Waste Management was a star stock of the 1970s and early 80s. Its founders, Dean Buntrock and Wayne Huizenga (who went on to launch the worldwide Blockbuster video rental chain) understood that domestic trash collection could be a national business. Until then, garbage collection was the preserve of thousands of small, regional companies dealing only with a local area. Waste Management saw that vast economies of scale could be achieved if these companies could be folded into a single company with nationwide reach.

Waste Management moved aggressively, and its growth was phenomenal. Founded in 1971, it grew by acquisition (at one point it was performing 200 mergers and acquisitions a year) to become the largest waste haulage company in the country. In doing so, it acquired more than 2,000 companies.

The result was a fiendishly complex corporate organization. At the peak of Waste’s expansion, the company featured about 250 local divisions, 40 regional offices, and nine area offices not to mention headquarters.

Initially, the market didn’t mind these convolutions. Adjusted for splits, the stock rose from $1.84 in 1980 to the mid 40s in the early 1990s.

But growth at this speed couldn’t last. As the company grew, so it had to acquire even more companies to maintain that growth. Its size impeded its continued acceleration. Furthermore, the market settled down. Other companies followed Waste’s lead and consolidated their own regions. Over a period of fifteen to twenty years, the domestic trash hauling business matured.

But Waste wasn’t done. Its managers continued to insist it was a growth company. The company diversified into international waste hauling, recycling, environmental cleanup, hazardous waste disposal, and home services. By 1990, WMX had become a complex conglomerate that owned or part-owned companies ranging from a UK water utility to lawncare contracting.

Some idea of the sprawl that was WMX is provided by the company's 1996 10-K filing with the SEC. The company listed more than 700 direct subsidiaries, which in turn owned a further 600 sub-subsidiaries.

The Wall Street Journal argued that Buntrock “saw the company as a kind of mutual fund of environmental business, setting up as many as four publicly traded units.”

WMX Technologies consisted of Waste Management, which concentrated on North American residential and industrial solid waste disposal.

A publicly traded subsidiary (until 1995), Chemical Waste Management, dealt with hazardous waste, and a 60 percent owned subsidiary, Advanced Environmental Technical Services provided hazardous waste services. A further wholly owned subsidiary, Chem-Nuclear Systems dealt with radioactive waste management.

The company’s international operations were provided through Waste Management International, which was owned 56 percent by WMX and 12 percent each by the company’s Rust International and Wheelabrator Technologies subsidiaries.

Waste Management International offered services in ten countries in Europe as well as Australia, South America, Asia and the Middle East. It also owned 20 percent of Wessex Water, a publicly traded water utility in the UK.

Wheelabrator Technologies, (58 percent owned by the company) was a public company primarily providing clean air and water to municipalities and industry.

Rust International, also a public company until WMX bought back its stock in 1995, was part owned by WMX and Wheelabrator. It offered environmental and infrastructure engineering and consulting ranging from hazardous waste cleanup to scaffolding provision.

Rust had international operations in 35 countries.

Rust owned 41 percent of NSC Corp., a publicly traded provider of asbestos abatement, and a 37 percent interest in OHM Corp., a publicly traded provider of environmental remediation services.

Finally, Rust owned a 19 percent interest in ServiceMaster, a provider of management services including management of health care, education and commercial facilities, lawn care, pest control and other consumer services.

In 1993 Waste Management renamed itself WMX to reflect its modern, all-encompassing presence. Buntrock boasted that WMX had become "one of the most important companies in the world."

The trouble was that, almost without exception, they lost money in these non-core areas. For example, in the 1980s, there was a sudden fear that the US was running out of landfills. Waste Management spent wildly to develop more landfill facilities only to suffer from vast overcapacity. Meanwhile, Americans produced less waste as producers emphasized ‘source reduction’ creating less packaging in the first place.

At the same time, a vast market was projected for recycling. Waste Management, like others, moved to attack this market, only to find that the expected development never happened. The market for treating hazardous chemical waste proved similarly elusive.

One of the authors, Nell Minow, told the press: “They were successful for so long that they didn’t realize that they stopped being successful ... They were successful in their core business and made the fatal mistake of trying to go beyond that.” Whose job is it to ensure this doesn’t happen?

Gold into garbage

By the mid 1990s, WMX’s star had tarnished. The Washington Post commented: “In the 1980s, when investors looked at the company named Waste Management Inc., they saw gold. But in recent years, the company now known as WMX Technologies has looked more like garbage.”[i]

In 1994, the picture darkened considerably – profits fell by 50 percent, and the company failed to meet earnings projections. Meanwhile, the stock headed south -- ticking over at over $46 in February 1992, it slipped to less than $23 in April 1994.

If one looks back at the company’s ten year performance from 1996, it is apparent that the company had experienced a sharp downturn in its fortunes.

If you’d invested $100 in WMX in 1986, it would have been worth $318 in 1991. The same sum invested in the S&P 500 index and the Smith Barney Solid Waste index would have returned $204 and $222 respectively. In other words, from 1986-1991 WMX was outperforming both the market and its sector.

By 1996, the story is less sunny. That same $100 invested in 1986 would now be worth $269, about one-sixth less than five years previously. The same sum invested in the S&P 500 would be worth $415 and an investment in the index was worth $215.

So, WMX was still doing a bit better than its competitors, but the company was failing to keep up with the bull market. And, worse, the return over five years was actually negative.

In fact, WMX continued to report profits, but these were all but wiped out by year after year of special charges. Such special charges are meant to be exactly that – special. They reflect extraordinary one-time losses. Unfortunately, at Waste, they became all too familiar.

From 1990, these charges read as follows:

1991
$260 million pretax charge to boost reserves for cleaning up old dumps.

1992
$159.7m pretax charge to write down value of medical waste business and incinerators.

$23.4m after-tax charge to write down value of asbestos-cleaning business.

1993
$550 million pretax charge to write down value of hazardous waste business.

1994
$9.2 million pretax charge to get out of marine construction and dredging.

1995
$140.6m pretax charge, mostly further write down of value of hazardous waste business.

$194.6m pretax charge to write down value of international waste business.

