oversight

FHFA's Approval of Senior Executive Succession Planning at Freddie Mac Acted to Circumvent the Congressionally Mandated Cap on CEO Compensation

Published by the Federal Housing Finance Agency, Office of Inspector General on 2019-03-26.

Below is a raw (and likely hideous) rendition of the original report. (PDF)

          Federal Housing Finance Agency
              Office of Inspector General




    FHFA’s Approval of Senior
  Executive Succession Planning at
Freddie Mac Acted to Circumvent the
 Congressionally Mandated Cap on
        CEO Compensation




Evaluation Report • EVL-2019-002 • March 26, 2019
                 Executive Summary
                 Pursuant to the Housing and Economic Recovery Act of 2008 (HERA), the
                 Federal Housing Finance Agency (FHFA or Agency) is empowered to operate
                 the Enterprises “with all the powers of the shareholders, the directors, and the
                 officers” while they remain in conservatorship. With regard to succession
                 planning for Enterprise senior executives, FHFA delegated responsibility to
EVL-2019-002     the respective boards of directors to develop a succession plan for the Chief
                 Executive Officer (CEO) position and to select candidates for the CEO and
March 26, 2019   President positions, subject to review by FHFA as conservator. According to
                 FHFA, it has, as a practical matter, chosen to approve such selections after
                 review. FHFA has retained the responsibility to approve compensation for
                 senior executive officers.

                 In two evaluations that we are issuing today, we reviewed FHFA oversight of
                 the Enterprises’ boards of directors succession planning efforts for the CEO.
                 This evaluation focuses on FHFA oversight of the Freddie Mac Board of
                 Directors (Board) and a companion report that focuses on the Fannie Mae
                 Board of Directors. See FHFA’s Approval of Senior Executive Succession
                 Planning at Fannie Mae Acted to Circumvent the Congressionally Mandated
                 Cap on CEO Compensation, EVL-2019-001, available online at
                 www.fhfaoig.gov/reports/auditsandevaluations.

                 Freddie Mac is in a period of significant transition in its executive and board
                 leadership. Freddie Mac’s CEO, who has served as CEO since May 2012 and
                 is also a Board member, advised the Board of his intention to retire during the
                 second half of 2019. On March 21, 2019, Freddie Mac announced that the
                 CEO will retire on July 1, 2019. In addition, four other Board members,
                 including the Board Chairman, reached the end of their respective terms.
                 Three of those members departed the Board in February 2019, and the fourth
                 will depart in June 2019.

                 In April 2018, the Board Chairman notified the then-FHFA Director that he
                 and the Chairman of the Nominating and Governance Committee of the Board
                 had drafted a plan with recommendations to address the company’s transition
                 issues and that the plan was unanimously supported by the Chairs of the
                 Board Committees (Board Transition Plan).

                 The Board Transition Plan, which was provided to the then-FHFA Director in
                 May 2018, stated that the Board had assessed several internal senior
                 executives as potential candidates to succeed the CEO and narrowed its focus
                 to two senior executives. It proposed that one of these two candidates be
                 appointed as “Vice-CEO”.
                 According to the Board Transition Plan, the statutory cap on the compensation
                 of Enterprise CEOs of $600,000 created challenges to Freddie Mac’s ability to
                 recruit qualified external candidates and an external search could be disruptive
                 to existing internal leadership. Recognizing that FHFA had “sole discretion to
                 affirm or reverse any decision resulting from our [plan],” the Board Transition
                 Plan sought FHFA’s approval or non-objection to its proposal to forego an
                 external search for a CEO candidate.
EVL-2019-002
                 After discussions about the Board Transition Plan, the then-FHFA Director
March 26, 2019   advised the Board Chairman in writing, that the Board Transition Plan “strikes
                 us as being very reasonable.” He concurred with the Board’s determination to
                 forego an external search for the CEO and urged the Board to finalize its plan
                 for CEO succession.

                 Over the following months, the Board refined the Board Transition Plan and
                 periodically shared those refinements with FHFA. The refinements included:
                 designation of the senior executive who would succeed the CEO after his
                 retirement; creation of a “Deputy CEO” position, to be filled by this
                 designated senior executive for one year; mentorship of the Deputy CEO by
                 the CEO until his retirement; and a proposed compensation package for the
                 Deputy CEO position at a level no less than the highest paid executive who
                 reported to the CEO (then $3.25 million). Acting upon a written staff
                 recommendation, the then-FHFA Director approved this executive
                 compensation package for the Deputy CEO position on August 15, 2018.

