’t bug those executives with their mansions.  Putting on a show of style and opulence overrides whatever pang of waste they feel. 

And I bet that same confluence of forces carries over to how they run their companies.  Without a focus on and disdain for waste, the efficiency and competitiveness of their companies suffers compared to their peers, and the stock performance declines.

Metrics can be so much fun!