1996
$88m after tax charge on sale of Wessex stake.

In a 1996 meeting with the authors, Dean Buntrock said: “The trouble is, no one believes our numbers.” What warning bells does this ring?

What do the special charges tell you about the company’s attempts to diversify?

But the company appeared unfazed by the charges or the stock’s downward trajectory and continued to pour capital into projects. The Wall Street Journal quoted Steve Binder, analyst at Bear, Stearns who said: "They continue to allocate resources as if they were still participating in a growth industry."[ii]

Indeed, Buntrock told the 1994 annual meeting: “We are a growth company.”

Was it? If not, whose job was it to find an alternative strategy?

Lens and Soros

In the mid-1990s, Lens Inc., an investment fund of which the two authors are principals, invested several million dollars in WMX.

Lens’ first concern was to call for fresh talent on the board. When the fund first invested, the board was made up as follows:[iii]

H. Jesse Arnelle, 61, director since 1992.

A corporate lawyer, and holder of five other non executive director positions.

Jerry E. Dempsey, 62, director since 1984

A former employee of the company -- he served as senior vice president from 1988 to 1993. Since retiring from Waste, he'd acted as chairman and CEO of a glass, coatings and chemicals company.

Dr James B. Edwards, 67, since 1995

Former United States Secretary of Energy, former governor of South Carolina, president of the Medical University of South Carolina. He held eight other non-executive director positions.

Alexander B. Trowbridge, 65, since 1995

Former secretary of Commerce. He had served as consultant to the company since 1990, an arrangement which in 1995 was worth $30,000. He held nine non-executive director positions.

Dr Pastora San Juan Cafferty, 54, since 1994.

Professor at the University of Chicago School of Social Service Administration.

Donald F. Flynn, 55, since 1981.

He had served as Senior Vice President of the company from 1975 to 1991. He had been CFO from 1972 to 1989 and the treasurer from 1989 to 1986. He was also a director of two WMX subsidiaries. Until the end of 1994, Flynn was making $300,000 p.a. in consultancy fees. The consulting arrangement included a retirement benefit that was due to pay out for the rest of his life.

James R. Peterson, 67, since 1980.

The CEO of the Parker Pen company.

Phillip B. Rooney, 50, since 1981

He had been an employee of the company since 1969.

Dean L. Buntrock, 63, chairman and CEO since 1968.

Howard H. Baker, 69, since 1989.

Lawyer, Reagan’s chief of staff, three terms as US Senator. He was a partner in a law firm retained by the company.

Peter H. Huizenga, 56, since 1968

Nephew of the founder, consultant to the company from 1989 to 1993. Served as vice president and secretary of the company from 1975 and 1968 respectively until he resigned from those positions in 1988.

Peer Pedersen, 70, since 1979

Lawyer, and Dean Buntrock's personal attorney. He was chairman of a law firm retained by the company.

It is noteworthy that non-executive directors also took part in a Phantom Stock Plan and stock option plans – they had a vested interest in the performance of the stock rather than the performance of the company. This was, as we shall see, highly significant.

Pedersen, an affiliated director, chaired the compensation committee. Baker, also connected, served on this committee. In 1995, the audit committee featured as many affiliated outside directors as independent ones. The five-member Nominations committee contained four affiliated outsiders.

So, of the 12 member board, two were full-time insiders, three were former employees, three were affiliated due to consultancy arrangements, and four were independent outsiders.

As Nell Minow told the press: “Two thirds of the board is on the payroll.”

The one, indeed the most important, area in which the board did demonstrate best practice was in stock ownership. James B. Edwards owned over 1,700 shares on joining the company. H. Jesse Arnelle owned over 9,000, and Trowbridge over 20,000. But even these shareholdings, given the numerous other connections that tied the directors to the incumbent management, failed to create the right environment of tough-speaking independence.

There was one director with a considerable stake - Peter Huizenga, nephew of Waste’s co-founder Wayne Huizenga. He owned over eight million shares. But, like management, his stake in the company was intimately bound up in its past. Peter Huizenga showed little aptitude or appetite for the tough choices required in a turnaround.

First feelers

Lens sought and were granted a meeting with management. The Lens principals came away with the view that the executives didn’t perceive a problem. They were confident that their strategy was the right one, and that the magical growth of earlier years would return.

Lens concluded that the very success of the company’s early years - a success that the present managers had helped create - was inhibiting an honest view of the current situation. Having established a great company, the founding team couldn’t view the company any other way.

Lens came away with three conclusions:

that Dean Buntrock was a dominant CEO who stifled debate

that there was a need to clean up the numbers

that the board required more aggressive outside talent.

Related to the need to clear up the numbers was a need for a new CFO. James E. Koenig, with the company since 1997 and CFO since 1989, was the incumbent and had hence overseen several years of the restructuring charges. If, as Dean Buntrock said, “no one believes our numbers,” the problem was clearly partly Koenig’s. It was an early demand of Lens and other investors that Koenig be replaced.

In May 1996, the company had a rude shock. George Soros, the tycoon speculator who became famous for making $1 billion betting against the Bank of England in the September 1992 sterling crisis, announced that he had acquired more than 5 percent of the company. His stake was worth $750 million.

The investment was made by a Soros affiliate, Duquesne Capital Management, and was a clear signal of intent. Soros wasn’t a takeover predator in the traditional mode -- he had no plans to launch an all-out hostile bid for the company. But his investment gave notice that he expected change and soon.

1996 annual meeting

Lens attended the annual meeting to speak directly to the board about their concerns over the company’s long-term underperformance.

But the company had a surprise of its own. After nearly thirty years as chairman and CEO, Dean Buntrock announced that he would be stepping down as CEO, although he would remain as chairman. Long-serving lieutenant, Phillip Rooney who had also been at Waste since its birth, would replace him.

Though Buntrock’s semi-retirement perhaps indicated a change in attitude by senior management, it was clear to Lens and others that there was much still to be done. Although Buntrock was taking a hand off the levers of power, he remained a significant presence as chairman, with long-time insider Rooney moving up a place. In terms of substance, management hadn’t changed a bit.