                 Notwithstanding FHFA’s May 2018 response to the Board Transition Plan as
                 “very reasonable,” FHFA notified Freddie Mac after August 15, 2018, that it
                 determined that Freddie Mac would need to conduct an external search for a
                 CEO and would need to title the new position “President,” rather than Deputy
                 CEO. In response to FHFA’s query about the duties of the President position,
                 the CEO advised that he saw the role of the President as identical to the role of
                 Deputy CEO as originally proposed: to be an “understudy to the CEO,
                 gradually taking over.” He described the duties of the President as
                 “focus[ing] on learning corporation-level and non [multi-family] business
                 activities to be as prepared as possible to become CEO upon the conclusion of
                 the search (if it went to him).”

                 On September 5, 2018, FHFA advised Freddie Mac that it had relied on
                 Freddie Mac’s request for approval of an annual compensation package for
                 the Deputy CEO position and approved the compensation package for the new
                 President position.

                 From September 2008 through September 5, 2018, Freddie Mac had no
                 position of President or Deputy CEO. FHFA approved creation of the
                 position of President with the understanding that the individual in that position
                 would serve as the “understudy” to the CEO and execute only those
                 responsibilities previously executed by the CEO and now delegated to him for
                 a one-year period. We found that FHFA’s approval of a $3.25 million
                 compensation package for the Deputy CEO position (which was never
                 created) and subsequent approval of the same compensation for the President
                 position, acted to circumvent the congressionally mandated cap of $600,000
EVL-2019-002     on CEO compensation. As a result of FHFA’s approval, Freddie Mac now
                 provides a total of $3.85 million in compensation for the same set of CEO
March 26, 2019
                 responsibilities for which it previously paid $600,000.

                 We provided FHFA with a draft of this report for technical comments, which
                 it returned on March 4, 2019. In its technical comments, FHFA indicated that
                 the external search for possible CEO candidates was underway and that the
                 President intended to leave if he was not selected as CEO by the Board. We
                 transmitted a final draft of this report to FHFA for management review and
                 response, which was due on March 21, 2019. That same day, Freddie Mac
                 announced that its current CEO would retire on July 1, 2019 and that its Board
                 had appointed the current President as the new CEO, which FHFA had
                 approved. Its Form 8-K filing on March 21 also disclosed that compensation
                 for the new CEO, effective July 1, 2019, will “consist solely of an annual base
                 salary of $600,000, a level established by FHFA” pursuant to the
                 congressional cap and, as of that date, he “will no longer participate in the
                 Executive Management Compensation Program or have any compensation
                 subject to either corporate or individual performance.” Freddie Mac will
                 continue to compensate its current President at an annual rate of $3.25 million,
                 until his promotion takes effect on July 1, 2019. FHFA did not mention this
                 appointment or the process used by the Board to reach its decision in its
                 management response, dated March 21, 2019 (see Appendix). Indeed, FHFA
                 represents in its management response that Freddie Mac is “conducting
                 internal and external searches for the CEO position.” There can be no debate
                 that this affirmative representation is factually inaccurate and creates a
                 misleading impression.

                 We recommended that FHFA re-assess the appropriateness of the annual
                 compensation of $3.25 million to Freddie Mac’s President. FHFA declined to
                 accept our recommendation.

                 This report was prepared by Adrienne Freeman, Investigative Counsel, with
                 assistance from Philip Noyovitz, Investigative Evaluator. We appreciate the
                 cooperation of FHFA staff, as well as the assistance of all those who
                 contributed to the preparation of this report.
                 This report has been distributed to Congress, the Office of Management and
                 Budget, and others and will be posted on our website, www.fhfaoig.gov.




                 Kyle D. Roberts
EVL-2019-002
                 Deputy Inspector General for Evaluation
March 26, 2019
TABLE OF CONTENTS ................................................................
EXECUTIVE SUMMARY .............................................................................................................2

ABBREVIATIONS .........................................................................................................................8

BACKGROUND .............................................................................................................................9
      Standards for Internal Control Systems in the Federal Government: The “Green
      Book” ........................................................................................................................................9
      FHFA’s Internal Controls for Conservatorship Decisions .......................................................9
              FHFA, as Conservator, Exercises Sweeping Statutory Powers ........................................9
              FHFA Has Delegated Certain Authorities to the Enterprise Boards ..............................10
             FHFA Has Adopted Policies and Procedures to Facilitate its Execution of
             Retained Responsibilities ................................................................................................11

FACTS AND ANALYSIS.............................................................................................................12
      Transition in Executive Leadership at Freddie Mac ...............................................................12
      Development of a Draft CEO Succession Plan and Discussions Between the Freddie
      Mac Board and the then-FHFA Director About This Plan .....................................................12
              Development of a Draft CEO Succession Plan ..............................................................12
              Refinement of the Board Transition Plan Between May and August 15, 2018..............14
             Adjustments by FHFA and the Board to the Board Transition Plan After August
             15, 2018...........................................................................................................................16

