Value Extractors, "Super-Managers," Vampires and the Decline of the US and US Health Care

Appearing during the last few weeks were a series of articles that tied the decline of the US economy to huge systemic problems with leadership and governance of large organizations.  While the articles were not focused on health care, they included some health care relevant examples, and were clearly applicable to health care as part of the larger political, social, and economic system.  The articles reiterated concerns we have expressed, about leadership of health care by generic managers, perverse executive compensation, the financialization of health care, in part enabled by regulatory capture, and the abandonment by effective stewardship by boards of directors, but with new takes on them.

The articles included "Profits Without Prosperity," by William Lazonick in the the Harvard Business Review,  "Why Have US Companies Become Such Skinflints," by Paul Roberts in the Los Angeles Times, and "How Business Leaders Turned Into Vampires," by Steve Denning in Forbes, which in turn was partially based on "The Rise (and Likely Fall) of the Talent Economy," in the Harvard Business Review.

Let me summarize the main points, and discuss some health care examples.

"Super-Managers" as Value Extractors

Steve Denning's article contrasted people who  add value to the economy versus those who extract value.  The first species of value extractor he listed was:

 ‘Super-managers’ are people who hold administrative positions in the C-suite of private-sector bureaucracies but are masquerading as entrepreneurs. They are, to use Thomas Piketty’s slyly ironic term, “super-managers.” As such, they have been able to extract extraordinary levels of compensation. They have been lavished with stock and stock options and have been able to 'manage' the share price of their firms with massive share buybacks and other financial engineering so that they receive massive bonuses. As Bill Lazonick documented in the September 2014 issue of HBR, the net effect of their activities is to extract value, rather than create value [see below]. 

Presumably, "super-managers" as health care executives are also likely to be generic managers, unlikely to have much actual knowledge of caring for patients, unsympathetic to the values of health care professionals, and hence unlikely to uphold the health care mission.

He noted that

 there is a tendency to dismiss the activities of ‘vampire talent’ as de minimis. 'That’s capitalism, right? Every man for himself. It’s no big deal if there’s an occasional bad apple in the barrel. The ‘invisible hand’ of capitalism will make everything come out right for society in the end.'

However,

 The problem today is that the super-sized executive compensation, the gambling and the toll-keeping of the financial sector aren’t tiny sideshows. They have grown exponentially and are now macro-economic in scale. They have become almost the main game of the financial sector and the main driver of executive behavior in big business. When money becomes the end, not the means, then the result is what analyst Gautam Mukunda calls 'excessive financialization' of the economy, in his article, 'The Price of Wall Street Power,' in the June 2014 issue of Harvard Business Review.

Mr Denning further asserted that the value extraction of super-managers is augmented by the value extraction of two different groups of players, hedge funds that speculate with other peoples' money, and "tollkeepers" who extract rents through the financial system.

Furthermore, Mr Denning stated that

 The growth of super-sized executive compensation is inversely related to performance. The super-managers are in effect being rewarded for doing the wrong thing.

Of course, if executives in health care, like those in other sectors, are mainly concerned with enriching themselves in the short-term, than they are not mainly concerned with patients' and the public's health, or the values of health care professionals, and hence the performance of their organizations in terms of health care processes and outcomes will suffer. 

Furthermore, the ability of commercial health care firms to actually make a positive impact on health care will be decreased as they are whipsawed by other value extractors like hedge funds and tollkeepers.

Example - Renaissance Technologies

Mr Denning's first example of tollkeepers' value extraction was:

James Simons, the founder of Renaissance Technologies, ranks fourth on Institutional Investor’s Alpha list of top hedge fund earners for 2013, with $2.2 billion in compensation. He consistently earns at that level by using sophisticated algorithms and servers hardwired to the NYSE servers to take advantage of tiny arbitrage opportunities faster than anybody else. For Renaissance, five minutes is a long holding period for a share.

In fact, as we noted here, Renaissance Technologies does not hesitate in trading health care firms.  Furthermore, that company has a noteworthy direct tie to health care.  Its current co-CEO, Peter F Brown, is married to the current Commissioner of the US Food and Drug Administration (FDA).

