Thursday, September 26, 2019

Charlie Munger and Warren Buffett on compensation systems

From the 2003 Berkshire Hathaway Annual Meeting...

Charlie Munger: 
Where a business requires practically no capital, we tend to reward the management based on the earnings. The minute the business starts requiring capital we tend to put a capital factor into this compensation system.  
We don’t have any one standard system. They’re all different, based on accidents of history and circumstances.  
But where capital’s an important factor, of course, we take it into account. 
Warren Buffett:
When capital is an important part of the business, we stick a charge for capital in. If it’s an unimportant part of the business, we don’t stick it in. We don’t believe in making things more complex than needed. 
So, we don’t try for...all kinds of little refinements — which a compensation consultant would come in and tell you was needed, because that’s how he would justify a large bill. And he would also come in and tinker with it a little the following year, and the following year, and so on.  
We have very simple systems on comp. But some of our businesses are terrific businesses, and so we have very high standards of performance before people get performance bonuses.  
Some of our businesses are very tough businesses, and the threshold is much lower, but the managerial talent needed to reach that threshold is just as much as...with the higher threshold in other businesses. 
Compensation is not rocket science. I mean, people will want you to think it is, and you read these proxy statements and it blows your mind, what they get into.
Charlie Munger: 
And on EVA, there are ideas implicit in that that we use. For instance, hurdle rates by — based on opportunity costs. Perfectly reasonable concept.  
But to us, that system, with all its labels and lingo, has a lot of baggage that we don’t need. We just use the implicit, simple stuff that’s buried in EVA.