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93–185 PDF 2003

CAN U.S. COMPANIES COMPETE GLOBALLY USING

AMERICAN WORKERS?

FULL COMMITTEE HEARING

OF THE

COMMITTEE ON SMALL BUSINESS 

HOUSE OF REPRESENTATIVES

ONE HUNDRED EIGHTH CONGRESS

SECOND SESSION

WASHINGTON, DC, JANUARY 21, 2004

Serial No. 108–50

Printed for the use of the Committee on Small Business

(

Available via the World Wide Web: http://www.access.gpo.gov/congress/house

COMMITTEE ON SMALL BUSINESS 

DONALD A. MANZULLO, Illinois, Chairman 

ROSCOE BARTLETT, Maryland, Vice 

Chairman 

SUE KELLY, New York 

STEVE CHABOT, Ohio 

PATRICK J. TOOMEY, Pennsylvania 

JIM DEMINT, South Carolina 

SAM GRAVES, Missouri 

EDWARD SCHROCK, Virginia 

TODD AKIN, Missouri 

SHELLEY MOORE CAPITO, West Virginia 

BILL SHUSTER, Pennsylvania 

MARILYN MUSGRAVE, Colorado 

TRENT FRANKS, Arizona 

JIM GERLACH, Pennsylvania 

JEB BRADLEY, New Hampshire 

BOB BEAUPREZ, Colorado 

CHRIS CHOCOLA, Indiana 

STEVE KING, Iowa 

THADDEUS MCCOTTER, Michigan 

NYDIA VELA ́ ZQUEZ, New York 

JUANITA MILLENDER-MCDONALD, 

California 

TOM UDALL, New Mexico 

FRANK BALLANCE, North Carolina 

ENI FALEOMAVAEGA, American Samoa 

DONNA CHRISTENSEN, Virgin Islands 

DANNY DAVIS, Illinois 

GRACE NAPOLITANO, California 

ANI ́BAL ACEVEDO-VILA ́ , Puerto Rico 

ED CASE, Hawaii 

MADELEINE BORDALLO, Guam 

DENISE MAJETTE, Georgia 

JIM MARSHALL, Georgia 

MICHAEL MICHAUD, Maine 

LINDA SA ́ NCHEZ, California 

BRAD MILLER, North Carolina 

[VACANCY] 

J. MATTHEW SZYMANSKI, Chief of Staff and Chief Counsel 

PHIL ESKELAND, Policy Director 

MICHAEL DAY, Minority Staff Director

(II) 

C O N T E N T S 

WITNESSES

Page 

Kennedy, Mr. Allan, Writer/Researcher/Management Consultant ...................... 5

Bagley, Ms. Constance, Associate Professor of Business Administration, Harvard University .................................................................................................... 9

Bassi, Dr. Laurie, CEO & Managing Partner, McBassi & Co. ............................ 12

Wilkinson, Mr. Anthony, President & CEO, National Association of Government Guaranteed Lenders ................................................................................... 26

APPENDIX

Opening statements: 

Manzullo, Hon. Donald A. ................................................................................ 40

Velazquez, Hon. Nydia ..................................................................................... 46

Prepared statements: 

Kennedy, Mr. Allan, Writer/Researcher/Management Consultant ............... 48

Bagley, Ms. Constance, Associate Professor of Business Administration, 

Harvard University ....................................................................................... 57

Bassi, Dr. Laurie, CEO & Managing Partner, McBassi & Co. ..................... 63

Wilkinson, Mr. Anthony, President & CEO, National Association of Government Guaranteed Lenders ...................................................................... 67

(III) 

(1)

HEARING ON: CAN U.S. COMPANIES COMPETE 

GLOBALLY USING AMERICAN WORKERS? 

WEDNESDAY, JANUARY 21, 2004, 

HOUSE OF REPRESENTATIVES, COMMITTEE ON SMALL BUSINESS

Washington, D.C. 

The Committee met, pursuant to call, at 10:06 a.m. in Room 

2360, Rayburn House Office Building, Hon. Donald Manzullo presiding. 

Present: Representatives Manzullo, Velazquez, Bartlett, 

Millender-McDonald, Udall, Chabot, Ballance, Christensen, Akin, 

Napolitano, Bordallo, Majette, Bradley, Beauprez. 

Chairman MANZULLO. The Committee meeting will be called to 

order. While we have good news about an improved economy, we 

continue to have not so good news about Americans losing jobs to 

foreign competition. 

As a capitalist and as an ardent free trader, I can say with conviction that competition is good. It makes us a better nation, while 

improving the economies of those nations against which we are 

competing. 

There is a false argument, however, that anyone who dares question what is happening with off-shoring or the decimation of domestic manufacturing is somehow protectionist, as if there are no 

shades of gray between the two extremes of pure protectionism and 

no holds barred free trade. 

It is my contention that one of the key issues hidden from this 

debate is the tremendous pressure Wall Street puts on corporate 

America. I think if we peel back the onion, we will find that companies are unduly forced into doing anything and I mean anything, 

to drive up stock values in order to make their quarterly estimates. 

The decision to manage a company by managing stock price has 

monstrous effects on everyday America. For example, companies 

are shutting down entire domestic supply chains for the lure of 

cheaper labor overseas. 

I am not against international trade, but neither do I support the 

wholesale abandonment of small businesses by big multinationals. 

By looking long-term as opposed to short-term, I believe companies 

can put America’s jobs first and still win in the global marketplace. 

Legislation is surely not the answer. There has to be a change 

in corporate culture and thus this hearing this morning. 

I realize we are dealing with highly competitive nations like 

India and China. The problem is we are giving away the store 

without giving up much on their end. India has one of the worst 

2

trading records with the United States. China simply refuses to 

comply with WTO obligations and we still keep the door open. 

What is interesting is that the semi-conductor industry is complaining that China is forcing them to give up technology secrets 

if they want to do business in China. What they are afraid of, what 

they know to be true, is that the Chinese companies will steal their 

intellectual property and the Chinese government will do nothing 

about it. 

We are not talking about manufacturing employment being in a 

decline because of better machinery. That is the classical definition 

of productivity. In fact, according to sources in the tooling industry, 

only about one-quarter of the productivity increases can be attributed to new machinery. The rest is off-shoring and the incorporating of cheap, foreign components with American components 

to come up with higher productivity. 

If the argument is that companies cannot be profitable using 

Americans, why are companies like IBM still sending jobs overseas, 

when they have had strong profits? 

In Monday’s issue of the Wall Street Journal, a copy of which is 

on the table, it is reported that IBM plans to ship thousands of 

high paying programming jobs to China, India and Brazil. They 

even tell their managers not to be ‘‘transparent regarding the purpose or intent’’ of the off-shoring decision and cautions that the 

‘‘terms on-shore and offshore should never be used’’. It is a startling and revealing article. 

That is not the worst of it. The poke in the eye is that IBM will 

have some of the foreign programmers come to the U.S. for on-thejob training by the very people whose jobs they will take over. 

I.B.M.’s chief financial officer said, ‘‘Competitive price pressures 

in computer services are holding down profitability’’. Well less than 

a week ago, IBM announced a 41 percent increase in fourth quarter 

earnings per share the same period in 2002. They had a 42 percent 

increase in income compared to the same period a year ago. 

What about the CEO’s exuberance in stating, ‘‘This was a very 

good quarter for IBM and an encouraging end to a year in which 

we steadily gained momentum and posted record revenues. Our 

pretax earnings per share were up double digits for 2003 and we 

ended the year with more than 7.6 billion in cash’’? 

Is this what the IBM CEO meant when he said price pressures 

are holding down profitability? I cannot say he is blowing smoke, 

but it sure is an interesting definition of profitability. 

What is remarkable is that the National Science Board and the 

High Tech CEO Policy Group recently warned that the economic vitality of America is threatened by a lack of U.S. graduates in 

science and engineering. My question is: How can you get students 

excited about science and engineering when they see those same 

jobs be moved overseas for a fraction of the price? 

The National Science Board further concluded that U.S. strength 

in education and innovation is threatened by two major trends. 

First, global competition for science and engineering talent is intensifying. Second, the number of U.S. born graduates in these fields 

is likely to drop. I must add a third, the number of foreign born 

graduates from U.S. institutions going back home was increasing. 

3

So what does all this have to do with corporate earnings management? I think they are all connected to decisions made in the board 

room to find that extra penny per share at all and any costs. 

It is my hope that our distinguished panel of experts can shed 

some light on how companies can compete in the global market 

using American workers. 

For the purpose of the hearing, we have set it forth in two distinct panels. The first panel is dealing with essentially employees 

as human capital. It is going to be a very exciting conversation taking place. 

The second panel I have split off. The minority had requested a 

separate hearing on 7(a), and the second panel speaker is an expert 

on the 7(a) program that is totally unrelated to this. In fairness to 

the two separate topics, I have decided as Chair to split them into 

two separate panels. 

[Chairman Manzullo’s statement may be found in the appendix] 

I recognize our distinguished ranking minority leader of the 

Small Business Committee, Congresswoman Velazquez. 

Ms. VELAZQUEZ. Thank you, Mr. Chairman. Today the drive on 

Wall Street for short-term profits has damaged our nation’s consumers, workers and local communities. 

Unfortunately, such eagerness for rapidly rising profits has made 

headlines around the world as company after company has adopted 

shifty accounting techniques to appear more profitable than they 

actually are. 

From Enron to Worldcom, the desire to satisfy shareholders has 

pushed these companies over the edge. These type of scandals are 

not directly related to small businesses, since they have occurred 

in large publicly traded companies, calling into question the relevance of this issue for the Small Business Committee. 

Unfortunately, these type of governance issues are not solely limited to the private sector. Many times decisions that are made at 

the federal level serve to create the very complications that we try 

to stop. 

An example of this is a continuing crisis in the Small Business 

Administration’s 7(a) loan program, which goes without shift and 

thorough Congressional scrutiny. This issue surfaced late last 

month when the SBA announced that it will impose another cap 

on the 7(a) lending program, but this looming crisis was actually 

foreshadowed much earlier in the year, during a Committee hearing when both Democratic members and industry leaders indicated 

that the SBA’s budget will clearly fall short in meeting the small 

business demand for 7(a) loans. 

During that testimony and throughout 2003, the Bush administration maintained the program had enough funds. Then at the end 

of this year and to no surprise of some members on the Committee, 

the Bush administration announced the program ran out of money. 

The root of the current crisis is the Administration’s budget requests. The funding request for this important program has steadily declined from President Clinton’s budget request of $11.5 billion 

in 2001 to the Bush administration’s most recent request of $9.3 

billion in 2004. 

This decrease is inconsistent with the demand for 7(a) loans, 

which has increased to more than $12 billion in 2004. As a result 

4

of this inadequate budget request, the stage was set for the program to collapse. 

The first sign of this collapse was the Administration’s December 

23 announcement of a $750,000 cap on 7(a) loan size. This announcement caused a completely foreseeable run on the bank as 

lenders rushed their applications to the SBA for processing and approval. 

As obvious as this was, the Administration was caught completely off guard. Instead of managing its operation to account for 

this heightened demand, the Administration made the extreme decision on January 6 to shut down the 7(a) loan program and return 

all pending applications to our nation’s small businesses. 

The Administration’s current solution is hardly a solution at all. 

The SBA has continued its $750,000 cap on loans, banned the use 

of 7(a) loans in larger financing packaging and has not addressed 

the inequities suffered by those small businesses that had their application outright canceled. 

To top it all off, it is likely the program will shut down again before the end of January. Does this sound like a solution to you? It 

does not to me or my Democratic colleagues on the Committee. 

Small businesses in the United States drives job creation and 

contributes to positive economic growth. This is especially important now as recent reports confirm the economy is failing to add 

the number of jobs necessary to put America back to work. In fact, 

in December it just created 1,000 new jobs. 

A real commitment from this Administration to get the small 

business sector is exactly what our nation needs right now. Without this, the economy will be unable to make a full recovery because small businesses will be left out in the cold. Thank you, Mr. 

Chairman. 

[Ranking Member Velazquez’s statement may be found in the appendix] 

Chairman MANZULLO. Thank you very much. We have been waiting over a year for two of the three witnesses and conversations 

going on. I was challenged about two years ago by a CEO of a 

major corporation back in Rockford, Illinois to read a book called 

The End of Shareholder Value, Corporations at the Crossroads, by 

Allan Kennedy. 

