Ralph Whitworth interview, July 19, 2002
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On the July 19, 2002 broadcast of Wall $treet Week with FORTUNE, co-host Geoff Colvin sat down with Ralph Whitworth, managing member of Relational Investors, a fund for institutional investors. A transcript of their conversation:
GEOFF COLVIN: Now plenty of people who invested in Enron, WorldCom, Tyco, Global Crossing, among other companies, are wishing now that Ralph Whitworth had invested in them too. Ralph runs a $1.7-billion fund called Relational Investors, and its style is a little unusual and highly successful. He looks for companies with troubled management, then he buys a three to 10 percent stake -- big stake -- often gets himself on the board of directors, and tries to turn the place around. He has done it at several troubled companies. He's now on the board of Mattel and Waste Management, among others.
Ralph and shareholder activism go way back. In the '80s he worked with corporate raider T. Boone Pickens, scaring the daylights out of underperforming CEOs everywhere. Now, suddenly, investors are urgently interested in issues he has been talking about for years. Ralph, thank you for being with us.
 RALPH WHITWORTH: Thank you, Geoff.
COLVIN: You have been in a lot of boardrooms, on a lot of boards. You've seen a lot of troubled companies from the inside. When you look at Enron, Worldcom, Tyco, Global Crossing, all these others, who's to blame?
WHITWORTH: Well, you've got to start with the management and the board. You can't get away from that. But if that's where we stop, then we will have done ourselves a disservice in corporate America. Because each of those cases, remember, are different, different situations. One involved an executive's outside activities. Another one was a big accounting fraud apparently. Another one was poor risk management at the company, and so on. And so what is the common denominator there? The common denominator is, is that the dynamic was missing in those boardrooms where someone, in the case of Enron, didn't blow the whistle and raise their hand when the board was asked to wave their ethics policy, for example, and say, "My goodness. If we have an ethics policy, why would we ever wave it?" And then have a long debate over whether or not they should do that. That isn't how it took place. So why is that dynamic missing? Because by and large these are good people. They're honest. They have good backgrounds. They have integrity, as far as we can tell. And I'd say 99 percent of corporate board members fit that description. So why is that? I get asked, "How can this happen?" Well, I think it's because this dynamic's missing. Why is that missing? Because of the way we compose the boards. You dance with who brought you, right?
COLVIN: Right. Meaning the board members don't want to offend the guy who invited them on to the board, which is the CEO.
WHITWORTH: Right. And so what can shareholders do about that?
COLVIN: Well, that's the question.
WHITWORTH: Okay. The tools are already there. People are talking about what do we need to do, what laws do we need to change? The laws have already been changed. They were changed in a big way in 1992. There was a big reform.
COLVIN: Well, and you're being modest because you were one of the main forces behind that big reform.
WHITWORTH: Well, okay. So shareholders, what can they do? They can vote against directors. They never do. There's a box that says "all nominees" and then there's one that says "some, but not these." You never mark, they never mark that one. The other one is now, after that dreform, you can actually nominate a director, a shareholder can, where you couldn't do that before an individual director, or a few. But that isn't done by institutional investors. And I'm really talking about institutions here primarily because they're the ones with the resources and the research ability to do this. So that's another place to place some blame.
COLVIN: On the big institutions that own so many of the shares in these companies.
WHITWORTH: Absolutely.
COLVIN: And why don't they do the stuff that you do? Because your fund has proven, I think, that it works. It works financially.
WHITWORTH: It does work. And why they don't is something that I struggle with, but I think that some of them aren't structured appropriately for that. And there may be more important reasons for the way they're structured. Some of them don't have the right incentives. Some may even have conflicts of interest that cause them not to want to do that. But whatever it
is, if we don't focus on the demand side of this equation from the shareholders, then we're going to miss a huge part of it.
COLVIN: Well, now you're looking for companies that fit your pattern right now, companies that you can improve by going to work on them. What do you like now? What are those companies today?
WHITWORTH: Okay. Well, I'm not going to tell you the ones that we're working on right now because hopefully if we understand them better than the other guys out there, we'll be able to buy them at a better price.
COLVIN: Right. Okay, your big positions.
WHITWORTH: Okay, our big positions. For example, ConAgra, one that was in the news today. That's a company that has a turnaround underway.
COLVIN: In the news today, by the way, because they recalled some beef.
WHITWORTH: They recalled 19 million pounds of beef. That's a company that, I think that was an overreaction. It's a wonderful company, a set of brands that has been overlooked. The management has initiated a turnaround going back the last six, seven months. They've taken concrete steps, and we think they are on a path to, over the next few years, which is going to be an excellent turnaround.