In 1996, there were two shareholder resolutions, both opposed by the company.

The first, filed by the Central Pension Fund of the International Union of Operating Engineers and Participating Employers, called for a policy banning directors “from accepting consulting or other fees from the company.”

The statement noted that “directors owe their fundamental allegiance to the shareholders of the corporation … and not to management.” The proposal claimed that consulting fees paid out to directors may have run to hundreds of thousands of dollars a year: “there is an appalling lack of precise information provided to shareholders on the extent of these financial arrangements.”

The board said “this rigid restriction is unnecessary and ill-advised.”

The second proposal was filed by the Teamsters Pension Plan, calling for annual election of all directors. The resolution argued that that the move was necessary because “a number of concerns raise the possibility that WMX management may not be full attuned” to shareholders’ interests.

The Teamsters cited WMX’s poor record on executive compensation noting that “[pay] expert Graef Crystal found WMX’s CEO scored fifth in rankings of his peers when measuring low performance and high pay.”

The board said that the staggered system had received nearly an 80 percent shareholder vote in favor when it was proposed in 1985.

Both proposals were defeated, although the company made the surprise announcement that it would itself propose the same resolutions at the next year’s meeting.

After the annual meeting

In a further meeting, in October 1996, Lens offered the view that the company had never successfully diversified beyond domestic trash. The division still represented half the company’s sales, and easily reported the most profit. Rooney countered that he intended to sell $1 billion of underperforming assets by 1998.

Filtering through to analysts, the news of this restructuring sent the stock from the mid twenties to $34.

Lens continued to press for a revitalized board. In a meeting with Alexander Trowbridge, former secretary of commerce and head of the nominations committee, Lens noted that four directors were up for election in 1997. Lens argued that it was the perfect opportunity to bring in some tough new outsiders. In contrast to the incumbent board, Lens sought independent outsiders who could bring considerable business experience to the table in order to effect a turnaround.

Lens offered four names to Trowbridge, of which the company eventually accepted one -- Paul Montrone, who joined the board in January 1997. Mr Montrone, 55, was the CEO of Fisher Scientific International. Had also been a director of Wheelabrator since 1989.

Despite the promise of streamlining and the improved share price, Lens felt the company was still moving too slowly. It was convinced that the only route to fundamental change lay with new talent at the top of the company. It was inconceivable, in Lens’ view, that the company could be restored when top management and the board were made up of long-term insiders.

Lens had a multi-pronged strategy to keep the pressure up. In December 1996, the fund retained Spencer Stuart, the blue-chip recruitment firm, to gather names for a proxy fight for four seats on the board. The involvement of Spencer Stuart was evidence that shareholder activists had achieved mainstream legitimacy. It demonstrated that the shareholders’ involvement was credible, and concerned with long-term wealth creation to the benefit of the company and all its shareholders.

But if Spencer Stuart was happy to be associated with Lens, individual director candidates were less happy about getting involved in what could be a high-profile proxy contest. Spencer Stuart identified several people who expressed an interest in serving on the board, but who were unwilling to do so without being asked by the company. Lens forwarded their name to Waste’s board.

At the same time, Lens filed a shareholder resolution calling for an independent investment bank to be hired to study the divestment of assets. The resolution was a means of maintaining pressure on the company.

Lens also prepared a full-page advertisement for the Wall Street Journal that identified the Waste board as “long term liabilities.” The ad, similar to the one directed at Sears in 1992 (see page XX), was another means of needling the Waste board into action. Waste was informed of the advert, and told that dates had been booked for its publication.

Directors obey the Heisenberg uncertainty principle. Like sub-atomic particles, they behave differently when observed. Discuss

The Soros effect

George Soros’ group, with that $750 million stake behind them, continued to be active.

In December 1996, Stanley F. Druckenmiller, Dusquene’s chief investment officer, told Crain’s Chicago Business that he wished to see an overhaul at the top of the company: “We have become convinced that the only way the inherent shareholder value in the company can be realized is with a change in the current top management."

In the same month, the Soros group filed a statement with the SEC saying the investors were “frustrated with lack of progress” at the company, and questioned “the resolve of management about enhancing shareholder value.”

The company pressed ahead with its streamlining plans. It announced that it would sell its stake in the UK water supply utility, Wessex Water, and pledged to repurchase 25 million shares. But the moves failed to ignite the stock, which continued to bob around in the high twenties/low thirties.

Credibility problem

The company was now under considerable pressure to reform and perform. Two events further undermined the incumbent management’s credibility.

First, the company was found guilty of cheating a partner in the development of a hazardous waste site.

WMX had purchased the dump from the developers; part of the purchase agreement was that WMX would pay a percentage of the dump’s revenue over a period of years. But WMX’s creative accounting led to greatly understated revenue and hence a lesser payment to the developers. The court found that the accounting fiddle amounted to $91.5 million.

Though the episode did not concern the top executives, it was embarrassing because it seemed indicative of WMX’s approach to financial reporting. Analysts and investors instinctively seemed to distrust WMX’s numbers. Here, on a small scale, was evidence that they were right to do so.

Secondly, the company disclosed in filings to the SEC that senior management was cushioning itself for a possible change in control. The disclosures revealed that the executives had received large salary increases, hefty stock options and golden parachute arrangements. Sixteen members of senior management were awarded $13 million in restricted stock that would vest if the employee was terminated.

Rooney himself was blessed with a new five-year contract, a 25 percent increase in base salary, plus options on 350,000 shares - twice the grant he’d received the year before. The company said the raise and the options were in recognition of the fact that Rooney had been elevated from COO to CEO.

In August 1996, the company initiated a new three year rolling contract with James Koenig, the CFO, and Herbert A. Getz, the general counsel that essentially insulated them from being terminated (except for cause). The contract agreed to pay three years salary plus annual bonus plus long-term bonus. The proxy estimated that, had the company been taken over on the last day of 1996, the new contract would be worth $1,889,300 to Koenig.

To Soros and Lens, these pay disclosures were evidence that management was further insulating itself from external discipline.