Value Extraction and Share Buybacks

William Lazonick's article also emphasized how corporate leadership is now focused on extracting value from their companies for their own personal benefit, rather than promoting growth, innovation, better products and services, etc.  In particular, large public for-profit companies now tend to use their surplus capital to buy back shares of their own stock, rather than invest in new facilities, equipment, employees, etc.  Perhaps we should not be surprised that this was facilitated by changes in US government regulation, that is deregulation, in this case instituted during the Reagan administration:

Companies have been allowed to repurchase their shares on the open market with virtually no regulatory limits since 1982, when the SEC instituted Rule 10b - 18 of the Securities Exchange Act.

Note that

The rule was a major departure from the agency's original mandate, laid out in the Securities Exchange Act of 1934.  The act was a reaction to a host of unscrupulous activities that had fueled speculation in the Roaring '20's, leading to the stock market crash of 1929 and the Great Depression.

Given the context, and that the deregulation was implemented by an SEC chair who was "the first Wall Street insider to lead the commission," this seems to be an example of regulatory capture in service of corporate insiders.

The issue here is that while it might make some financial sense for companies to buy back their own shares if they are priced at bargain rates, after this change they could buy shares at any price without supervision.  On one hand, such purchases could lead to short-term bumps in stock prices. On the other hand, a major reason for these buybacks appears to be that they enrich corporate insiders, particularly top hired executives, who now receive much of their pay in the form of stock and stock options, and often can get bonuses based on short-term increases in stock prices.  Lazonick wrote,

Combined with pressure from Wall Street, stock-based incentives make senior executives extremely motivated to do buybacks on a colossal and systemic scale.

Consider the 10 largest repurchasers, which spent a combined $859 billion on buybacks, an amount equal to 68% of their combined net income, from 2003 through 2012. (See the exhibit “The Top 10 Stock Repurchasers.”) During the same decade, their CEOs received, on average, a total of $168 million each in compensation. On average, 34% of their compensation was in the form of stock options and 24% in stock awards. At these companies the next four highest-paid senior executives each received, on average, $77 million in compensation during the 10 years—27% of it in stock options and 29% in stock awards. Yet since 2003 only three of the 10 largest repurchasers—Exxon Mobil, IBM, and Procter & Gamble—have outperformed the S&P 500 Index.

Example - Pfizer

Mr Lazonick's noted some potential outcomes of the frenzy of stock buybacks affecting the US pharmaceutical industry and hence the US health care system.

In response to complaints that U.S. drug prices are at least twice those in any other country, Pfizer and other U.S. pharmaceutical companies have argued that the profits from these high prices—enabled by a generous intellectual-property regime and lax price regulation— permit more R&D to be done in the United States than elsewhere. Yet from 2003 through 2012, Pfizer funneled an amount equal to 71% of its profits into buybacks, and an amount equal to 75% of its profits into dividends. In other words, it spent more on buybacks and dividends than it earned and tapped its capital reserves to help fund them. The reality is, Americans pay high drug prices so that major pharmaceutical companies can boost their stock prices and pad executive pay.

Moreover, during approximately the same period Pfizer compiled an amazing record of legal misadventures including settlements of allegations of unethical behavior, and some convictions, including one for being a racketeering influenced corrupt organization (RICO), as most recently reviewed here, and then updated here.  So while it was putting huge amounts into buybacks, it also put billions into legal fines and costs. This suggests that note only does executive compensation not correlate with "performance," it may also correlate with corporate bad behavior.

The "Shareholder Value" Dogma

In explaining how US corporate executives turned to stock buybacks to boost their own pay, at the expense of essentially everyone else, Mr Lazonick sounded some familiar themes.  One was focus on short-term revenues and short-term stock performance drive by the "share-holder value" dogma out of business schools,

the notion that the CEO's main obligation is to shareholders. It's based on a misconception of the shareholders' role in the modem corporation. The philosophical justification for giving them all excess corporate profits is that they are best positioned to allocate resources because they have the most interest in ensuring that capital generates the highest returns. This proposition is central to the 'maximizing shareholder value" (MSV) arguments espoused over the years, most notably by Michael C. Jensen. The MSV school also posits that companies' so-called free cash flow should be distributed to shareholders because only they make investments without a guaranteed return -- and hence bear risk.