FINDING .......................................................................................................................................18
      FHFA’s Approval of the Board Transition Plan and $3.25 Million in Compensation
      for the President Acted to Circumvent the Congressionally Mandated Cap of
      $600,000 on CEO Compensation. ..........................................................................................18

CONCLUSION ..............................................................................................................................18

RECOMMENDATION .................................................................................................................18

FHFA COMMENTS AND OIG RESPONSE ...............................................................................19

OBJECTIVE, SCOPE, AND METHODOLOGY .........................................................................19

APPENDIX: FHFA MANAGEMENT RESPONSE ....................................................................20


                                             OIG • EVL-2019-002 • March 26, 2019                                                                  6
ADDITIONAL INFORMATION AND COPIES .........................................................................26




                                 OIG • EVL-2019-002 • March 26, 2019                                       7
ABBREVIATIONS .......................................................................

2017 Order            Conservatorship Order No. 2017-003

Board                 Freddie Mac Board of Directors

CEO                   Chief Executive Officer

DOC                   Division of Conservatorship

Enterprises           Fannie Mae and Freddie Mac, collectively

FHFA or Agency        Federal Housing Finance Agency

Green Book            U.S. Government Accountability Office, Standards for Internal
                      Control in the Federal Government

HERA                  Housing and Economic Recovery Act of 2008

LOI                   Letter of Instruction

OIG                   Federal Housing Finance Agency Office of Inspector General

Treasury              U.S. Department of the Treasury




                          OIG • EVL-2019-002 • March 26, 2019                         8
BACKGROUND ..........................................................................

Standards for Internal Control Systems in the Federal Government: The “Green Book”

FHFA, like other federal agencies, is responsible for implementing and maintaining an
effective internal control system. Standards issued by the Comptroller General of the United
States for internal controls in the federal government are set forth in the Standards for
Internal Control in the Federal Government (also known as the Green Book). 1 The Green
Book defines an “Internal Control System” as a continuous built-in component of operations,
effected by people, that provides reasonable assurance, not absolute assurance, that an entity’s
objectives will be achieved. The Green Book explains that an effective internal control
system assists a federal agency in adapting to changing environments, evolving demands,
evolving risks, and new priorities.

We use the standards set forth in the Green Book to assess the adequacy of the policies and
procedures FHFA has put in place to facilitate its administration of the conservatorships of
Fannie Mae and Freddie Mac (the Enterprises) and we review FHFA’s practices against the
internal controls established by its own policies and practices.

FHFA’s Internal Controls for Conservatorship Decisions

      FHFA, as Conservator, Exercises Sweeping Statutory Powers

Created by Congress in 2008, FHFA is charged by the Federal Housing Enterprises Financial
Safety and Soundness Act, as amended by the Housing and Economic Recovery Act of 2008
(HERA), with supervision and regulation of Fannie Mae, Freddie Mac, and the Federal Home
Loan Bank System. HERA vested FHFA with the authority to place the Enterprises into
conservatorship and granted it sweeping powers to act as conservator. After FHFA placed the
Enterprises into conservatorship in September 2008, the Agency succeeded to all rights, titles,
powers, and privileges of the Enterprises, and of any shareholder, officer, or director with
respect to the Enterprises and their assets. As conservator, FHFA is empowered by HERA to
operate the Enterprises “with all the powers of the shareholders, the directors, and the
officers.” 2 These powers position FHFA to potentially control every aspect of Fannie Mae’s
and Freddie Mac’s governance and operations.




1
  See generally, Government Accountability Office, Standards for Internal Control in the Federal Government
(Sept. 2014) (GAO-14-704G) (online at www.gao.gov/products/GAO-14-704G).
2
    See 12 U.S.C. § 4617(b)(2)(B)(i), (D)(ii).



                                      OIG • EVL-2019-002 • March 26, 2019                                     9
      FHFA Has Delegated Certain Authorities to the Enterprise Boards

Although Congress granted FHFA authority to operate the Enterprises, FHFA determined, for
reasons of efficiency, concordant goals with the Enterprises, and operational savings, to (1)
delegate authority for general corporate governance and day-to-day matters to the Enterprises’
boards of directors and executive management, and (2) retain authority for certain significant
decisions. 3 Shortly after placing the Enterprises into conservatorship in September 2008,
FHFA issued formal orders to each Enterprise board of directors that delegated specified
general corporate governance authority to them and addressed specific governance matters. 4
In conjunction with this order, FHFA issued to the Enterprises’ respective boards the first
Letters of Instruction (LOI) that defined and outlined the scope of delegated and undelegated
authorities. On November 15, 2012, FHFA revised and replaced the 2008 LOI to provide
more specificity regarding the responsibilities of FHFA, the boards, and Enterprise
management.