COLVIN: Who else?
 WHITWORTH: The other one out there is Aetna. Wow and that's a bit of a surprise. I don't know if you know, but Jack Rowe is the new CEO there, and he was hired from a non-profit institution. There was a lot of skepticism. But what it tells you is somebody that's smart--that's willing to surround themselves with smart people--can do these jobs too, and he's doing a heck of a job there. The stock's gone up quite a bit, so maybe some of it's already out of it.
COLVIN: Maybe it's happening. Another company in the news this week was AOL Time Warner, parent company of Fortune magazine.
WHITWORTH: Yeah.
COLVIN: The stock is down 75 percent or so over the past 12 months. The COO, Bob Pittman, left yesterday. It turns out he got a $66 million gain on options that he exercised last year, when of course the stock was a great deal higher than it is today. Are you okay with that?
WHITWORTH: Well, that's a tough one. You know, certainly I don't know what he was thinking or what kind of information he had. I'd be surprised if he would have been able to see out this far. But what it does point up is that managements and board members need to be extremely cautious and extremely reluctant to sell shares while they're still at the company. And there are situations, in fact we have sold shares at times while we've been involved in companies. But boy, let me tell you, that is a decision that you should think long, long, long and hard about.
COLVIN: You were involved in one of the biggest messes in corporate America, up until the recent rash of them, which was Waste Management. In fact, you became chairman of that board of directors for a period of time. What did you learn?
WHITWORTH: I learned a lot. First I want to point out that that company has gotten caught up in a lot of this, and these events occurred back in '98 and '99, and that company has an outstanding turnaround underway and a great management team. But what did I learn? I learned, one, is that management arrogance is a red flag, and I think people probably learned that from maybe Enron and some of these other cases, too. But when you see an arrogant management that isn't, doesn't want to be bothered by the pesky little questions and feels if they're confident, they'd be able to stand there all day and answer any question you had. So that's one.
COLVIN: And how can a regular, individual investor spot that trait?
WHITWORTH: Pretty tough, but the board can spot it. And if they don't have time for the board or they're rushing through the meetings or you feel like you're put off if you ask a tough question, you better be careful if you're on those boards. Okay, and I think there's probably ways that an individual could see that, too. The other one I learned is, is if you're going to take a bath, get all the way in, okay? And that's what we did at Waste Management. When I became chairman, you may recall we brought in 1200 outside auditors. People said, "My goodness!" But what we did is we scoured every last balance sheet in the company, came out, told the shareholders where they stood, and then went on from there. And that way we didn't have to go through years or months of Chinese water torture.
COLVIN: Meaning you got the bad news out and behind you and then you could proceed.
WHITWORTH: Yes.
COLVIN: You were instrumental in getting some rule changes made about the reporting of CEO compensation. As you look back, what's been the effect of that?
WHITWORTH: I don't think it's worked anywhere the way we thought it was going to. And I was -- you know, I thought that this was going to make a sea change and it hasn't.
The reason I think it hasn't is, again, because we don't have this dynamic in the boardroom. So even though we've had these -- and what you're talking about is the disparity between pay and performance that we were seeing in the early '90s, and it actually exploded even worse -- despite all the new disclosure in the late '90s, that still has to come from the demand side, the shareholders. And there are those out there that are trying and those that make efforts, CalPERS out in California. (Ed. note: CalPERs is the largest investor in Relational Investors) Shannon O'Brien, the treasurer of the state of Massachusetts is out in front of this. She understands where it needs to come from. Bill Miller here at Legg Mason. I mean you can go through a list. I shouldn't single out folks. But still it's an inch deep and a mile wide.
COLVIN: Yeah. You've talked about what institutional investors can do. Right now you are talking to an awful lot of individual investors. And we've only got a few seconds left, but what's your message to them?
 WHITWORTH: My message is, don't feel like you have to go escape the market. If you look at this country's history, we still -- you know, it's a tough system and some people say it's a bad system, but only until you consider all the alternatives -- we have the best system in the world. We have the best financial markets. We have the best companies. We have the most integrity within our companies.
So, long term, the equity markets outperform all other asset classes. So if you're thinking about your retirement or some long-term objectives, don't flee the equity markets.
COLVIN: Keep the faith.
WHITWORTH: Yes.
COLVIN: Ralph, thank you very, very much.
WHITWORTH: You bet.
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