But the MSV school ignores other participants in the economy who bear risk by investing without a guaranteed return. Taxpayers take on such risk through government agencies that invest in infrastructure and knowledge creation. And workers take it on by investing in the development of their capabilities at the firms that employ them. As risk bearers, taxpayers, whose dollars support business enterprises, and workers, whose efforts generate productivity improvements, have claims on profits that are at least as strong as the shareholders'.

Mr Denning similarly noted

The intellectual foundation of all this behavior is the notion that the purpose of a firm is to maximize shareholder value. Unless we do something about this intellectual foundation, the problem will remain. Changes in a few regulations or the tax code won’t make much difference. ‘Vampire talent’ will find ways around them.

Nor will change happen merely by pointing out that shareholder primacy is a very bad idea. Bad ideas don’t die just because they are bad. They hang around until a consensus forms around another idea that is better.

Mr Roberts' article "Why Have US Companies Become Such Skinflints," went at this issue from a slightly different angle, noting first

The bigger story here is what might be called the Great Narrowing of the Corporate Mind: the growing willingness by business to pursue an agenda separate from, and even entirely at odds with, the broader goals of society.

He attributed this to the notion promulgated by

conservative economists, [that] the best way for companies to help society was to ditch the idea of corporate social obligation and let business do what business does best: maximize profits.

He noted that this focus on short-term revenues has led to the decline in long-term results,

 But because management is so focused on share price and because share price depends heavily on current company earnings, strategic focus has grown ever more short term: do whatever is needed to hit next quarter's earnings target. And since cost-cutting is a quick way to boost near-term earnings, layoffs and other downsizing once regarded as emergency measures are now routine.

And here is the paradox. Companies are so obsessed with short-term performance that they are undermining their long-term self-interest. Employees have been demoralized by constant cutbacks. Investment in equipment upgrades, worker training and research — all essential to long-term profitability and competitiveness — is falling.

Of course, this is antithetical to the "innovation" that current corporate boosters proclaim as the goal of drug, biotechnology, medical device companies and other players in the brave new world of corporate health care.  


The Incestuous Mechanisms Used to Set Executive Compensation

Another explanation for the rise in value extraction, and specifically the use of share buybacks to reward top corporate hired executives, was the incestuous way in which corporations set pay for top hired executives. Mr Lazonick wrote,

Many studies have shown that large companies tend to use the same set of consultants to benchmark executive compensation, and that each consultant recommends that the client pay its CEO well above average. As a result, compensation inevitably ratchets up over time. The studies also show that even declines in stock price increase executive pay: When a company's stock price falls, the board stuffs even more options and stock awards into top executives' packages, claiming that it must ensure that they won't jump ship and will do whatever is necessary to get the stock price back up.

This is enabled by boards of directors who seem to represent the 'CEO union,' not stockholders, and certainly not other less favored employees, customers, clients or patients, or society at large,

Boards are currently dominated by other CEOs, who have a strong bias toward ratifying higher pay packages for their peers. When approving enormous distributions to shareholders and stock-based pay for top executives, these directors believe they're acting in the interests of shareholders.

Once again, this was also enabled by the dergulation that started with during the Reagan administration, and continues this day (although the specific relevant deregulatory change occurred during the Clinton administration),

 In 1991 the SEC began allowing top executives to keep the gains from immediately selling stock acquired from options. Previously, they had to hold the stock for six months or give up any 'short-swing' gains. That decision has only served to reinforce top executives' overriding personal interest in boosting stock prices. And because corporations aren't required to disclose daily buyback activity, it gives executives the opportunity to trade, undetected, on inside information about when buybacks are being done. 

Summary

Note that while all the discussion above has been about for-profit corporations, we have seen that in health care, various non-profit organizations, particularly hospitals, hospital systems, academic medical institutions, and health insurers, which all now operate in the current market fundamentalist environment, are acting more and more like for-profits.  So while non-profit corporate executives cannot do stock buybacks, they are also all too often generic managers, given huge compensation, but not often for upholding the mission, putting patients' and the public's health first, or upholding health care professionals' values.  

It is striking that we are beginning to see protests like those above not in radical publications, but in the Harvard Business Review and Forbes.  It is more striking that these protestors are beginning to fear the worst.  Mr Roberts wrote,

Sooner or later, markets punish such myopic behavior. Companies that neglect innovation run out of things to sell. Companies that demoralize workers see performance lag. 