It has become required reading for the members of my staff and 

I got my personal copy autographed this morning. We have been 

in contact with Mr. Kennedy I believe now for about a year and a 

half to try to coordinate his schedule to come here and speak. 

We are going to set the clock at eight minutes for each of the witnesses and I look forward to your testimony. 

Mr. Kennedy, if you want to pull the mike closer to you and push 

it down just a little bit there I think we might get a little bit better 

resonance. 

Mr. KENNEDY. Fine. 

Chairman MANZULLO. When you see the clock getting yellow, you 

have got about a minute to go more or less, but do not let it intimidate you. My understanding is that there will be no votes until at 

least past noon. So we should be in good shape on time. We look 

forward to your testimony. 

5

STATEMENT OF ALLAN KENNEDY, WRITER/RESEARCHER/

MANAGEMENT CONSULTANT 

Mr. KENNEDY. First of all, thank you Chairman Manzullo and 

Ranking Member Velazquez and other members of the Committee 

for inviting me here. It is really an honor to testify in front of Congress and I appreciate it. 

My name, as you know, is Allan Kennedy. I am testifying as an 

individual. I have no affiliations with anyone. My background is I 

spent about 30 to 35 years as a management consultant, primarily 

to big business. 

Of course while I was doing that, I was running a small business 

called A Consulting Business and for a while I ran a software company. I have had a foot, therefore, in both big and small business 

for a number of years. 

I do bring a bias to the table, even though I do not represent 

anyone. I really care passionately about the future of business, big 

and small. I think it is the engine that makes for a better life for 

all people in America and it is really critically important to get it 

right. That is why I wrote the book and that is why I am testifying 

today. 

So let me briefly skip over some of the background and then end 

hopefully with some comments about things I think can be done. 

I do not have any easy answers, but I think there are steps that 

can be taken in the right direction. 

First of all, the phenomena of the short-term orientation of large 

corporations or big business needs to be put in context and the 

most important part of that context is that big business all started 

as small business. Companies do not just grow up as big businesses. They are almost all family enterprises originally or quasifamily enterprises that just were successful and grew into being big 

businesses. 

After the Second World War, a lot of people outside of a family 

context began to see launching a business as a darn good way to 

get rich. So you had a whole new set of corporations emerge, where 

the real intent of launching those corporations was in fact to make 

money. Famous names like Intel are examples of that kind of a corporation. 

Along the way and certainly by the 1950’s and 1960’s, professional managers had for the most part replaced family members as 

the senior managers of these increasingly large business enterprises and of course their interest was strongly to begin to share 

the wealth that accrued from building the business, since they 

were not the founding families. 

As it happens, around the end of the 1970’s and the beginning 

of the 1980’s, when buy out firms such as Kolbert Kravitz and people like that came along, they start arguing that management was 

not in fact pursuing adequately shareholder value. That is where 

the phrase began to arise. 

They were not maximizing their returns to shareholders and 

management was not being held accountable enough to produce results. So they started putting pressure on managers, the threat of 

being bought out by a buy out specialist to become more accountable. 

6

Now in response to that and in response to dramatically increased competition from overseas, most large businesses started to 

incorporate performance measures into their compensation to tie 

managers’ interests more closely to the interests of shareholders. 

In particular, they developed a lot of stock based compensation 

schemes so that managers would cash in if the stock of the corporation went up. In fact, the byproduct of those schemes, was the managers began to cash in at totally unprecedented levels, because of 

their stock option schemes. 

By the time 2000 came around and the bubble had burst, now 

I should note that I wrote the book, The End of Shareholder Value 

back in 1998 and 1999. It was published at the beginning of 2000, 

so pre-bubble. 

By the time the bubble burst, in fact the ethic of big business, 

was simply greed, get as much as you can, as fast as you can and 

that I think is the fundamental problem that is driving an awful 

lot of the problems in the business environment right now. 

Why is running a business for greed dysfunctional? Well it is 

dysfunctional for two reasons. First of all, the incentive schemes 

that managers have and that they are trying to optimize with their 

pursuit of their own personal greed, are financially oriented and 

very short-term in focus. 

Financially oriented, because it is easy to measure finances and 

short-term, because most managers have a fairly short-term perspective, unlike family members of family run firms. 

Also, they are heavily influenced by the stock market and even 

though most of the money in the markets is institutional money, 

long-term pension money, money managers are motivated to beat 

their comparables on a quarter-by-quarter and year-by-year basis 

so they are very short-term oriented in their outlook and they are 

churning their portfolios to produce marginal gains over their competitors in the money management business, all of which increases 

the short-term pressure on business. 

This short-term pressure leads managers to adopt techniques 

such as and we have all heard of them, downsizing, re-engineering, 

outsourcing techniques to increase the short-term earnings of the 

business, often at the expense, not the intended outcome, but often 

at the expense of the long-term viability of the business. 

A nice example is there is a popular program called Six Sigma, 

which is really a quality control, quality improvement program. It 

is really a euphemism for cost reduction, because improved quality, 

quality costs less. It is the name of a famous book. Improved quality therefore streamlines operations and you can run at lower costs. 

Every manager I know in big business who launched the Six 

Sigma program managed it by turning to the managers who were 

implementing Six Sigma and saying, so how much are your costs 

coming down? Everything translated into short-term this way cost 

gain. 

Now why do we care if big business is being run? Why particularly in the Small Business Committee do we care if big business 

is being run on a short-term basis? 

Well, we care because small business, first of all, is tremendously 

important to the economy. We all know and I do not know what 

7

the statistic is, but virtually all of the job growth in the economy 

comes from the small business sector. 

Family firms tend not to be run for short-term profit. They tend 

to be run to preserve employment, often of family members and colleagues and neighbors and whatever and they are designed to build 

long-term wealth, which is very different from short-term profit. 

Equally, unless they are ridiculously profitable, small businesses 

tend to be under capitalized. So anything that requires them to invest money short-term can be very problematic for a small business 

and you will see in a moment I will comment on why what big 

business is doing is creating pressure for small business in that respect, because most of what big business is demanding, which is 

lower costs from their suppliers, often small business suppliers. 

Lower costs now requires either immediate cost reductions, 

which of course flies in the face of the ethic of most small businesses, which is to retain the family environment of the business 

and to preserve the employment of their key employees or they require new systems and procedures like the movement to just-intime inventories on the part of big business. 

Well, if you are a small business supplier, that means you have 

to upgrade your systems to be able to interface with big business, 

to be able to meet those requirements or simply the demand to 

lower your price in the things you are selling to big business. For 

example, by moving to offshore outsourcing to offshore manufacturing. 

If you are a small business, the whole business of trying to open 

a plant overseas is a monumental problem for you. You do not have 

the money to be flitting off to the Far East to try to figure out how 

to open a plant over there. 

All of these things place enormous and counterproductive pressures on small business. So the Small Business Committee has 

every reason to be concerned about big business’ short-term focus 

on profits. 

What is specifically wrong and what can be done to put it right? 

Executive compensation has gone crazy. Executive pay is driven by 

an artificial marketplace, because it is set by committees of boards 

of directors, which are mainly comprised of other senior executives. 

So it is a closed club. 

It is a closed system, which is artificially setting the pay ever 

higher and if your pay goes higher, then my pay will go higher 

when it comes around to me. It is a non-market that has driven 

executive pay to levels that are just unsustainable. It is really just 

silly. 

Now we have the means of correcting that problem. The means 

are in the progressive taxation system and something needs to be 

done to bring the pay levels back to reasonable levels. 

It is totally unreasonable that a career employee, not matter how 

talented, I am thinking of someone like Jack Welch, who worked 

for General Electric, should be compensated a billion dollars for his 

25 years in the company or 30 years in the company, because he 

was CEO at the right time and place, when a worker who spent 

the same 30 years at General Electric is probably struggling to 

make ends meet on his pension. 

8

That does not make sense and that should be corrected by putting really punitive tax levels on over compensation. I think we 

could correct this problem overnight. What is over compensation? 

Something like a blue ribbon commission needs to define that. It 

is much too tough for me to define, but hundreds of millions of dollars for running a company is over compensation when you are not 

the creator of the company, you are just the hired manager. 

Corporate governance is fouled up, because these things would 

not have happened to the extent they have happened, if in fact the 

governance of corporations had worked. There has been some 

progress with Sarbanes Oxley and other things, but you know the 

New York Stock Exchange pay package, I think I am over my time, 

mutual fund scandals indicate that we have not solved the problem. 

The minimum thing that is needed is requiring the boards of 

large corporations to have representatives of all their constituencies, employees, the major communities they operate in, their 

suppliers, that would begin to address the problem. 

I am going to skip ahead on the written testimony to just say——

Chairman MANZULLO. What I would suggest is in the time for 

questioning then you can bring in the last part of your testimony 

that talks about the small businesses and what they can do on it. 

Mr. KENNEDY [CONTINUING] Will do. 

[Mr. Kennedy’s statement may be found in the appendix] 

Chairman MANZULLO. I do not know if we have had witnesses on 

Capitol Hill that have made such interesting statements. As I read 

your book, I said, I do not know if this man is a Democratic or Republican, a Libertarian, vegetarian. I have no idea what your philosophy is, but your testimony here is as remarkable and startling 

as the comments that you make in the book and I want to thank 

you for your candor. 

This leads us to our next witness I was on a plane coming home 

and picked up a Harvard Business Review, took a look at it and 

I noticed an article by Constance Bagley, associate professor of 

business administration at the Harvard Business School and I read 

the article, reread it and then it dawned on me that here is somebody who has taken a look at human beings and employees as 

human capital and not as statistics. 

Included in that article was a chart of ethical responsibility as 

a diagram. Do you first determine if a decision is legal? If it’s legal, 

then what is the impact that it has upon the employees? 

At that point, I saw somebody who was in an area where we find 

people, such as Andy Grove of Intel struggling. It is an astounding 

statement that he’s torn with the choice of enhancing shareholder 

value on one hand and then laying off the people who made the 

company on the other hand just in order to outsource in order to 

increase shareholder value. 

I gave her a call on the phone. She is a former corporate securities partner in the 900 lawyer firm of Bingham McCutchen, the 

San Francisco office. Her practice currently centers on legal aspects 

of entrepreneurship and cyberlaw as well as corporate governance. 

As I said before, she is also an associate professor business administration at Harvard Business School. Professor Bagley, we look 

forward to your testimony. 

9

STATEMENT OF CONSTANCE E. BAGLEY, ASSOCIATE PROFESSOR OF BUSINESS ADMINISTRATION AT HARVARD BUSINESS SCHOOL 

Ms. BAGLEY. Thank you very much, Mr. Chairman and Ranking 

Member and Committee members. It is a pleasure to be with you 

this morning. 

I teach in the entrepreneurship unit at the Harvard Business 

School and would echo the comments with respect to the importance of the issues we are discussing today for small business. 

Part of my work deals with venture capital, the private sources 

of funding. There is no question but that to the extent that the capital markets are shaken the way they have been in the wake of instances such as Enron and Worldcom, that the ability of young 

companies to get equity funding is substantially impaired by many 

of the misdeeds that we have seen in the larger companies. 

Again, I think that the Chairman’s looking at this issue, although it may seem a little tangential, in fact is directly related to 

whether people that want to go from creating something into a garage to creating perhaps the next Hewlett Packard can get the capital they need in order to do that. 

What I want to focus my remarks on today is this whole notion 

of shareholder primacy. I want to basically just set the record 

straight on what the law requires, because frankly I think that 

there is a good amount of misinformation there. 

I have been astounded the number of times I have spoken with 

public company directors who have made decisions, such as closing 

facilities and the like, that they have anguished over but have basically come down on the side of saying, I did not want to do it. I 

felt terrible doing it, but I had no choice. I had to maximize value 

for my shareholders. 

That is not what the law says. In the state of Delaware, where 

more than half of the Fortune 500 companies are incorporated, the 

Delaware Supreme Court has taken pains to make it clear to directors that the responsibility of the directors of a corporation domiciled in Delaware is to act in the best interest of the corporation. 

That is broadly defined to include not only the shareholders, but 

also other constituencies including employees, suppliers, the community, factors such as that. 

The obligation of the directors to maximize shareholder value 

arises in the very narrow instance in which a change of control of 

the company has become inevitable. 

Even in that instance, the Delaware Court has defined it so narrowly that frankly it arises only when you are either literally dismembering a company, so that there is no future for anyone, or you 

are essentially transferring control of a publicly traded company to 

either a single shareholder or to another company with one or several dominant shareholders. 