Analyze these compensation arrangements. Do they align the executive’s interests with that of shareholders? How might you design a compensation package for a turnaround situation such as this?

If an executive is richly rewarded for failure, what incentive does he have to succeed?

Restructuring

In the early, cold months of 1997, WMX pledged a full restructuring. The market eagerly anticipated what had been demanded for so long - a full scale retrenchment and consolidation, and a re-focus on the core business.

The Wall Street Journal dubbed the day of the announcement as “WMX Tuesday” and described “euphoria” among analysts. The stock was bid up 11 percent in the month leading up to the day.

But WMX Tuesday went less with a bang than a whimper.

The restructuring consisted of a partial retreat back to its core business. Domestic waste would once again be the company’s main area of activity, with international operations curtailed (though not eliminated as Lens had requested). Non-core assets to the tune of $1.5 billion would be disposed of, 3,000 jobs cut and the share repurchase program expanded by ten percent.

Later in the year, the company simplified operations by taking Wheelabrator off the market. WMX spent about $900 million buying back the shares it didn’t own.

In a belated recognition that the company had it right first time, WMX announced that it would change its name back to Waste Management. The sexy-sounding ‘WMX Technologies’ had lasted barely four years.

The company also answered one of Lens’ early demands - the departure of Koenig. WMX had repeatedly promised he would be removed, but he didn't leave the CFO's office until February 1997 when he was merely reassigned. He remained an executive vice president.

Although the changes were considerable, it wasn’t sufficiently aggressive for the market. The price plunged nine percent in a single day, down $3 to about $33. The fall indicated that nothing less than an absolute overhaul would satisfy investors who had waited too long for results.

A further question remained -- who was to implement this plan? Lens and Soros continued to press for fresh blood on the board. In February 1997, Lens informed Waste that they would drop the proxy fight if the company immediately appointed two of Soros’ director nominees for the board. The Soros group asserted that both Buntrock and Rooney had to go.

In a February 11, 1997, filing with the SEC, Soros nominated four directors to run against the board’s nominees for the forthcoming annual meeting, and repeated their call for Rooney’s departure. The filing said the group was "even more frustrated with management's lack of progress in enhancing value for shareholders and the apparent inability of management, and its recently announced restructuring plan, to address the issue."

The looming battle was knocked off track by the announcement, on February 18, just one week after Soros demand for new leadership, that Phil Rooney was resigning from the company. He said he didn’t want the company “being distracted by the current public debate over the leadership of the company.”

This announcement, coupled with the news that the company would replace two incumbent directors at the forthcoming annual meeting, persuaded investors that the company was serious about initiating change. The share price was bid up nearly $2 to $34.75.

Where did this leave the Soros proxy fight for board seats? The purpose of the contest was to find credible outside directors who, in turn, could select a tough CEO, but this purpose had now been overtaken by events. Although Rooney’s departure meant that Buntrock was back in the hot seat as acting CEO, it also provided an opportunity to find a credible outsider. One analyst told Reuters that Rooney was a “sacrificial child to get Soros off their back.”[iv]

A Soros spokesman told the Chicago Tribune: "We would like to see the best possible CEO running the company on a day-to-day basis. We would also like to see that CEO reporting to the strongest possible board of directors."[v] On February 21, the Soros group announced that it was dropping its proxy fight. Soros said that running a proxy fight would only distract the company. The key, said a Soros spokesman, was bringing two new independent directors and the best available CEO.

Gerald Kerner, managing director of Soros affiliate of Duquesne Capital Management, explained the decision to pull out of the proxy fight: “We never wanted to drive the bus, and now we believe we are going to get the best driver possible."

It’s not in shareholders interests to replace management. It’s in shareholders interests to get the board to do it. Discuss.

The news surprised the investor community, but most understood that the Soros retreat was a tactical maneuver rather than withdrawal. The Dow Jones Wire asked whether the move constituted "Détente or lasting peace?"

One analyst, NatWest Securities’ Paul Knight, said: "They avoided a confrontation now, but if WMX doesn't deploy its strategy with successful result to the stock price, there will be a battle later."

The New York Times quoted Leone Young of Smith Barney: "Soros dropped the proxy fight because it is convinced that the board will listen to its suggestions. And that is not the same as backing off."[vi]

In other words, Waste had bought itself a breathing space. It now had the opportunity to find an outstanding CEO candidate from outside the industry alongside some new directors. If it failed to do so, the dissident shareholders would undoubtedly be back.

The key, as far as Lens was concerned, didn’t stop with the CEO. There was a need for personnel changes that went beyond the chief executive’s suite. One of this book’s authors, Nell Minow, speaking to Reuters said that Buntrock should only remain at the company long enough to find a CEO: “Any successor worth his salt is not going to want the job if Buntrock is going to be too involved.”

The CEO hunt got underway, with the help of leading search firm Heidrick & Struggles.

Howard H. Baker and Peter H. Huizenga have announced their decisions to retire at the annual meeting. In mid-March 1997, Waste announced two new nominees for the board, to be submitted for election at the May annual meeting.

The first was Robert S. Miller who’d unwittingly become something of a crisis management professional. As an executive at Chrysler, he’d been part of two major turnarounds under Lee Iacocca. Having retired, he agreed to serve as non-executive director at two troubled companies, Morrison Knudsen and Federal Mogul. At both companies, the incumbent leadership had abruptly resigned and he’d taken over as acting CEO.

The second candidate was Steven G. Rothmeier, chairman and CEO of Great Northern Capital. He’d also been chairman and CEO of Northwest Airlines, where he’d overseen the airline’s rapid growth.

Both candidates met the criteria Lens were looking for -- they were outsiders, of genuine ability, and had chief executive experience at big companies. There was little chance they’d be yes men.

Rooney’s departure: the aftermath

But if the company seemed to be moving in the right direction, it still managed to upset investors. Waste’s proxy revealed that Phil Rooney would continue to be paid $2.5 million a year until 2002. This, after eight months work as CEO.

The Wall Street Journal questioned whether any payment should be made at all. Rooney’s contract called for the $2.5 million annual payment but only following “termination by the company.” Like anyone else, Rooney wasn’t due a dime under his contract if he departed voluntarily. And Rooney had resigned; he had not been forced out.