Although Mr Denning hopefully wrote,

We are thus about to witness a vast societal drama play out. That’s because we have reached that key theatrical moment, which Aristotle famously called 'anagnorisis' or 'recognition.'  This is the moment in a drama when ignorance shifts to knowledge.  

He then warned,

As usual with anagnorisis and the shock of recognition at a disturbing, previously-hidden truth, there is a disquieting sense that the accepted coordinates of knowledge have somehow gone awry and the universe has come out of whack. This can lead to denial and a delay in action, even though the facts are staring us in the face.

If the recognition of our error comes too late, as in Shakespeare’s Lear, the result will be terrible tragedy. If the recognition comes soon enough, the drama can still have a happy ending. We are about to find out in our case which it is to be.

Let us hope that anagnorisis is really beginning, the anechoic effect is fading, and the drama may yet have a happy ending. 

ADDENDUM (29 September, 2014) - This post was re-posted on the Naked Capitalism blog. 

11:51 AM

Merging Finance and Health Care Leadership - Robert Rubin Proteges Running DHHS, Spouse of Hedge Fund Magnate Running the FDA

Hidden between the lines of some not very prominent news stories were reminders of how close health care and financial leadership have become in these times of continuing economic unrest after the global financial collapse/ great recession.

After the events of 2008, it became more apparent that the dysfunction in academics and health care  paralleled that seen in finance.  One reason may have been the overlapping leadership of finance and health care.  For example, in 2008 we first posted about how Robert Rubin, who was then a Fellow of the Harvard Corporation, the top group responsible for the governance of that great academic and medical institution, bore responsibility for the global financial collapse/ great recession.  Mr Rubin as Treasury Secretary was a proponent of financial deregulation in the Clinton administration.  Later, he became a top leader of Citigroup, whose near collapse helped usher in the crisis of 2008 (look at our 2008 post here and our 2010 post here.  Rubin just stepped down from his Harvard position this year,)  Since 2008 we found many other links among the leadership of Wall Street and of academic medicine and of big health care corporations.  These links, if anything, seem to be getting stronger. 

From the Department of Health and Human Services to Citigroup and then back to the Department of HHS

A tiny, four sentence Reuters story noted an apparently routine appointment to upper management at the US Department of Health and Human Services.  The first three sentences were:

U.S. Health Secretary Sylvia Burwell named Citigroup Inc executive Kevin Thurm as senior counselor of the U.S. Department of Health and Human Services (HHS), which is implementing the controversial U.S. Affordable Care Act.

Thurm has served in a number of roles at Citi since joining the bank in 2001, including senior adviser for compliance and regulatory affairs and deputy general counsel.

Before joining Citi, Thurm, a former Rhodes scholar, was the deputy secretary of the U.S. Department of Health and Human Services.

Why is that significant?  First, the near bankruptcy of the huge, badly led Citigroup was widely acknowledged to be a cause of the global financial collapse.  A 2011 New Yorker article on the role of the revolving door between Washington and Wall Street ("Revolver," by Gabriel Sherman) summarized the plight of Citigroup and the role of Robert Rubin in it,

Citigroup was the most high-profile of Wall Street’s basket cases, the definitionally too-big-to-fail institution. With massive exposure to the housing crash and abysmal risk management, the firm cratered, surviving as a virtual ward of the state after the government injected billions and took a 36 percent ownership position. Along with AIG and Fannie and Freddie, Citi came to be seen as a pariah institution, felled by management dysfunction and heedless greed in pursuit of profits. Complicating matters for Citi, the wounded bank found itself tangled in the populist vortex that swirled in the crash’s wake. On the left, there were calls that Citi should be outright nationalized, stripped down, and sold off for parts. Pandit was called before irate congressional-committee members to answer for Citi’s sins, an ignominious inquisition captured on live television. In January 2009, under pressure, Citi canceled an order for a new $50 million corporate jet.

There was plenty of blame to go around at Citi. Chuck Prince, a lawyer by training who succeeded Citi’s outsize former CEO Sandy Weill, had little grasp of the complex mortgage securities Citi’s traders were gambling on. As late as the summer of 2007, when the housing market was in free fall, Prince infamously told the Financial Times that 'as long as the music is playing, you’ve got to get up and dance.'