To show you just how much power directors have as a matter of 

law, the Delaware Supreme Court held that it was fully appropriate for the Time directors to go ahead with a merger with Warner Communications, in the face of a hostile bid by Paramount 

Communications that was at a price that clearly the Time shareholders thought was superior to what they felt would be realized 

at least in the short-term, from the merger of Time and Warner. 

10

In fact, the deal initially was structured as a stock-for-stock 

merger, requiring the approval of the Time shareholders. After 

Paramount made its all-cash offer, it became clear that that approval would not be forthcoming. 

In order to obviate the need for that approval, Time restructured 

the deal as a leveraged acquisition of Warner and proceeded on 

that basis. Paramount challenged it, saying wait a minute. You are 

not giving your shareholders an opportunity to get the highest 

value for their stock. 

The Delaware Supreme Court said that, the shareholders are not 

entitled to run the corporation. It is not as if we have a town hall 

meeting. They have elected representatives, the directors, and the 

directors have the fiduciary obligation to look out for all of the interests. Therefore it was held appropriate for the directors to continue with their strategic plan of going ahead with the deal with 

Warner. This is a stark example of the authority that in fact directors have. 

I believe that one of the failures that we have seen in corporate 

America has been the failure of our directors to assume the mantle 

of stewardship that comes with being the managers of these major 

engines of commerce in today’s world. 

If you look at the percentage of people employed by corporations, 

the percentage of products manufactured by corporations, the services provided by corporations, there is no question but that these 

are the dominant economic forces in today’s global marketplace. 

Yet there has been a tendency for directors and for frankly some 

of my fellow economists at Harvard and elsewhere to, at least in 

the past, they have back pedaled a bit now I think, but there has 

been a tendency to say that because of the potential conflict of interest a manager may have in terms of how they are running the 

company, the only way to make sure that the managers are not 

feathering their own nest is to require them to maximize shareholder value. 

The problem with this is several fold. First of all, you are saying 

to managers that even if a particular decision strikes you as being 

unfair, for example to a long-time employee that has been working 

with the company, to a community that may have built specialized 

infrastructure in order to accommodate a particular plant, to the 

people living down river in an overseas country that does not yet 

have environmental laws as strict as the United States, even in situations where morally you would say I am not comfortable if I 

were doing this individually, imposing this cost on others, managers must do it here. 

I had a rather stark example of that when I was teaching in the 

fiduciary college at Stanford Law School. We had I think roughly 

two trillion dollars of institutional money in a room that held fewer 

than 100 people. 

I raised the question with them of and gave them a quote from 

a CEO who said, ‘My responsibility as CEO is to maximize value 

for my shareholders. I cannot let my own sense of right and wrong 

get in the way.‘

I asked them: How many of you would invest in a company with 

a CEO stating that position? Few, if any, hands went up. 

11

A little bit later I said, let me give you a hypothetical. Do not 

fight my hypothetical. Let us pretend that you had the opportunity 

to invest in a company that has just been given exclusive drilling 

rights in a country with human slavery. You know that part of the 

proceeds of the drilling will keep the government in place that has 

this policy of human slavery. 

Would you invest in that company? Assume unrealistically there 

would be no adverse reputational effect to you or the company. 

That somehow you could keep this secret. Would you do it? A person raised their hand and said,‘Do you mean me personally or do 

you mean me as a money manager?‘

We cannot afford to put on ethical blinders when we go into the 

board room. It becomes critical, in my judgment, for directors who 

are given the ultimate legal responsibility to run the corporation in 

the best interest of all the concerned parties, to look not only at 

whether something will maximize shareholder value, but also what 

will be the effect on other constituencies. 

A proposal that I made with my co-author Karen Page back in 

1999 tried to get at this issue by proposing that the Securities and 

Exchange Commission amend the requirements for annual reporting on Form 10-K to require companies to disclose the impact of 

their major decisions on not just the shareholders, what we see in 

the financial reports, but also on, for example, employees and the 

like. 

We have a situation now where a company that tries to do the 

right thing can be penalized, because the markets have no way of 

knowing they are doing the right thing. The information is not out 

there. It is not being measured. It is not being made public. 

I would argue that to the extent that we could require that information to be made public, most of the companies that are really 

working hard to both get good value for shareholders and to play 

fair by all the participants would get the credit they deserve and 

frankly to deter the would-be cheaters who would prefer to force 

their externalities on others and reap a marginal benefit in price 

that this disclosure would be a way to encourage the good behavior 

and deter the more damaging behavior. 

Clearly, we need to bring ethics back into the board room. There 

is no question but that there needs to be concern for shareholder 

value. I am not in any way suggesting that the capitalist system 

in our country will survive if we suddenly decide we do not need 

to worry about that. But in my judgment what great companies do 

is they figure out how to get a robust return for our shareholders, 

but not do it on the backs of treating unfairly the other participants? 

I would encourage this Committee to consider ways in which, 

whether it be through disclosure or an amendment to the Warn Act 

that would provide not only do you have to give warning, but you 

have to publicly disclose the rationale for closing this facility? What 

training options were given, what other things did you consider? 

That we really require the people in the board room to deal with 

these issues. Also make clear to them that they have the legal 

power to do what is right and really need to step up to the plate 

and have the moral courage to do it. Thank you very much. Be 

happy to answer questions later. 

12

[Ms. Bagley’s statement may be found in the appendix] 

Chairman MANZULLO. Thank you very much for that testimony. 

Our third witness, Dr. Laurie is it Bassi or Bassi? 

Ms. BASSI. Bassi. 

Chairman MANZULLO. Bassi, CEO and managing partner for 

McBassi and Company. She is also chair of the board at Knowledge 

Asset Management, Inc.. She was a co-developer of the human capital capabilities scorecard. 

Prior to launching her company, she owned and managed a research based consulting firm and served as a research fellow at 

Accentures Institute for Strategic Change. Previously as the director of research for SABA, she focused on the economics and measurement of learning. 

Before joining SABA, she was VP and general manager at the 

American Society for Training and Development, where she was responsible for research and enterprise solutions. 

Her achievements there include creating internationally recognized standards for measuring and valuing firm’s investments in 

education and training and a core set of benchmarkable indicators 

for measuring the effectiveness of knowledge management initiatives. 

Dr. Bassi spent the early years of her career as a tenured professor of economics at Georgetown University, where she has also 

served as co-founder of the graduate public policy program. 

In addition, she has served as staff director for several U.S. Government commissions, including the Commission Under Work 

Force Quality, which laid the early groundwork for the emergence 

of portable skills credentials. 

We look forward to your testimony, Doctor. 

Ms. BASSI. Thank you, Chairman Manzullo and——

Chairman MANZULLO. If you could pull that a little bit closer to 

you. 

Ms. BASSI [CONTINUING] Thank you. Can you hear now? 

Chairman MANZULLO. That is better. Thank you. 

STATEMENT OF LAURIE BASSI, CEO OF McBASSI & COMPANY 

AND CHAIR OF KNOWLEDGE ASSET MANAGEMENT 

Ms. BASSI. Good morning and thank you for your invitation for 

me to speak today. I am Laurie Bassi and a small entrepreneur 

and run several small businesses. 

My testimony today the focus will be that of a PhD 

economotrician. I am a very hard nosed person on evidence and I 

have spent many, many years asking the question: Are firms indeed making the right decisions so as to maximize shareholder 

value and the conclusion that I come up with is, they are not even 

doing a very good job of that. 

I have some public policy suggestions for improving both the attention to true shareholder value interest that would also promote 

the well-being of——

Chairman MANZULLO. Dr. Bassi, could you pull the mike a little 

bit closer there? 

Ms. BASSI [CONTINUING] Yes. Thank you. 

Chairman MANZULLO. Thank you. 

13

Ms. BASSI. Before I go to the substance of my remarks, let me 

please note—does that help? How is this? 

Chairman MANZULLO. That is better. 

Ms. BASSI. Okay. I should note that in addition to being an economist, I am also a registered investment advisor personally and 

nothing that I am about to say should be construed as investment 

advice. I say this under counsel advice. 

What I am going to be talking about may sound like some very 

specific and narrow evidence, but I encourage you to think of it 

more broadly. What my colleagues and I have been working on for 

years and years and years is to look at firms’ investments in their 

people and we can do that by looking at investments in employee 

education and training, employee development. 

Think of that as the tip of the iceberg. They are investments in 

developing people is really a proxy for investments in people more 

broadly and what we have is some very compelling economic evidence that firms and I am talking about publicly traded firms here, 

because those are the ones that we can most readily look at, firms 

consistently under invest in the development of people. Very bad 

thing from a societal perspective. 

What do I as an economist mean when I say they under invest? 

What that means is that they are passing up excellent investment 

opportunities that have a high rate of return. They are just not 

doing it to the extent that would be optimal from the perspective 

of shareholder value. 

How does she know this you might be asking? This is a research 

finding that has taken us many, many years. What we have done 

is we have systematically created databases on how much publicly 

traded firms are investing in employees. This is an important piece 

of information, as the Professor was saying, that should be publicly 

available and is not currently publicly available. 

So we have been gathering data on this and what we have found 

is those firms that make the largest investments in developing 

their people subsequently out perform comparable firms that make 

much smaller investments or no investments in their people. 

What that means is that firms that are making investments in 

people are being, as the Professor noted, dinged in the stock market in the short run, but they are being rewarded in the long run. 

Why is that so? Think of two comparable firms, Firm A and Firm 

B. Firm A is investing intensely in its people. Firm B is not. 

All the Wall Street analyst sees is that Firm A has inexplicably 

higher costs than Firm B and therefore, its earnings this quarter 

are lower. Firm A’s earnings this quarter are lower than Firm B. 

Hence, it takes a ding on its stock market price. 

When the benefits of those investments ultimately show up in 

terms of higher productivity and higher profitability, that firm is 

ultimately rewarded by the same Wall Street analyst that penalized it in the short run. 

Now, if stock compensation, stocks, options are an important part 

of compensation, then the incentives of the CEO and the C level 

suite are exactly that of the analyst. They are focusing on this 

quarter’s earnings to the detriment of shareholders’ long-run value 

proposition. 

14

We have studied this, as I have said, over a period of about eight 

years now. We first did this hypothetically as a research initiative 

and we discovered that those firms that made the largest investments in their people subsequently out performed their competitors. Over that six-year period, their performance was 16.3 percent 

annualized rate of return in the stock market, versus 9.2 percent 

of comparable firms who were not investing in their people. 

For the last two years, we have been investing live funds under 

management, based on this simple finding and I do not want to run 

afoul of SEC regulations, which might interpret my testimony as 

advertising. Let it just suffice to say that we are doing very well. 

Essentially, we make money by taking advantage of Wall Street’s 

shortsightedness. A shortsightedness that has very real negative 

implications for workers, employers, shareholders and society at 

large. 

Mr. Kennedy has spoken about the compensation issues that are 

apart of this. As he said, very complex set of issues. Not a set of 

issues on which I am an expert, but certainly there is much that 

can be done there. 

There is also a public policy fix and one of them is actually quite 

simple, I believe. The first thing that needs to be done I think it 

would be a huge step, not a final step, but a huge step in the right 

direction is to require that firms report how much they are investing in the development of their people, the education and training 

of their people, is currently the only form of major investment that 

firms make that is not publicly reported. 

Hence, think back to my example of Firm A and Firm B. Firm 

A, if a firm is investing in R&D, Wall Street’s analysts know that. 

So while their costs are higher, they are not as severely penalized 

for having high costs as when they are investing in people. 

So there is a fix here that could take us some step in the right 

direction very consistent with that of the previous speaker and that 

is to require some disclosure here of very simple accounting disclosure is to report expenses on people, especially the investments 

made in them, as just publicly report them so analysts can know 

that those are in fact not costs, but investments. 

There are things that are being done in other countries that I 

think also should be replicated here in the United States. The European Commission and also countries in Asia now are beginning 

to put public monies into systematic study of what will it take to 

transform our industrial era accounting and reporting system into 

a knowledge era accounting and reporting system, one in which 

people are recognized as investments and assets, rather than simply costs? Thank you very much. 

[Dr. Bassi’s statement may be found in the appendix] 

Chairman MANZULLO. Very compelling testimony. I am going to 

start off the questions here and look forward to Mr. Kennedy. As 

I cut you off, you were just about ready to talk about what specifically could be done to decrease the pressure on small businesses. 

Is that where we left off? 

Mr. KENNEDY. That is where I left off. 

Chairman MANZULLO. Okay. I have five minutes on my clock. 

