An ecology of agency arrangements: mortality of savings and loan associations, 1960-1987

Administrative Science Quarterly, Sept, 1992 by Hayagreeva Rao, Eric H. Nielsen

The managers of mutuals enjoy enormous control over the mutual because no individual can concentrate ownership of the mutual by purchasing shares. Moreover, the manager's autonomy is not constrained by a possible proxy fight, because uncooperative depositors can be expelled by the managers (Rasmusen, 1988: 398). Although mutuals are legally required to hold meetings to elect managers and directors, the meetings are poorly attended and ritualistic. Nichols (1972: 75) reported that according to the president of a San Diego mutual, no one had turned up for the annual meetings in 30 years. Herman (1969: 654) observed that only three depositors of a large California mutual had attended the annual meeting in 13 years and that only one depositor had attended the annual meeting in over 20 years at another mutual. The only way depositors can discipline the managers of the mutual is to redeem their claims and withdraw their deposits. Such redeemable claims are a high-cost disciplinary mechanism, however, because the assets of mutuals also include nonfinancial assets that can only be traded at high transaction costs.

Although the managers of mutuals enjoy considerable autonomy, they have little incentive to act as entrepreneurs, mostly because of the way mutuals are organized. The organizers of mutuals do not enjoy legally recognized rights in the mutual. Moreover, the FSLIC rules state that the organizers must contribute 20 percent of withdrawable savings or $250,000, whichever is less. In return, the organizers determine the initial composition of the board of directors, which is likely to persist, because the organizers can eject troublesome depositors by returning their deposits (Masulis, 1987: 32). While the salaries of mutual managers are limited by regulators, they have opportunities and incentives to extract resources in the form of perquisites, favorable loans extended to relatives and friends, and the purchase of mortgage-related services at noncompetitive prices (O'Hara, 1981 ). Some studies note that mutuals suffer not only from higher administrative expenses than stock companies (Verbrugge and Jahera, 1981; Woerheide, 1984) but also from higher pension liabilities on behalf of executives (O'Hara, 1981 ). Nichols (1972: 1-4) portrayed the mutual as a "self-perpetuating aristocracy" and observed that the management is as "external to the firm as any supplier. The mutual is a quasi-firm because it lacks the objectives of the firm, i.e., profits, and has objectives not internal to the firm."

In addition, the mutual form of a savings and loan organization also suffers from a financial weakness flowing from the structure of ownership rights. It cannot issue stock to augment its financial resources. A mutual's current earnings or losses thus directly affect net worth; specifically, if operating losses are incurred, the mutual's financial plight worsens unless it is able to dispose of those of its assets that have a high market value in comparison with their book value and thereby retire its debt. This is difficult for most mutuals because their assets are mortgages booked at face value but earning below-market interest rates (Masulis, 1987: 33).