Bob Rubin himself pushed the bank to take on more risk in order to increase its profitability, a move that Citi’s dismal risk management was ill-equipped to handle. Pandit, whom Rubin had helped to recruit in 2007 just as the economy began to unravel, was tasked with cleaning up the mess when he became CEO in December of that year, and his early tenure had a deer-in-headlights character. Eventually, he realized that the asset class Citi lacked most was human capital, of the blue-chip variety.  

The article also summarized Rubin's role in the fervor of deregulation in service of market triumphalism that lead to the financial collapse,

In tapping Rubin to run Treasury, Clinton was sanctioning a revolution in the Democratic Party, one that fundamentally redefined the party’s relationship with Wall Street. Rubin, along with Alan Greenspan and Larry Summers, believed in an enlightened capitalism, which would spread prosperity widely. This enchantment with the beneficence of markets became the dominant view in Democratic Washington, hard to argue with when the economy was booming, as it was in the second half of the nineties. Rubin recognized that derivatives posed a risk but effectively blocked efforts to regulate them and pushed for the repeal of the Glass-Steagall Act, the Depression-era legislation that prevented commercial banks from merging with investment and insurance firms (the new law essentially legalized the $70 billion merger in 1998 of Citicorp and Travelers Group that created Citigroup).

Circling back to recent events, Once he got to Citigroup, Rubin assembled a team, partially from his old associates in the Clinton administration,

He also recruited several former Clinton aides to Citi, including former Health and Human Services deputy secretary Kevin Thurm....

So Kevin Thurm became something of a Robert Rubin protege at Citigroup. In fact, he rose to an important leadership position at the same time Citigroup was getting ready to become a "basket case," in part apparently because of the advice of Robert Rubin.  According to a 2013 version of Mr Thurm's official Citigroup bio,

Kevin L. Thurm is Senior Advisor for Compliance and Regulatory Affairs at Citigroup.

Previously, Thurm served as the Chief Compliance Officer of Citi. In that role, Thurm led Global Compliance which protects Citi by helping the Firm comply with applicable laws, regulations, and other standards of conduct, and is responsible for identifying, evaluating, mitigating and reporting on compliance and reputational risks and driving a strong culture of compliance and control. Since joining Citi in 2001, Thurm has also served as Deputy General Counsel of Citi, where he led the Corporate Legal group, overseeing a number of Company-wide Legal functions and providing support on day to day matters, including issues involving the Board, senior executives, and regulators; Chief  Administrative Officer of Consumer Banking North America, where he helped lead the business group and was responsible for a variety of functions including Community Relations, Compliance, Legal and Public Affairs; Director for Administration in the Corporate Center; Chief of Staff to the President and Chief Operating Officer of Citigroup; and as the Director of Consumer Planning in the Global  Consumer Group.

To recap, Mr Kevin Thurm was a top compliance executive of Citigroup while the company was imploding, and being a protege of Robert Rubin, an architect of the financial deregulation that led to the global financial collapse, and a leader of Citigroup responsible for the risky behavior of that company that led to its near collapse, which was another precipitant of the global financial collapse or great recession.  It is not obvious that these are great qualifications to be Senior Counselor at DHHS.

Moreover, Mr Thurm's responsibilities at DHHS would not be limited to compliance or financial leadership.  According to the official DHHS press release announcing his appointment,

As a Senior Counselor, Thurm will work closely with the Department’s senior staff on a wide range of cross-cutting strategic initiatives, key policy challenges, and engagement with external partners.

Yet, there is nothing in Mr Thurm's public record to indicate that he has any actual experience in health care, medicine, public health, or biologic science.  So it is not obvious why he should be entrusted with leading "cross-cutting strategic initiatives, [and] key policy challenges."

On the other hand, Mr Thurm might be simpatico with the new Secretary of DHHS, Ms Sylvia Burwell.  According to a Washington Post article at the time of the hearings about her nomination,

despite her Washington experience, ... is not well known in health-policy circles, and, during her confirmation hearings, she gave little concrete sense of the direction in which she will take the complex department she will inherit.

This seems to be a polite way to see she also has no actual experience in health care, medicine, public health, or biologic science.   Her official biography lists no such experience.  However, she was also a Robert Rubin associate, and perhaps protege, during the Clinton administration,

During the Clinton administration, Burwell held several economic roles — as staff director of the White House National Economic Council, as chief of staff under then-Treasury Secretary Robert Rubin,...