Hopefully we will have an opportunity to ask other questions. If 

15

you want to summarize that and what else, because all of your testimony is very good. Do you want to summarize that? 

Mr. KENNEDY. Yes. Because it is small business, let me summarize that briefly and then comment on the bigger issue I had hoped 

you would address earlier. 

Chairman MANZULLO. Okay. 

Mr. KENNEDY. The pressure on small business is primarily to cut 

costs or to meet really tough requirements from big business that 

they are supplying. That is a direct manifestation of short-term 

cost pressure from big business on small business. 

What can you do to help out? Well I think there are two categories of things you can do in small business. One is to help level 

the playing field, particularly against offshore competition and the 

other is to try to build on strengths that small business has to 

make them more competitive in this marketplace. 

The options for leveling the playing field are to do something to 

eliminate dis-incentives for companies to shift jobs overseas. The 

way it works right now, if you are a large company and you decide 

to close a factory in, for the sake of argument Illinois, God forbid 

and shift those jobs over to the Far East, you will take a tax writeoff against your profits for the costs of severance, the costs of closing that factory, all of the costs incurred and then you will open 

up with a lower cost of operation, sometimes subsidized by the government of the overseas country. 

That is the tax system encouraging you to close that factory in 

Illinois. In effect, large companies are not paying the social costs 

associated with them closing factories over here and that is almost 

a plumbing issue for the tax code to say what is an allowable deduction and what is not. 

I mean sure factories need to close, but when they are closing to 

transfer jobs someplace else, it seems to me we are subsidizing 

something that is not a public good. 

The other side of the leveling of the playing field is to try to force 

working conditions and job conditions to a higher level overseas. I 

am not quite sure how much you can do on that ground, but certainly in negotiating trade agreements, requiring minimum wage 

agreements, requiring working conditions, OSHA-like working conditions to be met in overseas factories is a step in the right direction, but unenforceable, it seems to me, from this side. 

Finally, a small thing that can be done to help level the playing 

field for small business is one-time grants to help small business 

cope with sourcing jobs overseas. I mean if you are a small business trying to figure out how to move to a low cost manufacturing 

location, it is really monumentally difficult and expensive, but a 

group of small businesses if they could apply for funds to help them 

try to figure out the optimum balance of where jobs should be that 

I think would help small business quite a bit. 

In terms of helping to building their strengths, grants to help 

them train their work force, even more generous than there are 

right now. The unique skills that are being lost are in fact the 

skills of the talented American workers and the more we can invest 

in those and the more grants there are for small business to train 

their workers, the better off we are going to be. 

16

Tax allowances or even accelerated depreciation to allow them to 

invest in systems that allow them to meet new requirements from 

big business, like just-in-time inventory requirements which require systems upgrades, which very often small business cannot afford. Simply too expensive for them. 

And/or special market development funds to try to create markets for the products that can be manufactured here, but that are 

being shifted overseas. Do not know what can be done, but shortterm things to allow people to find new markets for their products, 

when they have lost their supply to large business would help. So 

those are some of the things for small business. 

A brief comment on the heart of the problem, which is very difficult to address, but I do not think we will really solve the problem 

until we address it. The real problem here is that the value system 

changed. 

All of a sudden greed became acceptable. Uncontrolled, unabashed greed became acceptable as a mode of behavior. Now, why 

did that happen? Well, a lot of things. You know the family broke 

down. We went to two earner households and so kids without parents at home when they came home from school were well aware 

that their parent was working because they wanted more money. 

That communicated a sense of getting more money is more important than probably a bunch of other things that a resident parent 

might have communicated. 

That is a fact. I am not making a value judgment about that, but 

the family system breaking down contributed to this change in 

ethic. 

The change in formal religion. Certainly the fact that people are 

not going to church as much, that ministers and priests do not 

have as much sway I think over the value systems of families probably contributes a great deal too. 

But there is no question that the value system changed and that 

none of the existing institutions in society, church or education or 

family are really countering this shift in the value system. 

I would like to argue that our political mechanism really should 

take on this task. That if nothing else, the bully pulpit that is afforded to elected members of Congress and other elected officials is 

a useful device for trying to offset the pressure that is growing in 

society to allow greed to be the dominant factor. 

What is an example? Well Dick Grasso is not a bad guy, the 

Chairman of the New York Stock Exchange, but his taking home 

the kind of pay he took home was a violation of public trust. 

It seems to me an awful lot of the things that are going on, I am 

not a lawyer so I am not qualified really, but a lot of things that 

are going on represent individuals violating public trust and we 

could develop a body of law that says if you, in fact, violate public 

trust you will be subject to penalties. 

It is not a hanging offense or something like that, but you certainly could pay large fines. You certainly could be banned from 

continuing in the business you were in. 

So for example, if CEO’s of large public companies, not private 

companies, public companies take home really excessive amounts of 

compensation, that is a clear violation of public trust. It is something we all have an interest in and they could be subject to penVerDate 0ct 09 2002 17:51 Jul 13, 2004 Jkt 000000 PO 00000 Frm 00020 Fmt 6633 Sfmt 6633 G:\HEARINGS\93185.TXT MIKEA
17

alties under that, but I think that Congress should be addressing 

the issue of the value system. That is my fundamental point. 

Chairman MANZULLO. All types of issues out there. 

Mrs. Velazquez, I was at seven and a half minutes so I will set 

the same for you. 

Ms. VELAZQUEZ. Mr. Chairman, I just want to thank the excellent presentation made by the witnesses and challenging presentation and I have no questions at this point. 

Chairman MANZULLO. Okay. Dr. Bartlett? 

Mr. BARTLETT. Thank you very much. Our manufacturing jobs of 

course have been fleeing this country for a long time now and now 

following the manufacturing jobs are jobs like software. 

Three things I think are driving this. You indicated a fourth here 

and that is greed, but I think that the limit to which greed can 

drive this is limited, because ultimately even without greed and 

even without being respectful to public trust, the three things that 

I think are driving jobs overseas will continue to drive jobs overseas. 

One is our tax climate in this country. Second is our regulatory 

climate in this country and the third, in the little Wall Street article here about IBM says it very clearly, you can divide these numbers by three or four, if you are talking about manufacturing, but 

you know the cost in China and it would be roughly the same in 

India, maybe a hair higher, $12.50 an hour, $56 an hour here. 

I do not see these three things changing and unless we can 

change those three things, what is going to stop our jobs from going 

overseas and what we ultimately end up with are businesses here 

that just fill a niche market or manufacturing, where there is 

something really innovative and creative, but you cannot protect 

that forever in a world as transparent as our world is? 

So if you have something really creative and innovative that 

gives you a leg up in manufacturing for countries that do not respect intellectual property rights, won’t they soon steal that, copy 

that, whatever? 

What is going to stop more jobs from leaving, if these three 

things are driving them overseas? I do not see any of those changing. Do you see the tax climate changing? Do you see our regulatory climate changing? Do you see this big, big disparity between 

wage costs changing? If they do not change, what is going to keep 

even more jobs from going overseas? 

Yes, ma’am? 

Ms. BAGLEY. I think that one of the factors we need to look at 

is what is the output from that worker in China earning that 

amount per hour, that worker in India versus the worker in the 

United States. 

Companies, such as Dell Computer and Delphi in the automotive 

parts area, have embraced information technology and used information technology, which certainly is expensive, to become very 

competitive and remain competitive. 

I think that the reality is that we do need to continue to innovate. It has been a tremendous source of growth in this country. 

It is why small business is so critical. Why entrepreneurship is so 

critical. 

18

We cannot rest on our laurels. I agree with you that technologies 

will change, various different supply chain mechanisms that are innovative today may not be ten years from now. But I think we need 

to do everything we can to keep things going in the pipeline of innovation and really try to figure out how can we look not just at 

the cost of the worker, but say okay for given an amount of cost, 

for the $50 an hour we are paying in the U.S., how can we restructure their job? 

How can we better train them? How can we form more of a team 

atmosphere? Maybe compress the structure in the company so that 

we get rid of the executive dining room and the reserve parking 

spaces and value people in a more effective way so that we are getting frankly more bang for the buck? We can afford to pay 50 bucks 

an hour, depending on what that worker produces. 

A number of companies have found in terms of outsourcing some 

of their customer support that it has not worked as well as they 

thought it would. That it turns out that in some areas customers 

are really not getting as knowledgeable an answer from their 24/

7 call center based in Bangalore. 

In other situations, you have code being written overseas and it 

is turning out when you look at it, it is not the quality that we 

needed. So I think we need to look not only at the cost side, but 

what the output is from the workers and really be creative about 

ways we can increase that. 

I would commend to the Committee a book written by a former 

colleague of mine, when I taught at the Stanford Business School, 

Jeffrey Pfeffer. He is a professor of organizational behavior. 

He published a book in the mid 1990’s called Competitive Advantage Through People, Unleashing the Power of the Work Force. He 

provides a number of excellent examples of companies, ranging 

from Lincoln Electric, the largest arc welding firm in the world 

that has beaten the GE’s of the world, to smaller concerns like 

Southwest Airlines, that have accomplished this and really used 

the strength of our people as a competitive advantage instead of 

seeing the cost of our people as a competitive disadvantage. 

Mr. BARTLETT. For the short-term of course that cannot keep us 

on the playing field. But ultimately, cannot other countries do 

those same things? As long as we are going to have these enormous 

disparities between the wage rates, what ultimately will keep the 

jobs from going? 

For the moment we can be more clever. We can be more innovative. We can be more creative. But you know we have not cornered 

the market on that in this country and ultimately they are going 

to learn how to do it just as well as we do it. 

I just do not see in the long-run, unless we change all three of 

those things, that we are going to stem the flow of jobs overseas. 

We are one person in 22 in the world. We have 25 percent of all 

the good things in the world. You need to ask yourself: How did 

we get here and what do we have to do to stay here? Thank you, 

Mr. Chairman. 

Chairman MANZULLO. Did you have a comment to that? 

Ms. BASSI. As an economist, I would say that nations advantages 

are driven by their comparative advantage and the only way you 

can have a comparative advantage in resources or in land or in 

19

people. We have had all of those things. That is why we have become so wealthy. 

But the path forward, I think, you can sort of think of as a high 

road and a low road to profitability. The low road is competing on 

costs and we are going to lose that. The high road to profitability 

is to compete on value and the only way to have that is to have 

it embedded in our people. 

That is why human capital is so important and why I look at the 

accounting and reporting that either encourages or discourages 

firms to invest in human capital, because we cannot maintain our 

lifestyle any other way. 

Now ultimately, in 100 years, the rest of the world could start 

to catch up with that, but then the world will be a richer place and 

we may not be so concerned about wage disparities as we currently 

are. 

I think the only sustainable path forward for us is the high road, 

where we compete through value added through people as opposed 

to the low road, where we treat people as costs. We will lose that. 

Chairman MANZULLO. Thank you. 

Congressman Ballance, did you have any questions? 

Mr. BALLANCE. Mr. Chairman, I have no questions. 

Chairman MANZULLO. Mr. Bradley? 

Mr. BRADLEY. Yes, thank you. It is interesting after hearing Dr. 

Bartlett’s question that I had written down the same three issues: 

The differential of wage and benefits, tax policy and regulatory policy as really what I had thought the driving points were going to 

be in this morning’s testimony. 

It is interesting there was an article in the Wall Street Journal 

maybe a month or six weeks ago about a study that had been done 

not just on the United States and manufacturing jobs, but on the 

productivity increase worldwide and I was taken by the fact that 

even China has lost manufacturing jobs to productivity increases. 

With the exception of Ms. Bassi’s comment about disclosure, for 

the most part what it seems that we have heard today is that we 

need to limit executive compensation and the government should 

do that, not shareholders and that we need a new round of Sarbanes Oxley, which business leaders in my state are telling me has 

led to a restriction in the ability to take risks and move forward 

and try to grow the economy. 

I would like to return to what we can in fact set, which is tax 

policy and regulatory policy, because I think that if we are going 

to try to save manufacturing jobs or outsourcing of high knowledge 

jobs, that is where this Congress has to focus and I would hope 

that we can focus our efforts there. 

I would put that open to any of you. 

Mr. KENNEDY. Just if I may comment on that and again, I am 

not a lawyer so I am not into the details of how you write these 

codes, but it seems to me that currently the tax codes subsidize 

companies that want to move jobs. 

They are not paying their share of the social costs associated 

with closing a factory and shifting jobs overseas and that a lot can 

be done. 