Furthermore, Rooney went straight to a senior job with ServiceMaster, a subsidiary of Waste’s sold only months before - at too low a price according to many. Again, there was a disturbing perception that directors’ interests were being placed ahead of shareholders’.

Crain’s Chicago Business was in no doubt about the message that Rooney’s departure sent. They declared “outrage” at his payoff which he was in line to receive for “doing basically nothing.” The editorial pointed out that Rooney had been well compensated during his time at WMX. “No parting gifts were necessary. He is out of a job because he wasn’t considered responsive to shareholders; now, WMX’s board has added insult to investor injury by rewarding him for his ineffectiveness.”

Refer back to Chapter Four and the section on executive pay: what does the Rooney episode tell you about the state of executive compensation in corporate America?

Towards the annual meeting

Dean Buntrock told the Wall Street Journal in April that he was willing to give a management role in order to bring the right CEO to the company. But he continued to express a desire to remain on the board.

This didn't please investors who not only felt that it would be difficult to select a CEO with Buntrock still a presence in the background, but also continued to press for a more thorough board shake-up.

In advance of the 1997 annual meeting, the Teamsters sponsored a by-law amendment to provide that the board consist of a majority of independent directors, according to the Council of Institutional Investors' definition.

The Teamsters' proposal complained that Buntrock and Rooney were employees, Flynn, Dempsey and Huizenga former employees, Baker and Pedersen associates of law firms that receive legal services for the company, and San Juan Cafferty and Edwards employees of universities that may receive grants from the company.

Lens brought their own pressure to bear at the 1997 annual meeting. The fund arranged for a handful of WMX's most sizable investors to attend. Representatives of Alliance Capital Management, Harvard Management, Bear Stearns, Capital Research, Lazard Freres, and Goldman Sachs were all present.

This was highly unusual. Institutions of this kind are invariably absent at annual meetings, since they have regular access to management at analysts’ briefings and one-to-one meetings. The message Lens intended to send was that the company’s shareholders were standing together, a point we will return to below.

Lens principal, Nell Minow took the opportunity of the annual meeting directly to address questions to the chairs of the board committees. She said:

“To the chairman of the audit committee, James Peterson. This company has had a history of eight consecutive years of special charges, with almost annual restructurings. What is the audit committee doing to make sure that the company’s numbers will be more reliable in future?”

Other shareholders asked further searching questions:

One asked the chairman of the search committee, Peer Pedersen, about the status of the CEO search. Another asked Trowbridge whether the nomination committee would again consider shareholder suggestions for board candidates.

Other questions include: what are the independent directors doing to respond to the issues raised by the $91 million fraud judgement against the company? How often do the outside directors meet in executive session, and have they considered retaining their own counsel?"

Imagine you’re a non-executive director of Waste. How might you respond to these questions?

A new chief executive

Waste was marking time until the arrival of a new CEO. In July 1997, the company announced the appointment of Ronald LeMay, previously number two at phone provider Sprint.

The stock dropped slightly on the news demonstrating that investors were anxious for quick results, impatient after a five-month search for the right candidate. The Wall St Journal speculated that Buntrock’s continued presence helped depress the stock.[vii]

While LeMay was a man of undoubted ability, there were aspects of his appointment that were troubling.

· He didn’t purchase any stock

· He continued to serve on numerous other boards

· He didn’t bring any outside personnel with him, so senior management at Waste remained the same

· He continued to live at his former home in Kansas, commuting to Waste’s headquarters near Chicago each week.

Investors were also worried by the wealthy nature of LeMay’s incentive package. He was granted a salary of $2.5 million, plus options on four million shares of stock. This represented plenty of upside potential but little downside risk. LeMay was not required to bet on himself to succeed.

Further, Waste agreed to buy out LeMay’s existing stock appreciation rights at Sprint, at a potential cost of $68 million. In the parlance of executive pay, Waste agreed that LeMay should be “made whole” before leaving Sprint. But again, this strips out any risk. LeMay was not forced to make a commitment to Waste. Indeed, he was not forced to make a choice between Sprint and Waste, since he stood to benefit enormously if either company did well.

The overall impression seemed to be, not that LeMay was eagerly accepting the challenge Waste offered, but that he had to be dragged reluctantly from his former company.

Shortly after Lee Iacocca joined Chrysler in 1978, he received an annual salary of one dollar a year, no bonus, but a large number of stock options that would only pay out if the share price improved. Ultimately, such was Chrysler’s performance, he cashed in option gains of about $43 million. Compare Iacocca’s compensation arrangement to LeMay’s.

Early in October 1997, Waste announced that earnings would again be lower than expected. They added that the previous year’s third quarter income statement was overstated and that another charge might be added to the company’s long string of write-offs. The market downgraded the stock 10 percent on the news.

Days later, LeMay quit and returned to Sprint. He’d served as the CEO of Waste Management for little over three months. The market was stunned.

LeMay said that he had joined Waste because it offered an interesting set of challenges but that “I have determined, however, that the needs of the company now present different kinds of challenges.”

The stock sank like a stone, off 20 percent on the day to $23.25.

On the same day that LeMay rode back to Kansas, the incumbent and former CFOs (James Koenig and his successor, John D. Sandford) also quit the company.

Rumors were rife. The Associated Press commented: “The company’s shares tumbled as much as 24 percent as Wall Street was abuzz with speculation that the departed executives had discovered major accounting irregularities that would impede implementation of an aggressive turnaround plan.”[viii]

The New York Times said that “the abrupt turn of events … smacked of a story untold – and LeMay was not telling it.”[ix] LeMay later referred to Waste’s accounting as “spooky.”[x]

Robert S. Miller was appointed acting chairman and CEO. He was the fourth CEO in less than a year.

It was now Wall Street’s worst kept secret that Waste’s books contained some very bad news. Investors would continue to mark down the stock until they knew the truth.

Miller’s first job, then, was to convince investors that they had a clear, warts and all, picture of the company’s health. He said he knew of no irregularities but that a review of the company’s accounting policies was underway. He said: “we’ll probably adopt going forward with a substantially more conservative philosophy in the way that we record the earnings of the company.”