To summarize so far, the new Secretary of the Department of Health and Human Services, and now her new Senior Counselor, were both closely associated with Robert Rubin, who seems to bear major responsibility for the global financial collapse, and the new Senior Counselor worked with Rubin at Citigroup, whose near bankruptcy helped accelerate that collapse.  On the other hand, neither of these leaders has any experience in health care, public health, medicine, or biological science. 

Hedge Funds, Tax Avoidance, and the US Food and Drug Administration

This story is even less obvious.  A July, 2014, report in Bloomberg recounted plans for a Senate hearing on tax avoidance by huge, lucrative hedge funds.  The basics were,

A Renaissance Technologies LLC hedge fund’s investors probably avoided more than $6 billion in U.S. income taxes over 14 years through transactions with Barclays Plc and Deutsche Bank AG, a Senate committee said.

The hedge fund used contracts with the banks to establish the 'fiction' that it wasn’t the owner of thousands of stocks traded each day, said Senator Carl Levin, a Michigan Democrat and chairman of the Permanent Subcommittee on Investigations. The maneuver sought to transform profits from rapid trading into long-term capital gains taxed at a lower rate, he said.

An accompanying Bloomberg/ Businessweek story described testimony at a Senate hearing by the Renaissance co-Chief Executive Officer Peter F Brown,

Renaissance was founded by the mathematician James H. Simons, whose fortune is now estimated by Bloomberg Billionaires Index at about $15.5 billion.

Brown became co-CEO with Robert L. Mercer in 2010 after Simons retired and became non-executive chairman. Before joining the firm in 1993, he was a language-recognition specialist at International Business Machines Corp.

Mr Brown testified that the company was not so much trying to avoid taxes by the complex strategy but simply to make even more money.    But, per the New York Times, Senator Levin

focused on the lucrative nature of the transactions, most of which took place using Renaissance employees’ money. Between 1999 and 2010, the fund used basket options to produce profits of more than $30 billion, Mr. Levin said. Barclays and Deutsche Bank together made more than $1 billion in revenue.

Mr Brown's firm seems, unlike Citigroup, to have a record of financial success, and no one is accusing Mr Brown or his firm of being responsible for the global financial collapse.  However, Mr Brown is certainly a very rich Wall Street insider.  Also, as we noted in 2009, his firm clearly has had major involvement in health care investments.   And the current hearings emphasize concerns that his firm has been executing questionable tax avoidance strategies.

Mr Brown has one other very major tie to health care.  As  noted in 2009 on Health Care Renewal, but apparently only parenthetically by one recent news article, (again from Bloomberg, written before the Senate hearing),

Brown lives in Washington with his wife, Margaret Hamburg, the commissioner of the U.S. Food and Drug Administration. She was appointed by President Barack Obama in 2009.

In 2009, we noted that as a condition of Dr Hamburg's leadership of the US FDA, her husband, Mr Brown, would have to divest his shares of four Renaissance funds.  However, it is obvious that he remained at and became the co-CEO of Renaissance since. 

While the current leader of the FDA clearly has medical and health care experience, she is also steeped in the culture of finance and Wall Street.

Summary

Thus we have two recent stories of how top health care leadership positions in the US government are held by people with strong ties to the world of finance, but not always with any direct health care or public health experience.  Why was the wife of a hedge fund magnate the best person to run the FDA?  Why was a person not known in "health policy [or health care] circles" the best person to run the Department of Health and Human Services?  Why was a Robert Rubin protege from Citigroup the best person to be a Senior Counselor at DHHS?  Presumably there were many plausible candidates for these government positions.  Why was it not possible to find people to fill them who were not tied to Wall Street?  Why was it not possible to find people with profound understanding of and sympathy for the values of health care and public health to fill all of them?   

The leadership of health care and finance continue to merge.  This seems to be one broad explanation for why both fields continue to be notably dysfunctional.  While Wall Street has spread around plenty of money to influence public opinion and political leaders, many still remember how its foolish and greedy leadership nearly caused another great depression.  It is likely that the influence of Wall Street culture on the leadership of health care organizations, be they governmental, academic, other non-profit, or commercial, has fostered the continuing financialization of health care, with its focus on "shareholder value," that is, putting short-term revenue ahead of patients' and the public's health.