I worked for ten years in Europe and in Europe, you know the 

argument is the labor market is much more rigid. Well, it is much 

20

harder to lay someone off. You incur much higher contributions to 

the equivalent of the unemployment insurance fund or something 

like that if you lay off a worker. 

There is no reason why we cannot do things like that to slow 

down the progress until people think more carefully about where 

they are shifting those jobs and whether or not there are gains to 

be had. 

Mr. BRADLEY. But would you trade, if I can follow-up on that 

question, Mr. Chairman, would you trade Europe’s lower growth, 

higher unemployment, higher social costs for numbers that I think 

are far better in this country, despite the fact that we have lost 

some ground over the last couple of years, given the rigidity in 

their labor markets and their higher labor costs? 

Mr. KENNEDY. The answer is no, but I think at the margin there 

is a lot of room for maneuver that minor corrections on our side 

might help with the problem and that would involve moving slightly in the European direction, but you know for the lower growth 

in Europe things are not so dire in Europe. 

It does become a question of social, you know the lifestyle of the 

American people and that is in balance. 

Ms. BAGLEY. May I comment as well? I tend to disagree with the 

proposals by my panelist, because I think we forget the fact that 

one reason why inflation has not been an issue for this country is 

frankly we all are enjoying the value of low cost imports from 

China and other countries. 

So it is a system. To the extent that we fail to look at the whole 

system, we can end up with either protectionist policies or others 

that frankly in the long run are really not going to be to anyone’s 

benefit. 

We saw this after the stock market crash when suddenly individual countries said, well we are going to up our excise tax and 

import taxes and the like. You know we do not want your goods 

coming in. It basically became a race to the bottom. 

I tend to agree with my fellow panelists here that we are not 

going to win this doing it based on our dollar per hour in terms 

of our workers. I do think the government can help. I think that 

if the government were to provide a tax credit, for example, in connection with employee education training that that could be very 

significant. 

I would caution, however, the Congress to be careful that that 

money is not spent primarily on higher level managerial professional staff. Historically it has often been the case that to the extent anyone gets training, it is not the low level person that is now 

losing the job, because a factory has closed. 

I think it is important to rifle shoot what we are doing here in 

terms of what we are going to be rewarding. It is not that we are 

going to reward people for going to executive programs. 

There are some specific things like that, but I think that if we 

are trying to artificially and unduly penalize what may be a rational decision, I do not know that that makes sense. 

I certainly do believe, however, that tinkering with the capital 

gains holding period is always helpful. Even Michael Jensen, who 

was one of the most vehement scholars at Harvard pushing for we 

have to maximize shareholder value, has now, in the wake of 

21

Enron and like, backed off and said, all right, we have to maximize 

long-term shareholder value. 

So to the extent that we are finding that pension managers and 

the like are being chosen based on their quarterly numbers, we can 

say to institutional investors the reality is that the tax is going to 

be such that you are going to be penalized if you are trading on 

a short-term basis. Maybe that means imposing tax if you trade too 

early, even on entities such as pension funds that otherwise would 

not be paying tax. 

The reality is we have 50 percent or more of the publicly traded 

stock in the hands of institutional investors and we need to ask: 

What considerations are they making when they decide to get rid 

of this fund manager and substitute another, and how can we give 

them an economic incentive to be the patient capital that we really 

need them to be? Thank you. 

Chairman MANZULLO. Congresswoman Majette? 

Ms. MAJETTE. Thank you, Mr. Chairman, but I do not have any 

questions. 

Chairman MANZULLO. Congressman Akin? 

Mr. AKIN. Thank you, Mr. Chairman. Just I guess one comment 

and then one over-arching question kind of along the lines of what 

a couple of other members have said. 

The first thing is, I am not as upset about a disparity in wage 

rates, per se and that is for a couple reasons. First of all, in manufacturing, the cost of labor relative to the overall cost of product is 

a part of it, but it is not everything. 

The second thing is to give you an example that I think you were 

referring to, but I do not know if you thought of it quite in this context and that is: I serve in the Armed Services Committee. There 

is a big difference between the American military and how they 

function and different foreign militaries. 

Many of the foreign militaries are so hierarchical that if anything 

is disruptive to that chain of command, they just literally stop running, whereas the American military for years and through many 

years have had the reputation that you knock off an officer and the 

Sergeant kicks in and it keeps going. You knock off the Sergeant 

and the Private raises himself to take command and to take over. 

I think that is something that is somewhat built into the psyche 

of our American way of doing things and our sense of freedom and 

our sense of leadership. I think that is something that is not easy 

to replicate and it is a big asset that we have. 

So that does not concern me as much, but on the other hand my 

sense is this: You have got to get to the real simple basics of 

things. The reason people move jobs is because it is a better deal 

to move them somewhere else, because there is an incentive to do 

it. 

If you do not want our jobs to be moved out of our country, it 

says we have to be more competitive and the things that we in government control and affect are a lot of the regulatory burdens, both 

in terms of reporting and in terms of OSHA and in terms of EPA, 

in terms of taxes. 

All of these different things are essentially hurdles that make it 

more expensive for our business people to function in America. If 

we in government could drop that overhead, it makes us more comVerDate 0ct 09 2002 17:51 Jul 13, 2004 Jkt 000000 PO 00000 Frm 00025 Fmt 6633 Sfmt 6633 G:\HEARINGS\93185.TXT MIKEA
22

petitive and it seems to me that is the main place where we should 

be functioning as a Committee and as Congressman. Respond, 

please. 

Ms. BASSI. I certainly agree that people are not acting irrationally. Decision makers are not acting irrationally when they choose 

to move jobs overseas or lay off folks. 

But, it is also the case that the pressures from Wall Street are 

focusing these decisions disproportionately on the short run so that 

it is not clear at all, to me as an economist, that these short-run 

decisions are consistent with long-run value creation. 

So I think a part of the inquiry needs to be precisely the questions that we were asked in the beginning is: What is behind the 

short-run focus, which is myopic and destructive to shareholder 

wealth creation in the long run and destructive to small businesses 

and employees and what might be done to unplug that? 

Some of it is the value process, which is very difficult to change, 

but there are tax implications and actions that Congress could take 

to help relieve this pressure that Wall Street is creating to focus 

myopically on the short run at the expense of the long run. 

Mr. AKIN. It makes me nervous when you say that Washington 

is going to take action. I mean there are some companies in my district, some big employers in my district and I have talked to some 

of their top managers and I know how they are motivated and it 

is usually by the quarter or at the most by the year. 

It seems to me they should be looking five and ten years out and 

that short-term focus results in poor quality management, but my 

belief is that the system finds people like that out eventually and 

I am not sure the government, it is like trying to do eye surgery 

with something as blunt as a Crayon, the government is a pretty 

blunt instrument to try to get people to think in a longer term 

sense, it seems to me. 

Mr. KENNEDY. If I may add to that, except in the context of 

short-term pressures from investors, in which case the government 

in fact does dictate the rules for capital gains to reinforce what one 

of my co-testifiers said. 

If, in fact, you were penalized for cashing in short-term gains and 

really forced to think hard about holding for a longer period of time 

and I don’t know what the right period of time is, it might well 

change some of that short-term orientation on the part of management. 

Mr. AKIN. Okay. I understand. Good point well taken. 

Ms. BASSI. And the point that I made earlier, that if investments 

in people were treated or at least reported as investments in people, rather than buried hidden costs that analysts then ding firms 

for, for having these hidden costs, that ultimately show up as benefits, that is a reporting issue that needs to be fixed. It would help 

change the focus of Wall Street. 

Mr. AKIN. Thank you very much. Thank you, Mr. Chairman. 

Chairman MANZULLO. I think Professor Bagley, did you have a 

response too? 

Ms. BAGLEY. I just wanted to mention two things. In addition to 

the capital gains holding period requirement, I think that to the extent that we are going to continue to have executives given equity 

as an incentive, looking at that holding period requirement for 

23

stock acquired pursuant to stock options in terms of when that can 

be taken as a capital gain versus ordinary income will become another one. 

I think, frankly, as a former securities lawyer, that is something 

we ought to think long and hard about modifying anyway so we 

cannot have the Ken Lay’s of the world selling stock today and 

then having the house crashing down in three or four months. I 

think that is one specific one. 

In addition——

Mr. AKIN. Can I make sure I——

Ms. BAGLEY [CONTINUING] Yes, sir. 

Mr. AKIN.—understand what you are saying? 

If you are going to give an executive, pay him partly in terms of 

stock of the company, which theoretically is designed to give him 

an interest in the company to do well, you are saying make sure 

that he has to hold that for some significant period of time so as 

a longer term perspective? 

Ms. BAGLEY. That is correct. 

Mr. AKIN. Sounds like a good recommendation. Proceed. 

Ms. BAGLEY. The second point I would make, following up on 

what my co-panelist has said, is that we have precedent for the impact of disclosure on how companies are evaluated in the banking 

area. 

The controller of the currency for awhile now has required banks 

to disclose something called reputation risk. That follows from the 

fact that it has become clear that how a bank is perceived in the 

community, you know are they in fact red lining, are they being 

fair and that sort of thing, ultimately the chickens come home to 

roost, and that does have an effect. 

When you are able to give that information to the public, to the 

analysts, it becomes something that they can crank into recommendations, which will of course therefore impact the projections and the evaluation of the numbers. I think more information 

is helpful in that regard. 

Ms. BASSI. And may I add to that, if you go to the analyst community and ask if they want that, they will say absolutely not. It 

is actually not in their short-run interest to have more useful information disclosed, because they make their living by knowing things 

that nobody else does. 

So the analyst community will never tell you that they want this. 

In fact, they will tell you they do not want it, but more disclosure 

that allows people to make informed, rational, long-run choices is 

clearly a part of the solution, but you will not hear that from Wall 

Street. 

Mr. AKIN. Thank you. Thank you very much. Thank you, Mr. 

Chairman. 

Chairman MANZULLO. Congressman Napolitano? 

Ms. NAPOLITANO. Thank you, Mr. Chairman. I apologize for 

being late. I have had some questions that have been answered 

with some of the gentlemen, my colleagues, that have asked it. 

The comment I would make is that we seem to forget that we 

continually lose jobs to foreign competition and while we feel that 

they can do a better job, I do not believe. They are learning how, 

but it is such a big world, especially in China that they are going 

24

to learn like we did, that the minute you start training good employees, somebody else is going to take them away from you and 

it is such a big country that they are going to have a long time before they begin to understand how it feels, like we have in this 

country. 

As far as my colleagues’ comment in regard to cutting some of 

the expenses, the overhead if you will, well and good, except in this 

country that is what has made the United States the world’s largest economy and California specifically is because we do have the 

train laborer that is paid well and spends the money. It is all relevant. 

You build up economy, you spend it locally and it builds it up. 

Thank you. 

Chairman MANZULLO. Good. Question: First of all, this testimony 

is refreshing to see people speaking about the way things should 

be, sometimes given some very innovative, if not radical, answers 

as to what should be done, but what I appreciate about what you 

are doing is you are raising the issues, such as what Andy Grove 

did. 

You are asking the questions and making the comments about 

what is wrong and Dr. Bassi, you said ultimately you have to 

change the corporate culture. You have to change the way people 

think about the definition of profit, the value of stock. 

Ultimately, perhaps there may be some legal issues in there. For 

example, I never looked upon the holding period in long-term capital gains as being part of long-term planning, as opposed to threemonth of planning now that we have on the next quarter. 

Ultimately, there has to be a change in the way business does 

business. I mean none of us wants to get involved and Mr. Akin 

expressed that quite well, with passing more laws and more regulations that could end up doing the adverse effect. 

But where do you start in changing the corporate culture? In the 

district I represent, the biggest city is at about 11 percent unemployment. 11 percent. That does not count the four factories that 

have announced they are going to close, because those lay offs have 

yet to begin. 

In December, we lost 28,000 manufacturing jobs and the guys 

back home have a name for where the machinery is going. It is 

called black holing and they look on it and they figured out what 

the codes are. This machine is going to Mexico. That one is going 

to China. This one perhaps is going to Eastern Europe. 

The march continues and the shoe has yet to fall on the devastation and ultimate destruction of manufacturing in this country. 

This is the 54th hearing that we have held involving manufacturing and the way companies do business. 

No other Committee has got involved in manufacturing the way 

this Committee has and manufacturing jobs are gone. They are not 

coming back. What do you do? How do you start? 

Go ahead, Dr. Bagley. 