Miller confirmed yet another charge, involving “some pretty big numbers hitting the books” but denied that there was “something terrifying under the covers.”

“This is not a train wreck” said Mr. Miller.

Oh really?

Miller’s tale

Miller moved aggressively to reconstitute the board. In November 1997, he announced the appointment of two new directors. One of them, Roderick M. Hills, was the former Chairman of the SEC. This news intimated that the company was expecting to have to deal with some kind of SEC investigation -- again, it seemed like trouble was waiting just around the corner.

The board committees were given a thorough shakeup to put the outsiders in a dominant position. A new search committee was established to seek a fifth CEO in less than a year. It was made up solely of directors appointed since Lens and Soros had first invested.

The audit committee was entirely replaced, now under the chairmanship of Hills.

The charter of the Nominating Committee expanded to include board practice and corporate governance issues. And the board’s Executive Committee was reconstituted under the chairmanship of Miller, replacing Buntrock. Dean Buntrock no longer served on a single board committee of the company he’d help found.

Days later, Miller flew to New York to meet a dozen or so of his largest investors. He traveled alone, accompanied by just an investor relations officer. Miller emphasized that “there’s a new board in charge” and told his investors, “you’re the owners. I work for you. I want your views.”

Contrast Miller’s style to that of Buntrock or Rooney.

Fifth CEO

Speculation was rife as to who might take over the poisoned chalice of the CEO suite. A name frequently mentioned was that of Al Dunlap, christened ‘Chainsaw Al’ for his aggressive cost-cutting methods. He had a career of being appointed to failing companies and ruthlessly turning them round. He pruned non-core divisions, eliminated thousands of workers, and often negotiated a merger for what remained. Though many criticized his style, there was no arguing with the results. Dunlap had already effected a successful turnaround at Scott Paper, one of Lens' former investments.

Al Dunlap, speaking to a Bloomberg panel was asked for his views on Waste. He said: "The shareholders would have been better off if they had gotten captured by terrorists .... There you've had a classic case of a sitting management and a board that's allowed a situation year in and year out to go on without taking the proper corrective action -- that's to dramatically change the management."

More management

Part of Waste’s problem, according to Crain’s was “too much wasted energy, not enough management.”[xi] Miller set about applying some management, first by simplifying the complex structure.

Waste’s growth had taken place by acquisition, which led to a remarkably convoluted structure. In November 1997, Miller announced that the number of regional headquarters would be cut from 250 to 32. Staff would be trimmed by 1,200, for annual savings of $100 million.

One of those staff members to be trimmed was Dean Buntrock. The company announced he would be gone by the end of the year. The Tribune commented: "Perhaps the best thing Dean L. Buntrock did for the company he helped found was simply to leave."[xii]

The plan nudged the stock northwards on a day the rest of the market fell. But the 25 cent rise “suggests investors still view the Oak Brook-based waste hauler with caution.”[xiii]

Restated accounts

At the end of January 1998, Waste finally fessed up. It opened the door on a closet simply stuffed with skeletons.

The company admitted that its misleading accounts went back to 1992, two years earlier than most had anticipated. The company announced a special charge to account for misstated earnings of $3.5 billion pretax. This was a whole billion dollars higher than the predicted worst case.

Under the restated earnings, Waste suddenly looked a less healthy company. For example, the company had reported net earnings in 1996 of $192.1 million. In the reviewed accounts, this became a loss of $39.3 million.

In retrospect, the company reported a 1996 a loss of $39.3m, down $231.4m from the original accounts. The 1995 earnings had to be downgraded to the tune of $263.8m.

In a press release, Robert Miller said: "The steps we are taking are the strong prescription we believe is needed to acknowledge past mistakes, clarify our financial reporting picture, and begin the process of restoring investor confidence in Waste Management and its ability to prosper in the future."

The Wall Street Journal described the adjustments as "mammoth."[xiv] The Chicago Tribune said the results were "startling" and described shareholders as "shocked."[xv]

The SEC immediately launched an investigation.

Amazingly, the stock budged just 20 cents on the news of this $3.5 billion problem. This indicated the extent to which investor confidence in Waste had evaporated. The market had such a dim view of the company that nothing the company could have announced would have been perceived as bad news.

Fortune magazine devoted an in-depth report to how Waste had managed this feat of accounting trickery: “Standard industry practice is to depreciate – or write down – the cost of trucks (about $150,000 apiece) over eight to ten years, with each year’s depreciation expense reducing the bottom line. But in the early 1990s, at Rooney’s direction and with Buntrock’s assent, Waste began stretching the depreciation schedules by two to four years. This lowered the company’s annual depreciation charge, boosting earnings.”[xvi]

But that, as Fortune revealed, was just the beginning: “Waste also reduced by as much as $25,000, the starting depreciation amount on each truck, claiming that sum as ‘salvage value’ – an amount it would recover by selling the vehicles. Standard industry practice is to claim no salvage value. On a North American fleet of nearly 20,000 vehicles, this manipulation added up.”

It wasn’t just trucks that were dealt with in this way. Waste listed the work life of dumpster as between 15-20 years, while industry norm was twelve. The same kind of shenanigans were carried out for recycling plants, hazardous waste treatment facilities, everything. Every Waste asset, from the dumpster to the engineering plant, had its working life stretched.

The same technique of making wildly optimistic assumptions was applied to Waste’s 137 landfills. Obviously if a landfill can expand, its useful life is longer and so depreciation and start-up capital costs can be spread over a longer time. “So what did Waste Management do?” asked Fortune. “Naturally, it claimed that landfill expansions were likely – even when they weren’t.”

At a site in Atlanta, the company’s books counted on a huge expansion even after the state had passed a law barring any expansion. The site’s value was inflated by over $30m.

The sum effect of playing with all these figures was to boost earnings by $110 million a year.

Dean Buntrock told Fortune: “To my knowledge, there was proper accounting used on all our financial transactions.”

