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How KB Home CEO's pay went through the roof

With other corporate chiefs on his board, Bruce Karatz made $232.6 million in 3 years, far more than his peers.

December 17, 2006|Kathy M. Kristof and Annette Haddad | Times Staff Writers

KB Home may be the fifth-largest U.S. home builder, but it was No. 1 when it came to pay for its chief executive.

Over the last three years, former CEO Bruce Karatz made $232.6 million in compensation. That's nearly three times what the chief executives earned at Pulte Homes Inc. and Centex Corp., which are bigger and more profitable.

Among the nation's 12 largest builders, Karatz's closest competition came from Robert Toll, the CEO of Toll Bros. Inc. He pulled in $138.7 million over three years -- a sum that Karatz outdid by nearly 70%.

Karatz, 61, retired under pressure last month after an internal investigation found that he picked stock option grant dates that inflated the value to himself and other executives.

Under his employment agreement, he could walk away with as much as $175 million in severance pay, pension benefits and stock options, a package that has prompted fresh criticism from large shareholder groups, who say Karatz has been overpaid for years.

To put Karatz's compensation in context, the Los Angeles Times reviewed pay packages for chief executives at the 12 largest home building companies for 2003 through 2005.

Karatz emerged as the clear leader, despite the fact that his Westwood-based company's 2005 results -- $9.4 billion in revenue and $842.4 million in profit -- put it in the middle of the pack.

So how did Karatz come out on top?

Compensation experts point to two features in his contract that helped guarantee outsized earnings.

The first, and most significant, was a clause that promised Karatz a bonus between 1% and 2% of KB's earnings before taxes, said David Leach, managing director of Strategic Apex Group, a compensation consulting firm in Los Angeles. Other large publicly traded builders also reward their CEOs with bonuses based on a percentage of pretax earnings, but usually only after the company meets profit thresholds. Only Lennar Corp. CEO Stuart A. Miller has a pay plan similar to Karatz's, but it's not nearly as lucrative. He can earn 0.5% to 1% of pretax profit.

Tying compensation to pretax profit without other restrictions all but guarantees massive payouts at a company of KB's size, Leach said.

"You might see something like this in a start-up company, but not at a major corporation," he said. "The numbers just get way too large."

Secondly, Karatz's pay formula also stipulated that his percentage would be based on how much the company earned before paying executive salaries and bonuses, which were substantial at KB Home, said Paul Hodgson, senior research associate at the Corporate Library, a research firm based in Maine.

"Any bonus formula that has to calculate income before you've paid all your bonuses is obviously paying too much out in bonuses," Hodgson said.

Karatz may also have benefited from a friendly board of directors, in particular the five-man compensation committee, which is led by Occidental Petroleum Chairman and Chief Executive Ray Irani.

Irani is no stranger to high pay. Oxy paid him $49 million in cash and stock and gave him options with a potential value of $97 million in 2005. Also on the committee are two other chief executives: Leslie Moonves of CBS Corp., who earned $22.8 million in 2005, and J. Terrence Lanni, chairman and CEO of casino company MGM Mirage, who earned $9.6 million and was granted options with a potential value of $35.5 million.

"We are always leery when you have another company's CEO on a compensation committee," said Ed Durkin, director of corporate affairs at the United Brotherhood of Carpenters, which has a $40-billion pension fund. "They don't want people to say no to them, so they are particularly generous."

A fourth member of the committee is James A. Johnson, who has been dubbed a "problem director" by the AFL-CIO for serving on the board of UnitedHealth Group Inc. That company's CEO, William W. McGuire, retired this year in the wake of a stock-option scandal. The fifth member of KB's compensation panel is Luis Nogales, managing partner of Los Angeles private equity firm Nogales Investors.

The members declined to be interviewed about how they determined Karatz's pay formula. Karatz and KB Home executives also declined to comment.

Named CEO in 1986, Karatz has been lauded by Wall Street and industry peers for rebuilding the company's image after it was hit with a series of lawsuits alleging shoddy construction in the early 1990s, when it was known as Kaufman & Broad.

"Bruce was among the best CEOs," said Greg Gieber, an analyst at A.G. Edwards & Sons. "He was candid and had a good understanding of what builders are facing."

Karatz has defended his pay, saying it was tied to performance. From 2003 to 2005, KB Home's profit more than doubled and its revenue rose 60%. And from the end of 2000 and to the end of 2005, the company's stock price rose fourfold.

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