Ms. BAGLEY. One precedent that comes to mind is a governmentprivate enterprise organization that was set up in Silicon Valley 

when the Valley was going through a slump in the 1990’s, there 

was something set up called Joint Venture Silicon Valley. 

25

I am not sure whether any of you are familiar with it, but it was 

a voluntary association of representatives from primarily the state 

government, from the cities, together with heads of a number of the 

major companies. 

One of the things they looked at was the question of regulatory 

burden on small business, on high tech companies. They were able, 

for example, to do something as straightforward as adopting more 

of a uniform building code and substantially reduced the expense 

of expanding some of the factory spaces and the like. 

So things that might not be first on your agenda, in fact can 

make a very real difference when you are able to look at it from 

that point of view. 

But really what they did is they also looked at things like infrastructure. You know what sort of transportation system makes 

sense, in terms of getting workers to San Jose, to Silicon Valley. 

There is always a common goods problem whenever companies are 

considering whether or not to spend money on education, roads and 

the like, because it is like I pay for the road, but then my competitor’s workers drive on it. 

When we are able to get some of these cooperative organizations, 

I think it can help with some of those issues. I would suggest perhaps looking at that organization and some of the work that they 

did. I know from having done some research on it three or four 

years ago, I am not sure where they are now, maybe with tech back 

up they have put themselves out of business, but it was a collaborative effort where you had the best of the business and the best 

of the government saying, how can we do this hand-in-hand? 

Because I do not think it is going to be fixed by the government 

mandating all sorts of things and I do not think it is something 

that any one company is going to fix either, because you really do 

have this common goods problem and there are going to be free riders out there. 

So disclosure helps in terms of kind of outing the free riders, the 

cheaters, but I think that trying to get some of the best minds 

around to ask what is it that keeps us from creating the amount 

of value per worker that we would like to be creating? 

If it is changing a building code, let us change the building code. 

It does not mean we give up structural safety or anything else, but 

sometimes there are bureaucratic bumps like that in the road that 

no one has really focused on that once focused on can make a difference. 

Ms. BASSI. I think that is a brilliant framework to think about 

the question that you asked. Where are the common goods? Where 

are there issues that can and this is particularly acute for small 

business, where are there issues that they are struggling with that 

they cannot solve individually, but could solve collectively? And 

how can collective help be made to exist? 

I mean just calling these folks together is a struggle. An appropriate role for government is to facilitate that convening. I look at 

this from the perspective of investing in people. 

Many small businesses have a tremendously difficult time investing in their people, because their people are constrained by time 

and space. You know they have to be at a certain spot. They cannot 

go off to class. 

26

Electronic learning could help tremendously, because then you 

can access learning any time, any place. It is much more flexible, 

but small business cannot invest in electronic learning, because it 

is high fixed cost, low marginal cost, but high fixed cost. Collectively though, they can solve those problems. 

I think looking for where collective action would really make a 

big difference in helping organizations get over these high fixed 

costs in exchange for low marginal costs, that is a conceptual structure from which to view the problem that I think you will find 

some creative answers. 

Chairman MANZULLO. Okay. I want to thank our first panel. You 

have obviously raised more questions than we have answers for, 

but that is good. 

This has been one of the finest hearings that we have had. You 

have really done a service to this Congress, especially to the members of the panel. 

I am also a member of the Financial Services Committee and so 

is Mrs. Velazquez and Nydia, are you in the Capital Market Subcommittee also? 

Ms. VELAZQUEZ. Yes. 

Chairman MANZULLO. So we are both on the Capital Market 

Subcommittee, very much interested in working with you on these 

additional disclosures and we will be contacting you in the very 

near future, with regard to the specifics on those. 

It is good. Again, we thank you for coming. We are going to take 

a five-minute recess while we excuse the first panel and set up for 

the second panel. 

[Whereupon, a short recess was taken.] 

Chairman MANZULLO. The first witness or the witness on our 

second panel is Anthony Wilkinson, President and CEO of National 

Association of Government Guaranteed Lenders and we will set the 

clock at eight minutes. We look forward to your testimony. 

Mr. WILKINSON. Thank you. 

Chairman MANZULLO. I would advise there may be some votes 

coming. The four votes, that will probably wipe out about 40 minutes and you could probably grab lunch during the interim if that 

happens. 

We look forward to your testimony. 

STATEMENT OF ANTHONY R. WILKINSON, PRESIDENT AND 

CEO, NATIONAL ASSOCIATION OF GOVERNMENT GUARANTEED LENDERS 

Mr. WILKINSON. Thank you, Mr. Chairman. I appreciate the opportunity to testify today. I know that my topic is not totally germane to today’s hearing, but for many small businesses across the 

country, my topic is a critical issue. 

As you know, the Small Business Act requires the SBA to give 

15 days notice to the Small Business Committees when making a 

significant policy change. On December 23 at about five o’clock in 

the afternoon when most of Capitol Hill was gone, the SBA delivered to the Small Business Committees their notice to put a loan 

size cap in place and limiting the program to many small businesses across the country. 

27

Then before the 15 days is even up, on January 6, the SBA announced that it was shutting down the 7(a) program, injuring thousands of small businesses and lenders that had submitted applications for loans. 

One week later the Agency announced that it was restarting the program, but with a cap of $750,000 in place and a prohibition 

against the use of 7(a) loans in larger loan packages frequently 

called piggybacking or much like the 504 loan structure. 

Together, these limitations will prohibit small businesses and 

lenders from accessing the capital they need to grow and expand 

their operations and on top of these restrictions, it is likely that 

this program will shut down again before the end of January. 

These actions have harmed thousands of entrepreneurs at a time 

when the nation’s economy is struggling to create new jobs and 

move forward. 

Most disturbing about this occurrence is throughout 2003 the Administration repeatedly ignored signs that loan demand was exceeding SBA available funds and chose not to act. Instead, delaying 

action until Congress was adjourned for the year. 

Rather than foreseeing and acting to prevent this crisis, one of 

the federal government’s most important economic development 

programs has been destabilized. 

The SBA’s recent action to reopen the program falls well short 

of what small businesses need and in fact, this program is closed 

to about 40 percent of those small businesses who would have used 

the program prior to SBA’s recent actions. 

Two quick statistics I would like to offer up and then I would be 

happy to entertain some questions. First of all, this program is 

going to be funded this year at about $3 billion below demand. So 

if the omnibus bill had passed yesterday or if it passes today, there 

is going to be about $3 billion in demand that will go unmet. At one job for every $33,000 loan, that means we are going to 

miss out on the opportunity to create or retain 90,000 jobs simply 

because this program is under funded. 

Second, from bank call reports, we know that there are about 

$485 billion worth of loans to small businesses in this country. 

Only 20 percent of those loans have maturities in excess of three 

years. That puts it somewhere between 95 and $100 billion in lending to small businesses is done on a long-term basis. 

The balance of the 7(a) and 504 loan programs is about $76 billion. SBA is where small business gets its long-term capital and we 

need these programs up and running and fully funded. 

So Mr. Chairman and Ms. Velazquez, I hope that we can work 

together to find a solution. Let us get this program fully funded 

and operational so we can serve the small business constituents 

who need access to capital. Thank you. 

[Mr. Wilkinson’s statement may be found in the appendix] 

Chairman MANZULLO. Thank you very much, Mr. Wilkinson. 

When we had the hearing on the budget last year and our comments on the budget estimates, we expressed concern, both Republicans and Democrats, that the SBA loan programs were being woefully under funded. 

We are not prophets, but the chickens have come home to roost 

on this. If the omnibus passes, what is the scenario there? 

28

Mr. WILKINSON. The conference report in the omnibus bill has a 

program level of 9.55 billion that is going to be $3 billion short of 

demand. If it passes, nothing is really going to change. There will 

still be a cap. There will still be program restrictions and there 

were still be a lot of businesses who do not get access to capital. 

Chairman MANZULLO. I guess the practical question is: At what 

point do you judge demand, and then how do you factor that into 

the budget that the White House puts out? I mean are you working 

a year behind or working a year ahead? Do you understand my 

question? 

Mr. WILKINSON. Sure. It is a little tricky to in a February budget 

predict what loan demand is going to ultimately be at the end of 

the next fiscal year, but the Administration had several opportunities to amend their budget request. 

You know the omnibus bill to this day is not finished and there 

have been opportunities all the way until Congress adjourned for 

the holidays to take some action and they chose not to. 

Chairman MANZULLO. Thank you. 

Ms. Velazquez? 

Ms. VELAZQUEZ. Thank you, Mr. Chairman. 

Mr. Wilkinson, when the SBA shut down the program in early 

January, it canceled all pending loan applications. This left many 

small businesses without any options for financing and unable to 

meet their immediate commitments. 

When the program restarted last week, how did the SBA handle 

these applications that were canceled or returned during the shutdown? 

Mr. WILKINSON. First of all, can you imagine the anxious moments that many of these small businesses went through who 

thought they had submitted their application in a timely fashion 

and that they were going to be able to meet the obligations that 

they had, be it a contractual closing date, to all of a sudden out 

of the blue have a program close and not know when it was going 

to reopen? Some very, very anxious moments and I am sure we 

have seen some of the press stories from around the country how 

this impacted a lot of small businesses. 

Many of the applications that were submitted and then returned 

were applications in excess of 750,000 that the SBA now claims 

they cannot process because it is above their loan cap. 

Even though applicants had spent time and money to put the applications together, they were in by the deadline and now they 

were rejected, which in my opinion is just a way to circumvent the 

Small Business Act’s 15-day notice. 

Ms. VELAZQUEZ. You know here we are, Mr. Chairman, conducting a hearing about protecting our American jobs, but yet we 

shut down a program. We are impacting small businesses who 

make commitments and now they either might have to shut down 

their businesses and those jobs will be lost or they will not be able 

to grow their businesses. So at a time when in December we just 

created 1,000 new jobs, it is really outrageous. 

Mr. Wilkinson, in your opinion, how should have the SBA handled this situation so the small businesses would not have suffered 

so unfairly? 

29

Mr. WILKINSON. First of all, I want to start all the way back to 

the budget process and up through the time Congress adjourned. 

The SBA knew what its loan volume was all the way back in May, 

June, July. We were beginning to run at about a billion dollars a 

month in 7(a) loan volumes. So we have known quite some time 

what the 7(a) loan volume was. 

Given that, the SBA could have taken action as early as October 

1, start of the fiscal year, to put on a loan cap, but that would have 

been admitting that they had made a mistake on their budget and 

for whatever reason, they chose not to do that, because the cap 

could have been much higher than 750 and we could have not impacted the applicants like we did, rejecting applicants’ packages 

that had been submitted in a timely fashion. 

Ms. VELAZQUEZ. Thank you, Mr. Chairman. I just want to hold 

my other question and I would just want to allow my other members to be to ask their questions now. 

Chairman MANZULLO. Thank you. 

Mr. Bartlett? 

Mr. BARTLETT. Thank you very much. 

Mr. Wilkinson, as you know, at the end of the day there is no 

such thing as a federal dollar. Every dollar that the federal government spends, it took from the paycheck of some hardworking American or it took from the profits of some company that is trying to 

compete in a global marketplace. 

Actually, sir, in the final analysis, as you know you cannot tax 

a business. In a former life, I was a businessman. You could not 

tax me. That simply became a part of my cost of doing business 

and I passed it on to the consumer. 

So in the real world, sir, every dollar that the federal government 

has they have taken directly or indirectly from the pocket of some 

hardworking American. 

Now why should the government forcibly take money from Americans to loan back to Americans? The money that has not come into 

this program, is it not in the private sector, sir and is it not available there to lenders to lend to these small businesses? I do not see 

how taking money forcibly from our people at the government magnifies the value of that dollar. 

Are we lending money to people that private sector lenders would 

not lend to? 

Mr. WILKINSON. That is absolutely correct. These are the kinds 

of loans that the private sector does not make without the government guarantee. 

To steal a phrase that Mr. Kennedy used in the panel before, 

what this program does is level the playing field for small businesses who do not have reasonable access to long-term capital. 

They are not a General Motors who can go to the bond market. 

Mr. BARTLETT. Sir, there are lots of venture capitalists out there 

looking desperately for small business. There is a lot of money out 

there looking for a home. An awful lot of money looking for a home, 

which is one of the things driving the stock market. 

I am just having some problems understanding why the government should assume that we are better able to make judgments as 

to what an appropriate loan is more than the business world, more 

30

than the private sector, since ultimately all of the money comes 

from the private sector. 