Rod Hills, chairman of the audit committee, pointed the finger at Arthur Andersen, Waste’s long-standing auditors. “The SEC is going to find they didn’t do their job” he said. An Andersen spokesman sniffed back: “We take exception to preinvestigative inappropriate finger pointing.”

USA Waste

Lens and the Soros group bit the bullet. The company, surely, had hit rock bottom. But there were new people in charge and things could only get better.

In March 1998, the Dow Jones wire reported that the feeling that Waste “is ripe for takeover is gaining momentum ... There is some talk that USA Waste will make an offer in the low 30s.” A critical energy in the merger talks was Ralph Whitworth, one time boss of the United Shareholders’ Association and now principal of Relational Investors, a shareholder activism/turnaround fund.

USA Waste was the minnow in the trash collection pond. It ranked third in terms of size, and was just one-third the size of Waste Management. It had stayed resolutely clear of expansion into non-core businesses, remaining a trash collector, pure and simple, with a sizable presence in southern and western states but no presence in the north and east where Waste was strong.

Though Waste was the far larger of the two marriage partners, it was USA Waste that walked off with the keys to the new home. John E. Drury would take over as CEO of the combined enterprise, and the headquarters of the merged company would be in Houston, USA’s hometown.

The merger was a humiliating end for Waste, once the most exciting of companies. In essence, Waste was being taken over by one of its junior competitors. The Wall Street Journal noted: “Though Waste Management’s name would live on, the deal would effectively mark the end of one of the great growth stories of the 1970s and 1980s.” Crain’s Chicago Business argued that “the merger represents the best, perhaps only, prospect for Waste’s management.”

Drury pledged that the new look Waste Management would go back to basis. He told Fortune: “It’s a simple business. We don’t know that we’re real good at a lot of things. But we’re damn good at picking up garbage.”

What Went Wrong?

Waste’s story is a sad one. It was a great company, of enormous energy, whose growth dazzled investors. And it ended being merged into a company a third its size.

We have explained above the accounting trickery that laid Waste low, but it is important to understand that the dodgy accounting was the symptom not the cause of Waste’s decline. Because Waste’s failure wasn’t one of accounting; it was one of management. And management failed because it concentrated too much on the appearance of the business and not on the business itself.

This problem started when management continued to insist that Waste was still a growth company despite a maturing market. The Wall Street Journal noted that “it became a company as much in the growth business as the garbage business.” The paper cited one analyst who compared the company to the movie ‘Speed’ -- if it goes below 55mph it blows up.

Fortune reported “Waste Management did the things it did because it refused to concede that it was no longer a hot growth company. Its desire to retain its status as a Wall Street highflier drove Waste Management not just to inflate its numbers but also to make a whole host of wrong-headed decisions.”

The magazine asked: “By the early 1990s, Waste needed to deal with a new reality: it couldn’t be a growth company anymore. Or could it?”

Fortune lamented the short-term demands imposed by quarterly earnings, and the fact that the stock is punished if predictions aren’t met. Given these pressures, “the temptation to boost earnings by using accounting gimmicks can be powerful.” Buntrock told the magazine: “For 20 years, we had double digit growth. The marketplace and shareholders and even your own employees expect you to continue that.”

Fortune argued that: “Since going public in 1971, Waste Management has been obsessed with its stock price … but then came the 1990s and that obsession became its curse.” Satisfying your shareholders is the result of building a successful business, not the route to it. As Robert Miller told the magazine: “The stock should be the product of how you do business, not the god you pay homage to every day.”

In an interview with Business Week, Miller outlined other roots of corporate failure. His conclusions:

accounting and information systems are often to blame for corporate woes

no CEO should stay more than 10 years

no full time manager should sit on more than two outside boards

few companies can manage diversification.[xvii]

In a later piece, he also condemned the fad for restructuring charges, arguing that “somebody woke up to the fact that if you take something as a restructuring charge, investors will forgive you immediately.”[xviii]

How might Waste's history have been different if it had applied Miller's rules from the beginning?

How it was solved?

The key to the Waste turnaround was shareholder communication. Because without communication, shareholders cannot act collectively. In the language of Berle and Means (see page XX), 'ownership' (the shareholders) without communication remains diffuse and powerless in the face of focused and tightly organized 'control' (management).

At the beginning of the book, we described governance as a set of relationships between three groups -- the management, the directors, and the shareholders. In this relationship, management has vastly more power than any other group. They control the company and, most importantly, they control the flow of information to the other groups. To large degree, despite the best efforts of GAAP and other reporting requirements, it is up to management to decide whether the information they disclose is full and accurate -- witness Waste's reporting of the most basic issue: its performance.

So too, it is up to management (largely) whether to have a tough, independent board that rigorously checks and balances management, or not.

In the face of such a stoutly defended corporate bastion, shareholders are powerless. Unless they can organize. As owners of the company, they have the legal right to replace the board and the managers. But this right is more myth than reality unless they can act in concert.

Lens set up an 'intranet,' a private website protected by password and accessed only by those with a genuine interest. The site was made available to nearly twenty of Waste's largest institutional holders, including giants like Alliance Capital Management, Bear Stearns, Fidelity, Goldman Sachs, J.P. Morgan, and Lazard Freres, as well as the more "usual suspects" such as CalPERS, New York State Teachers and CREF.

The website was a device for sharing information, and disseminating it rapidly. Notes from meetings with management, thoughts about director candidates, and ideas about how to move the campaign forward could be fed out to investors representing forty percent of Waste's stock at the touch of a button.

Lens deployed this core group of investors in other ways. When Lens attended its first annual meeting in 1996, it had the air of a pep rally. Dominated by employees, the affair was nothing less than a celebration of the company's success. (The fact that that success was tarnishing rapidly did not seem to be a matter for discussion).

The following year, as described above, Lens coordinated a group of large investors to attend the annual meeting. This, again, was a remarkable departure from the norm. By attending the annual meeting en bloc, Waste's largest shareholders were demonstrating that they were acting together. It was a gesture of solidarity. It showed that the barriers impeding collective action by shareholders had been crossed.

The playing field had been leveled.

What does the Waste story tell you about the organization of a public company? Who has the power, and how are they held accountable?