I strongly believe health care would be better served by leadership that puts patients' and the public's health first.  Occasionally people with such values may come from a finance or economics background.  However, in an era where many people continue to believe "greed is good," we at least ought to confirm that health care leaders really are about health care first, and money a distant second.

ADDENDUM (20 August, 2014) - This was re-posted on the Naked Capitalism blog.

8:27 AM

The FDA Commissioner Divests

Dr Margaret Hamburg, having been confirmed by the US Senate, is the new commissioner of the US Food and Drug Administration (FDA). We posted twice about whether her and her family's financial relationships might be relevant to her nomination.

Here we discussed her position on the board of directors of Henry Schein, Inc a medical supply company. My concern was whether someone who had spent years being ultimately responsible for maximizing the profits of a medical supply company would be able to be a fair, and when necessary, tough regulator of the companies that supply Henry Schein with products to sell.

Here we discussed Dr Hamburg's husband's leadership of the hedge fund management company, Renaissance Technologies. My concern was whether someone who is part of a family that had gotten rich from buying and selling stocks and financial instruments, of which a likely substantial but unknown fraction were of health care corporations, would again be able to be a fair, and when necessary tough regulator of some of these same companies.

At the time, it did not seem that anyone else shared these concerns. As far as I could tell, there was no discussion of them in the press, or at Dr Hamburg's confirmation hearings.

However, today the Wall Street Journal reported:

The new commissioner of the Food and Drug Administration is among the wealthiest Obama administration appointees, with income of at least $10 million in 2008 thanks mostly to her husband, a hedge-fund executive, according to financial disclosure forms.

Margaret Hamburg and her husband, Peter Fitzhugh Brown, must divest themselves of several hedge-fund holdings as well as some of Mr. Brown's inherited drug-company stocks so Dr. Hamburg can take the post as the nation's top food and drug regulator. Mr. Brown is a lieutenant to hedge-fund magnate James Simons

The couple's income in 2008 came from stocks, money-market accounts, trusts and funds including several affiliated with hedge-fund sponsor Renaissance Technologies, where Mr. Brown works.

The couple controls assets worth between $21 million and $40 million, according to disclosure forms Dr. Hamburg gave the White House. The forms don't reveal exact figures, just ranges.

Before her FDA nomination, Dr. Hamburg also served for five years on the board of Henry Schein Inc., a $4 billion firm that distributes medical and dental supplies including vaccines. Her remuneration has been in the form of Schein shares.

She will forfeit $100,000 to $250,000 in restricted stock and more than 11,000 unvested stock options, all of which have a strike price above market value. She will also have to sell vested stock, valued between $250,000 and $500,000.

Mr. Brown, an expert in artificial intelligence, is vice president and director at Renaissance Technologies. The fund company said recently its total assets were about $18 billion. Mr. Simons was the top-paid hedge-fund manager in 2008, receiving $2.5 billion, according to Alpha magazine.

A lengthy review by the Government Ethics Office, which included direct discussions with Renaissance managers, determined that both Dr. Hamburg and her husband will have to get rid of their interest in four Renaissance funds—the Renaissance Institutional Equities Fund, the Renaissance Institutional Futures Fund, Meritage Investors and Topspin Partners.

However, the couple will be allowed to retain their interest in Renaissance's Medallion fund. An administration official said Medallion was exempted because its computerized quantitative model trades rapidly and holds shares only briefly, creating the equivalent of 'a very blind trust.'

Mr. Brown has already sold his stock in Abbott Laboratories and shares in Johnson & Johnson, Merck & Co. and Medco Health Solutions Inc., which he inherited from his father.

So it appears, in retrospect, that the Government Ethics Office also felt that Dr Hamburg's position on the Henry Schein Inc board constituted a conflict of interest. Furthermore, the Office felt that Dr Hamburg's and Mr Brown's holdings in several hedge funds constituted conflicts of interest. So, in retrospect, it is odd that these financial relationships attracted no attention other than that of Health Care Renewal prior to Dr Hamburg's confirmation by the Senate. I do hope that now, having severed significant relationships and sold financial holdings, Dr Hamburg will prove to be a fair, and tough when necessary regulator of companies that have too often misbehaved.