No such thing as a federal dollar. Nothing magic happens to it 

when we take it in. Well something does happen to it. We consume 

a whole bunch of it with a big bureaucracy, but other than that, 

nothing magic happens to the dollars. 

Chairman MANZULLO. Would the gentleman yield for a question? 

Mr. BARTLETT. Yes, sir. 

Chairman MANZULLO. Roscoe, you are on the Science Committee? 

Mr. BARTLETT. I am on the Science Committee. 

Chairman MANZULLO. Do you believe the government should 

spend money on science or science research? 

Mr. BARTLETT. This is different. The government should only do 

what the private sector cannot do and there is some big science 

things that——

Ms. MILLENDER-MCDONALD. Will the gentleman yield? 

Mr. BARTLETT [CONTINUING]—The private sector will not invest 

in and then the government then has to invest in that. 

Ms. MILLENDER-MCDONALD. Will the gentleman yield? 

Mr. BARTLETT. I am not sure that that is true of funding businesses. 

Mr. WILKINSON. But what we have seen is that the private sector 

is not willing to make the long-term kind of loans that the SBA 

guarantees allow a lender to do. 

In addition, applicants pay fees to obtain these loans and over 

the last decade, applicants have been paying in far more fees than 

they needed to. 

Mr. BARTLETT. I know and we need to reduce those. The failure 

rate has been much smaller, which should incent the private sector 

to make these loans. The failure rate has been very much smaller 

than we anticipated so the fees are greater and a large amount of 

money has accumulated. These are not bad investments, sir. They 

have been good investments. 

Mr. WILKINSON. They have worked out fine, but these——

Mr. BARTLETT. They have. 

Mr. WILKINSON [CONTINUING] Tend to be new business start-ups 

and younger stage companies who need the credit enhancement 

until they can get to a point where they can borrow. 

Mr. BARTLETT. As the private sector looks at this record, should 

they not be incented to loan this money? These have been very low 

risk loans. They have been so low risk loans that the small fee that 

we charge has now resulted in a big accumulation of money. 

We need to reduce the fee, because we should not be taking 

money from small business unnecessarily, which is what these fees 

have been doing, right? Wouldn’t you recommend reducing the fees, 

because we now have a surplus? 

Mr. WILKINSON. With the help of this Committee, we reduced 

fees about a year ago I believe it was. 

Ms. VELAZQUEZ. That is correct. 

Mr. BARTLETT. Yes, sir. Yes. So these are good loans. 

Mr. WILKINSON. They have worked out fine so far. 

Mr. BARTLETT. They have worked out just fine. Don’t you think 

the private sector can see that? 

31

Mr. WILKINSON. Thus far the answer has been no, they have not 

found a mechanism to do it. 

Mr. BARTLETT. Somehow, Mr. Chairman, we need some kind of 

an incentive so the private sector can see that, because I do not 

think that we add any value to it and these have been very good 

loans. They have performed very well. The failure rate has been 

very low and so these fees then accumulated to a very large 

amount. 

Ms. VELAZQUEZ. Will the gentleman yield for a second? 

Mr. BARTLETT. Yes, ma’am. 

Ms. VELAZQUEZ. For your information and this is numbers coming from Price Water data regarding how much money venture capital lent to small businesses, only two percent. 

Mr. BARTLETT. Maybe that is because we took the money from 

them and they did not have it to loan. 

Ms. VELAZQUEZ. Well, well. 

Mr. BARTLETT. Thank you very much, Mr. Chairman. 

Chairman MANZULLO. Congressman Ballance. Yes? We have interesting hearings, don’t we? 

Mr. BALLANCE. My goodness. Maybe we are finding out why this 

program was closed down. We are hearing some arguments against 

the whole program. 

Mr. Wilkinson, what are you hearing from the small business 

people about this whole crisis that we are talking about here 

today? 

Mr. WILKINSON. I will tell you what, we have heard from a lot 

of businesses across the country who are really upset. They got 

caught in a crisis when they did not know where they were going 

to turn to. 

Our lenders are calling daily with another story of how an applicant is unable to obtain the financing they need to adequately run 

their business. It is a tough time for many entrepreneurs. 

Mr. BALLANCE. Just as a follow-up to what was said earlier, I 

take it if small businesses could go to the local bank and get their 

loan, that is where they would go? 

Mr. WILKINSON. Absolutely. There are fees attached to these 

loans and if they can get a loan without paying the fees, they 

would absolutely do it. 

Mr. BALLANCE. All right. Thank you, Mr. Chairman. I am going 

to yield at that point. 

Chairman MANZULLO. Congresswoman Majette? 

Ms. MAJETTE. Thank you, Mr. Chairman and thank you, Mr. 

Wilkinson for being here this morning. 

My question has to do with this cap, the $750,000 cap that has 

been imposed. It is my understanding that the imposition of that 

cap will prohibit nearly one-third of small businesses that would 

have used the 7(a) program from using it and that would prevent 

small businesses that have greater capital needs from securing the 

funding that they need. 

In particular, can you address the issue of how that cap will affect manufacturers? 

Mr. WILKINSON. Well in particular for manufacturers, they have 

a requirement many times for high tech equipment, plant and facility and they tend to be larger loan requests that would be preVerDate 0ct 09 2002 17:51 Jul 13, 2004 Jkt 000000 PO 00000 Frm 00035 Fmt 6633 Sfmt 6633 G:\HEARINGS\93185.TXT MIKEA
32

cluded now under the $750,000 loan cap. So they could be hit very 

hard. 

Ms. MAJETTE. Do you have any idea about how many manufacturers would be affected by this? 

Mr. WILKINSON. I am not aware of what percentage manufacturers make up of the large loans that are made in the 7(a) program, 

but I would guess that it is a significant percentage. 

Ms. MAJETTE. What kind of notice was there given with respect 

to the imposition of the cap? The shutting down of the program and 

the imposition of the cap? 

Mr. WILKINSON. A notice was provided this Committee late on 

December 23. That notice did not provide an amount and I understand there was a subsequent e-mail that listed the amount. 

We were given the 15-day notice so that applicants who had already started the process would be allowed to finish what they had 

started, because many people put down down payments for contractual reasons, employ their attorneys, their accountants, et cetera to 

get the loan applications put together. 

Many applicants had spent thousands of dollars to get their application ready to submit. Then early in January the program was 

just closed, with no notice at all. Just closed. 

Those applications that were in were told too bad and especially those that were $750,000 or more, their application was returned 

and they were told they are not eligible, when in fact they had 

been in, in a timely fashion. Again, which is just a circumvention 

of the Small Business Act. They should have had their 15 days notice. 

The SBA should have processed those loan applications when 

funds became available. The fact that SBA waited way too long to 

take action, that cost should not be borne by the small business applicant who just was told too bad. 

Ms. MAJETTE. I certainly agree with you and I know I have many 

constituents in my district who would agree with you as well, in 

particular one that I have been made aware of who had applied for 

a $150,000 loan, had signed a franchise agreement, had paid the 

franchising fee of $30,000, had signed a five-year lease, was relying 

on a letter of intent that had been given to him by a local bank 

and that was a business that would hire 12 to 15 people and I suspect that it was not a Merry Christmas for him to find out at that 

point that the program was being shut down. 

We are still in the process of seeing how that is going to be resolved with respect to that particular situation, but I am sure that 

that has been——

Mr. WILKINSON. There are examples just like that——

Ms. MAJETTE [CONTINUING] Happening all over. 

Mr. WILKINSON.—all over the country. 

Ms. MAJETTE. All over the country and frankly, I think if we are 

not going to have the program, then we need to say we are not 

going to have the program and give people sufficient time, due notice to let them know we are not going to have the program. 

But if we are going to have the program, then we need to make 

sure that we are treating people fairly with respect and understanding and appreciating the efforts that they are making to continue to grow their businesses and to make sure that we are 

33

strengthening this economy in the way that this administration 

claims it wants to. I will yield back. 

Chairman MANZULLO. Congresswoman Millender-McDonald. 

Ms. MILLENDER-MCDONALD. Thank you. Good morning, Mr. 

Chairman and the Ranking Member. Thank you so much for providing the leadership always on very provocative and interesting 

and timely hearings to the question of small businesses. 

I want the record to show that Congressman Bartlett left before 

I could rebuttal him, but we use the people’s money for everything 

else on earth here and we are the people. So, we should be using, 

in order to keep the government running, we should be using the 

capital that is provided by the people. We are the people. 

But I say to you, Mr. Wilkinson, thank you so much for your very 

timely and very openly discussion on this issue, because I got the 

letter in December as well. It was not a good Christmas for small 

businesses. 

As I continue to say and as the President said in his State of the 

Union last night, small businesses that need to drive and will drive 

this economy and it is inconceivable to me that the Small Business 

Administration, which tends to like the leadership that these two 

fine leaders on this Committee tend to do, cannot see that. 

Is this a reasonable excuse for the shutdown of the 7(a) program 

for heaven’s sake? 

Mr. WILKINSON. I cannot fathom a reasonable excuse for shutting 

down this program. This is where small business gets its long-term 

capital and the way this whole process has been mismanaged is 

just unconscionable, especially considering the damage it did to 

many, many small businesses who got caught in the mess. 

Ms. MILLENDER-MCDONALD. I could not agree with you more. I 

had a hearing in my district toward the end of the last year and 

the small businesses were just yearning for more capital to expand 

their businesses, to go international markets and yet we cannot do 

that. 

Did you say to me, did you say to the Committee rather and to me too, that the 504 program and the 7(a) programs will yield $7 

billion if in fact we kept those intact or what was your comments 

of the combination of the 504 and the 7(a) programs? 

Mr. WILKINSON. The correlation I was trying to draw was that 

from bank call reports we know that there’s 485 billion in small 

business loans. Only about 20 percent of those have maturities in 

excess of three years. So, longer term loans. Of that 485, about 95 to $100 billion is long-term. Compare that 

to the fact that banks making 7(a) loans, first mortgage portion of 

504’s and the debenture portion of 504’s, those three portfolios 

added together total about 75 billion. So 75 of the 100. It is not a 

true apples-to-apples, but it is a close correlation. 

A big part of the long-term capital provided to small business is 

coming from the SBA 7(a) and 504 programs. 

Ms. MILLENDER-MCDONALD. You know, Mr. Chairman and Ranking Member, there is a bill that is pending where the credit unions 

will provide loans to small businesses. Perhaps we need to engage 

in supporting that in light of the fact that these banking institutions and this SBA, which provides no leadership to the small businesses———. 

34

Chairman MANZULLO. If the gentlelady would yield. 

Ms. MILLENDER-MCDONALD. Yes. 

Chairman MANZULLO. That was already done to allow the credit 

unions to give 7(a)’s. 

Ms. MILLENDER-MCDONALD. I am sorry? 

Chairman MANZULLO. The Administration by was it executive 

order? Just by regulation has allowed the credit unions to give 

7(a)’s. 

Ms. MILLENDER-MCDONALD. That is great. We need to increase 

those, because we really need to. Also, Mr. Chairman and Ranking 

Member, I think we need to—also what? I am sorry? 

Chairman MANZULLO. They are also out of money, too. So they 

are similarly affected. 

Ms. MILLENDER-MCDONALD. I see. This is why the tax cut should 

not be permanent. Anyway, Mr. Chairman and Ranking Member, 

we should send a letter to the SBA administrator blasting them on 

this very untimely position that they took and we should send a 

letter to the President and ask him for a meeting with the Small 

Business Committee and talk with him about the urgency or hearing to provide the urgency with this whole notion of cutting off our 

nose to spite our face, for heaven’s sake. 

I think there is a bill that is pending that has not quite come 

to the forefront with the credit union. So there is still another bill 

pending. I would like for us to look at that. 

I think it is urgent that we call the President into question and 

ask for a meeting with the President. 

Chairman MANZULLO. Mr. Barreto will be here on February 11. 

Ms. MILLENDER-MCDONALD. That is too late. 

Chairman MANZULLO. For the budget hearings on it. 

Ms. MILLENDER-MCDONALD. That is too late. We need to do that 

expediently, Mr. Chairman. Thank you. 

Chairman MANZULLO. Congresswoman Bordallo. 

Ms. BORDALLO. Thank you, Mr. Chairman. First, I would like to 

thank our witness, Mr. Wilkinson and of course both our Chairman 

and our Ranking Member for taking such a strong stand and always standing up for small businesses. I am always impressed. 