'Management controls the information'. Is this true? And if so, what can shareholders do about it?

Who was responsible for Waste's astounding success? And who was responsible for its decline?

Waste Management – a postscript[xix]

A happy ending? In corporate governance?

Waste Management’s future, folded into USA Waste, looked secure. After all, Waste’s problem was that it spent too much time expanding its empire and not enough time consolidating it. As one critic said, there was too little management. Now it was merged with the acknowledged management maestros of the trash sector, surely it could put its grim history of special charges behind it.

Apparently not.

By August of 1999, the three members of the rescue team who remained on the board – Relational Investors’ Ralph Whitworth, Steve Miller and Rod Hills – were back running the company full time. USA Waste’s reputation for probity and management excellence turned out to be, well, a load of trash.

There was a note of tragedy in this comedy of errors. In November 1998, John Drury was diagnosed with a brain tumor. He promised to be back at his desk within a week of surgery, and doctors’ reports were encouraging. Besides, the company appeared to have a ready groomed successor in COO Rodney Proto.

Drury’s remarkable recovery proved to be short-lived. At a March 1999 board meeting, Ralph Whitworth noticed that Drury was “noticeably weaker,” and not in full control of his faculties.

But Whitworth noticed something worse – arrogance. Drury and Proto belittled Miller, the chairman, behind his back. When Whitworth proposed that management prepare monthly updates on how the merger was proceeding, his suggestion was brusquely dismissed.

Steve Miller decided to step down early as chairman, and planned for to hand over to Drury at the May 1999 annual meeting in May 1999. Many of the directors weren’t happy about that given Drury’s health, although at the time of Miller’s decision, many board members hadn’t seen Drury in two months.

Drury attended the annual meeting in a wheelchair. He had trouble standing to receive the chairman’s gavel from Miller. “That’s when we should’ve taken a more aggressive stance,” says Hills in retrospect.

Meanwhile, Hills was making himself unpopular with management. The merged company still had the painful hangover of Waste’s history to deal with – notably, several shareholder lawsuits and an SEC investigation of Waste’s accountancy practice. Hills started to delve deeply into the financials of the combined operation, with the result, as one director told the Wall Street Journal, “he pissed everyone off.”

Hills’ efforts led him to the conclusion that US Waste had badly overpaid for past acquisitions, both before and after the Waste Management merger. The company was not the spotless star it had appeared.

Out of the blue, in July 1999, the company announced that second quarter results would fall short of expectations. The stock declined by more than a third. Worse, the company could offer no convincing explanation of the shortfall.

Traditionally, the first quarter is a weaker period, yet the company had come within a penny a share of those estimates. Why had performance dipped in the usually strong second quarter? “For the board, what had been a string of unrelated concerns and annoyances was fast coming together to shatter its trust in management,” said the Wall Street Journal.

The rescue team’s principal concern was that the first quarter’s earnings had been dressed up with some undisclosed one-time earnings. Their suspicions hardened when it was revealed that Proto and a dozen other managers had sold significant chunks of stock in the weeks before the profits warning. Proto himself had sold 300,000 shares for more than $16m. Had they kept the share price pumped up in the first quarter, giving them time to offload stock, before the company’s true financial picture emerged? There is no proof that any of the directors acted so coldly, but for an already impatient board, it was a management failing

The board named Whitworth interim chairman. He made it his task to extract the truth from the financial department, keeping at them until they conceded that the first quarter earnings had included undisclosed one-time items and would have to be restated.

Drury and Proto were dismissed; Miller was appointed acting CEO, for the second time.

USA Waste, it transpired, had suffered the same disease as Waste Management – it was too fixated on the stock price to devote sufficient attention to the day-to-day operations of the company.

The Journal concludes: “Since the early 1970s, the formula at publicly traded garbage companies has been to use stock to buy up smaller, privately held haulers. Add profits. Boost the stock. Fund more deals. Actually integrating the operations and running the company efficiently became a secondary consideration. Industry consolidation pushed up acquisition prices, making it harder to boost profits without using some aggressive accounting. At some point, nearly all the big players stretched too far to do deals.”

Whitworth was determined to extract a warts-and-all picture of Waste Management’s financial position – a problem that all thought had been fixed. He was told that every operation had its own financial controller – 600 of them. How long would it take them to bring their books up to date? Some said 400 hours.

The company brought in 1,160 outside auditors from Arthur Andersen and PricewaterhouseCoopers, the firm’s auditor at a cost of $3m a day. The real numbers finally arrived - $211m in uncollectable bills, $305m in unrecorded expenses; $226m miscellaneous.

In late 1999, Waste Management took a third quarter charge of $1.76bn. Would its history of special charges never end?

The board recruited a new CEO – Maurice Myers, CEO of trucking company Yellow Corp.

Rod Hills now has an extra pile of litigation, and a renewed SEC investigation. One of the shareholder lawsuits? From Dean Buntrock, who alleged that Hills and Miller had mismanaged the company, and owed him $12million in pension benefits.

--------------------------------------------------------------------------------

[i] Washington Post, April 22, 1997.

[ii] Wall Street Journal, January 30, 1997.

[iii] WMX 1995 proxy statement.

[iv] Reuters wire, February 18, 1997.

[v] Chicago Tribune, February 19, 1997.

[vi] New York Times, February 22, 1997.

[vii] Wall Street Journal, July 18, 1997.

[viii] Associated Press wire, October 30, 1997.

[ix] New York Times, October 31, 1997.

[x] Business Week, November 18, 1997.

[xi] Crain’s Chicago Business, November 10, 1997.

[xii] Chicago Tribune, November 13, 1997.

[xiii] Id.

[xiv] Wall Street Journal, February 24, 1998.

[xv] Chicago Tribune, April 25, 1998.

[xvi] This cite, and all Fortune cites below are taken from the May 25, 1998, issue.

[xvii] Business Week, March 19, 1998.

[xviii] Business Week, October 5, 1998

[xix] All cites to the ‘Star Rescuers Take On Waste Management – and End Up Tarnished,’ Wall Street Journal, February 29, 2000, p.A1.