1:32 PM

Hedging the Future of the FDA?

A little while ago, we discussed the Obama administration's nomination for Commissioner of the US Food and Drug Administration (FDA), Dr Margaret Hamburg, focused on her current position as a director of Henry Schein Inc, a large distributor of medical products, including drugs and devices. There is another aspect of her nomination worthy of discussion, but which has not been publicly discussed. It has appeared almost as a footnote in a few reports of her nomination. For example, at the end of an article in the Chicago Tribune,

Hamburg is married to Peter Fitzhugh Brown, an artificial intelligence expert who is executive vice president and director of Renaissance Technologies, a privately owned hedge fund.

In this time of financial meltdown, hedge funds are more frequently mentioned in the press. Hedge funds are a relatively new, and generally opaque presence in the financial world. Hedge funds apparently buy and sell stocks, bonds, commodities, financial instruments, and use a variety of investment strategies. Since health care accounts for over $2 trillion of the US economy, it seems possible that hedge funds might be involved in stocks, bonds, and the finances in general of health care corporations. We therefore wondered Mr Brown's position at the hedge fund management company Renaissance Technologies might have something to do with health care, particularly with health care corporations that make products regulated by the FDA. It turns out that this question has no simple answer.

Hedge funds are often described as secretive and lightly regulated. This seems accurate, as it is not easy to find out much about their operations, strategy, holdings, or leadership. My usual Google searching tricks did not turn up much useful about Renaissance Technologies.

Most helpful was a 2008 article in Bloomberg News, which labeled the company as "the world's largest hedge fund manager." It was managing $35.4 billion in assets in September, 2007.

The Bloomberg reporter's attempt to find out something about the company's strategies was a failure, summarized by his conclusion, "nobody knows precisely how the firm makes its millions." When the funds founder, Jim Simons, was asked what he can say about his trading strategy, he answered, "not much." The instruments he trades? - "everything." The strategies he uses? - "a lot."

The only publicly available information about the company's holdings is in its 13F filings with the US Securities and Exchange Commission (SEC). The 2009 filing, covering 2008, is here. The filing only covers long stock holdings at the end of the year. Lacking a research staff, I have not been able to go through the voluminous report in detail, but do note that the company at times invested in health care corporations from A ([Abbott Laboratories, valued at $88,909,000) to Z (Zimmer Holdings, $7,858,000).

I had little luck finding out the role of Mr Brown within the company, and whether he has any personal responsibility for making decisions about investments in any health care corporations. But I did find that a prominent Renaissance Technologies fund, the Medallion Fund, worth $6 billion in July, 2007, is owned mostly by Renaissance Technologies employees, presumably including Mr Brown, not outside investors, "Medallion stopped taking new money from outside investors in 1993 and returned pretty much the last of their capital 12 years later. Today, the fund is run almost exclusively for the benefit of the Renaissance staff." Furthermore, most of Renaissance Technologies is now owned by its founder and a few top officers, including in particular, Peter Fitzhugh Brown, who the Bloomberg article reported as owning "5-10 percent."

So, does Mr Brown's position in and partial ownership of Renaissance Technologies amount to a conflict of interest with respect to his wife's proposed position as Commissioner of the FDA? It is not clear. Mr Brown works for a company that manages billions of dollars, and likely a good chunk of that money is invested in instruments related to health care corporations. Mr Brown now presumably a goodly number of shares of the company's premier fund, and owns a substantial minority interest in the company as a whole. Hence he indirectly probably owns a substantial amount of such instruments. Whether he has any direct decision making responsibility for the buying and selling of such instruments is unclear.

Therefore, it seems that Dr Hamburg actually has a "potential conflict of interest" arising out of her husband's role in Renaissance Technologies. In academic conflict of interest policies, that phrase often appears without a definition, perhaps to soften the words so often applied now to medical academics. But this seems to be a real instance in which it should be used.

The shadows cast by the increasing opacity of the world of finance, now dominated as never before by organizations such as hedge funds that control large pools of investment about which regulations compel little disclosure, now seem to be darkening health care.

In my humble opinion, the Senate hearings on Dr Hamburg's confirmation ought to determine whether this potential conflict is more than that. Furthermore, we need a broader dialogue about how to dispel the shadows and secrecy that the dark arts of finance have spread to health care.

12:07 PM