I have a couple of questions, Mr. Wilkinson. The SBA and others 

are suggesting that small businesses use the 504 program as an alternative to the 7(a) program. Is the 504 program a viable alternative for those that are shut out of the 7(a) program would you 

say? 

Mr. WILKINSON. Some of the 7(a) loans that will be shut out 

would be candidates for the 504 program, but according to NADCO, 

the trade association for the 504 program, they believe only about 

25 percent and I believe that to be a good guesstimate, only about 

25 percent of the loans shut out of this would be eligible for 504 

financing. 

Ms. BORDALLO. So that leaves——

Mr. WILKINSON. There will be a whole lot of borrowers that 

still———. 

Ms. BORDALLO [CONTINUING]—75 percent. The other one is the 

export/import banks financing programs have also been suggested 

as an option to entrepreneurs. 

35

Mr. WILKINSON. Those are typically short-term transactional 

kinds of financings and they really would not fit what we do in the 

7(a) program. 

Ms. BORDALLO. So your answer———. 

Mr. WILKINSON. That is not———. 

Ms. BORDALLO.—to both of these would be———. 

Mr. WILKINSON. That is not a viable option. 

Ms. BORDALLO. Neither one would be viable, right? All right. 

Thank you, Mr. Chairman. Those were my two questions. 

Ms. MILLENDER-MCDONALD. Mr. Chairman, may I just impose a 

question here? 

Chairman MANZULLO. Sure. 

Ms. MILLENDER-MCDONALD. There is a letter dated January 12 

of which the minority side of this Committee submitted a letter to 

the President inquiring about the inability to provide the 7(a) 

loans. Is there something that we can do as a whole? Should not 

the complete Committee do this in light of the fact that we know 

the economy is not going to move until small businesses move? 

Chairman MANZULLO. I do not know what more we can do. I 

agree that the program was woefully under funded in the first 

place. We worked together to knock down the fees for the program 

for the 7(a) and corrected the subsidy rate, which has helped bring 

in more money and Anthony, I do not know of anybody in this 

country that knows this topic better than you do. 

That is why when I found out you were coming, I put you on a 

separate panel to give you more prominence, more attention. 

Mr. WILKINSON. I appreciate that. 

Chairman MANZULLO. In order to center in on the 7(a) loans. 

Mr. WILKINSON. Mr. Chairman, just a couple things off the top 

of my head. First of all, the SBA has the ability to do some minor 

reprogramming on its own. The appropriation bill from last year 

would allow ten percent of the 7(a) appropriation to be reprogrammed. 

So they could put I believe it is——

Chairman MANZULLO. But it still requires approval by the Appropriations Committee, is that not correct? 

Mr. WILKINSON [CONTINUING] I was under the impression that 

they had unilateral authority up to ten percent. 

Chairman MANZULLO. Okay. 

Mr. WILKINSON. That is just my understanding. I am not an appropriations expert, but I have been told that they could do up to 

ten percent and to the best of my knowledge, those actions have 

not yet been taken. 

I do not know whether there is going to be a supplemental appropriations bill moving for us to fund an additional two and a half 

billion dollars or so. The amount of the appropriation is 25 to $30 

million, which is not a lot of money. 

Ms. VELAZQUEZ. Mr. Chairman, can I just ask a question? 

Chairman MANZULLO. Certainly. 

Ms. VELAZQUEZ. Mr. Wilkinson, don’t you believe that maybe this 

Committee should push for a supplemental appropriation at this 

point? 

Mr. WILKINSON. I would work on any solution we can so that we 

can get access to capital to small business, be it a supplemental apVerDate 0ct 09 2002 17:51 Jul 13, 2004 Jkt 000000 PO 00000 Frm 00039 Fmt 6633 Sfmt 6633 G:\HEARINGS\93185.TXT MIKEA
36

propriation, be it reprogramming from other areas inside the SBA 

where the money is going unused. Something has got to be done 

so that the flow of capital starts back up. 

Chairman MANZULLO. What I would be willing to do is if you 

want to send me a letter, just set forth the seriatim, you know capsulize the problem. Put forth your suggestions and we will take 

and send it over to the White House and also to the SBA on it. 

Chances are there may be another supplemental. If there is an 

amount of money that you think would be required, put that also 

in there, but give us a blueprint and we will send it over. 

Mr. WILKINSON. I do not mean to beat a dead horse, but there 

were applicants who have been treated very unfairly by the SBA. 

They had their applications in on time and now they have been 

told, too bad, after they spent time and money putting the application together and I believe———. 

Chairman MANZULLO. But that would have been covered by the 

CR or not the CR, by the supplemental. 

Ms. VELAZQUEZ. No. 

Chairman MANZULLO. Some of those up to 750. 

Mr. WILKINSON. That were submitted within the——

Chairman MANZULLO. Right. 

Mr. WILKINSON [CONTINUING] Those applications should have just 

been held and then funded when additional monies became available. Never before has the Agency returned loan applications and 

said, start over. 

Before this particular instance, they have always continued to 

process loan applications up to the point where they put an SBA 

loan number basically fund the loan and this year they decided, we 

are just going to send them all back. That has never happened before. 

Ms. VELAZQUEZ. Mr. Chairman——

Ms. MILLENDER-MCDONALD. Mr. Chairman———. 

Ms. VELAZQUEZ [CONTINUING] In listening to Mr. Wilkinson, it 

just occurred to me, it does not occur to me, we affirm my quest 

for a hearing where we could in depth analyze how this crisis, how 

much damage we are inflicting on these small businesses. They 

spent time. They make plans and now they are being told, look, the 

money is not there and it is your problem. 

But how could we, in this Committee, allow for this to happen 

and not bring in SBA administrator, OMB, the industry that is 

going to be impacted? Lenders. This whole crisis is calling into 

question the integrity and the credibility of this program. 

It is going to lead to force lenders to leave the program all together. So how could we be here conducting hearings saying how 

important small businesses are, they are the job creators and then 

we do not provide for a thorough investigation? How could SBA 

make an action, take an action like this without consulting with us, 

this Committee and then without allowing for the 15 days notice? 

It is just outrageous and we should be taking our responsibility 

more seriously. 

I will ask again, Mr. Chairman, this Committee has the responsibility to conduct a hearing on this and to bring all the stakeholders. 

37

Chairman MANZULLO. Congresswoman Majette, do you have a 

comment? 

Ms. MAJETTE. Yes, I do, Mr. Chairman and I would associate myself with the remarks of the Ranking Member and I really do think 

that this reflects terribly on this country. I mean the notion of fundamental fairness and due process and how we are conducting 

business for the SBA to have taken the action that it has taken 

and having an untold effect on so many people who are trying to 

grow this economy and for that to occur at a time when Congress 

was out of session and then we were coming up on the expiration 

of the unemployment benefits, which we did not address before we 

recessed and we have people who are prepared to offer other individuals employment, but the program was shut down. 

Mr. Chairman, I hope that we will take every opportunity to 

stand united on this issue and at least hold a hearing and make 

sure that we are acting in accordance with the notions of fundamental fairness, due process and common sense, which are the 

hallmarks of our government. I would yield back. Thank you. 

Ms. MILLENDER-MCDONALD. Mr. Chairman? 

Chairman MANZULLO. Ms. Millender-McDonald. 

Ms. MILLENDER-MCDONALD. Thank you, Mr. Chairman. I am listening to this and more and more I see, in light of the fact that 

the small businesses have done their due diligence of submission 

of their application and gone through that necessary pre-loan process, that is the fair thing to do and that should be the impetus by 

which we go forward with hearings, with the letter that Mr. 

Wilkinson will submit to us, that we send to the President, but we 

should ask the President for a meeting so that he can see face-toface the passion of you, the Ranking Member and all of the members in knowing that to improve upon the economy, the small businesses are the catalyst to do that. 

So it would seem to me like this should be our blueprint to go 

forward. 

Chairman MANZULLO. Congressman Ballance and then we will 

conclude. 

Mr. BALLANCE. Well Mr. Chairman, I am sitting here. The SBA 

is not self-appointed. Have they explained to anybody this action? 

Mr. WILKINSON. No, sir, not at all. 

Mr. BALLANCE. Did they just run out of money or was it a bad 

investment? They did not get a notice from their bank? 

Mr. WILKINSON. The Agency knew full well the pace of lending 

that this program has been on all the way back until probably as 

early as May that our loan volume has been running at about a 

billion dollars a month. So they have known for quite some time. 

When the fiscal year started, I know for a fact that staff at the 

SBA had discussions with OMB about putting a loan cap in place 

on October 1 and OMB chose to wait until December 23 at five 

o’clock, when everybody had left the Hill, to announce a loan cap. 

Why they waited so long? You know again small business is paying 

the price for their mismanagement of the situation. 

Ms. VELAZQUEZ. Mr. Wilkinson, could you please explain what a 

piggyback loan is and how will this prohibition on the use of 

piggybacking affect small businesses? 

38

Mr. WILKINSON. Sure. It is a term where one loan piggybacks on 

the back of another identical to the 504 loan program, where a 

lender takes a senior lead position and then we come behind with 

an SBA loan in second position. 

For instance, a borrower may be able to qualify for conventional 

financing for a piece of the financing package, where they would 

get a conventional first mortgage and then the SBA would come behind in a second position, the piece that they could not get done 

conventionally. Again, it is identical to the 504 loan structure. 

Ms. VELAZQUEZ. When they imposed the cap the last time, were 

they able to piggyback? 

Mr. WILKINSON. Yes, this is the first time, which to me raises another question. That strikes me as another significant policy 

change where no notice was provided. 

Ms. VELAZQUEZ. I know last week was NADCO’s board meeting. 

Has there been any talk of industry lay off as a result of this crisis? 

Mr. WILKINSON. Yes, ma’am. I can tell you that there are folks 

putting plans in place now. If this is an extended cap with an extended prohibition on piggybacking, that some members in the industry will begin lay offs. 

Ms. VELAZQUEZ. So the end result of this will be that an increased unemployment? 

Mr. WILKINSON. Absolutely. I have had two of my members tell 

me that they had stratified their portfolios and if they excluded 

loans over $500,000 their SBA operations were actually losing 

money. So without the larger loans in the mix, they would not be 

players for very long. 

Ms. VELAZQUEZ. Mr. Chairman, I just wish that you could answer my question. Can we hold a hearing on this matter? 

Chairman MANZULLO. We have got a hearing going on right now. 

February 11 is two weeks from now. 

Ms. VELAZQUEZ. I am sorry that you feel that the small businesses——

Chairman MANZULLO. Mr. Baretta will be here. 

Ms. VELAZQUEZ [CONTINUING] Can wait until February 11. 

Chairman MANZULLO. I share your passion. I have got the high 

unemployment and people back there knocking on the doors too 

wanting to get it done. 

Anthony, let me ask you a question. 

Mr. WILKINSON. Yes, sir. 

Chairman MANZULLO. The problem here is that the 7(a) and 504 

depend upon an annual appropriation. 

Mr. WILKINSON. 7(a) does. 

Chairman MANZULLO. I am sorry. The 7(a) depends upon an annual appropriation. 

Mr. WILKINSON. That is correct. 

Chairman MANZULLO. That is subject to the whim of Congress 

and to us getting in line and going up against the space program 

and I am sorry. Roscoe was sitting there. I was sort of rubbing him. 

But in terms of a long-term solution, would it not be better to 

have a government sponsored enterprise for 7(a)’s with a revolving 

fund so we do not have to go through this angst each year? 

Mr. WILKINSON. Mr. Chairman, you know how frustrating this is 

to go through this every year. We are open to suggestions. 

39

Chairman MANZULLO. Okay. 

Mr. WILKINSON. We would be happy to sit down and visit on how 

we do not go through this exercise year after year after year. You 

know part of the problem is not are we at the whims of Congress, 

we are at the whims of the Office of Management and Budget, because as you know, we collected fees for many, many years we did 

not need to collect. 

Chairman MANZULLO. I would be willing to pursue that, because 

Congresswoman Velazquez and I both sit on the Capital Markets 

Insurance and GSC Subcommittee on Banking. 

Ms. VELAZQUEZ. Maybe we can get a hearing on that, Mr. Chairman. 

Chairman MANZULLO. I want to thank you for coming. I appreciate you coming at late notice. 

Mr. WILKINSON. Thank you for allowing me to testify today. 

Again, I know this is not totally germane. 

Chairman MANZULLO. Thank you very much. The hearing is adjourned. 

[Whereupon, at 12:19 p.m., the Committee meeting was adjourned.]

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