On July 12, 2017, FHFA issued Conservatorship Order No. 2017-003 (2017 Order) to the
Enterprises’ boards, replacing Order No. 2008-006. The 2017 Order outlines functions,
responsibilities, and authorities of the Enterprises’ boards. The 2017 Order also clarified that
FHFA, as conservator, was exercising its statutory authority under HERA by which it “may,
by regulation or order, provide for the exercise of any function by any stockholder, director,
or officer of any regulated entity for which [FHFA] has been named conservator or receiver.” 5
On June 27, 2018, FHFA issued Conservatorship Order No. 2018-002, replacing the 2017
Order. Order No. 2018-002 carries over all provisions in the 2017 Order with added language
to make the conservator’s authority more explicit.

On December 18, 2017, FHFA issued another revision to the LOI, replacing all prior versions
(2017 LOI). The 2017 LOI became effective on March 31, 2018. Under the 2012 and 2017
LOIs, FHFA delegated to the Enterprise boards of directors authority to address and resolve
many of the same issues that boards of directors of public companies address and resolve,
save for those matters carved out by FHFA for its review and decision (or for which prior
notice must be provided by the Enterprises).

The orders and LOIs create significant differences between the responsibilities of Enterprise
directors (for the duration of the conservatorships) and directors of publicly traded companies.

3
 See OIG, FHFA’s Conservatorships of Fannie Mae and Freddie Mac: A Long and Complicated Journey, at
11–12 (Mar. 25, 2015) (WPR-2015-002) (online at www.fhfaoig.gov/Content/Files/WPR-2015-002_0.pdf).
4
  Conservatorship Order No. 2008-006, issued November 24, 2008. For a general discussion of the authorities
delegated by FHFA to the Enterprise boards under its different orders and LOIs, see OIG, FHFA Letters of
Instruction to the Enterprises (July 23, 2018) (WPR-2018-004) (online at
www.fhfaoig.gov/Content/Files/WPR-2018-004.pdf).
5
    12 U.S.C. § 4617(b)(2)(C).



                                  OIG • EVL-2019-002 • March 26, 2019                                         10
In publicly traded companies, directors owe their fiduciary duties of care and loyalty to the
shareholders. Enterprise directors, however, solely owe their fiduciary duties to the
conservator and their authority is limited to the scope of the delegation from the conservator.
Limits of the delegation of authority relevant to this evaluation are succession planning for
directors and senior executive leadership of Freddie Mac and selection of a new CEO and
President. In publicly traded companies, the boards of directors are responsible for succession
planning for directors and senior executive leadership of Freddie Mac and for selecting a new
CEO and President, as the need arises. Here, FHFA delegated responsibility to the Enterprise
boards (1) to develop a succession plan for board positions and senior executive leadership
and (2) to select candidates for vacant board positions and for the CEO and President
positions. FHFA, however, retained the responsibility to approve the selections of directors
and to review selection of the CEO. According to FHFA, it has, as a practical matter, chosen
to approve such selections after review. FHFA also retained the responsibility to approve
compensation actions for senior executive officers.

   FHFA Has Adopted Policies and Procedures to Facilitate its Execution of Retained
   Responsibilities

Under the Green Book, agency management is responsible for establishing policies and
procedures as an integral part of the agency’s operations. Generally, management implements
“control activities” (the actions management establishes to achieve its objectives) through
written policies.

FHFA’s Division of Conservatorship (DOC) is tasked with, among other things, evaluating
the Enterprises’ requests for conservatorship approval and facilitating review of such requests
and decision-making processes within FHFA. Consistent with the principles set forth in the
Green Book, FHFA established an internal control framework that includes policies and
procedures for processing formal Enterprise requests for conservator decision from FHFA as
conservator. Those policies and procedures include the LOIs, the Conservatorship Decision
Policy, the Conservatorship Decision Procedure, and the Official Documents Policy.




                              OIG • EVL-2019-002 • March 26, 2019                                 11
FACTS AND ANALYSIS ...............................................................

Transition in Executive Leadership at Freddie Mac

Freddie Mac is in a period of transition. Freddie Mac’s CEO, who has served as CEO since
May 2012 and is also a Board member, advised the Board of his intention to retire during the
second half of 2019, which Freddie Mac had publicly announced. In addition, four other Board
members, including the Board Chairman, reached the end of their respective terms. 6 Three of
those members departed the Board in February 2019, and the fourth will depart in June 2019.

Development of a Draft CEO Succession Plan and Discussions Between the Freddie
Mac Board and the then-FHFA Director About This Plan

    Development of a Draft CEO Succession Plan

In February 2018, Freddie Mac’s CEO set down his thoughts for a succession plan and, on
April 15, 2018, shared those with the Board Chairman. At the same time, he advised the
Board Chairman that he tentatively was considering retirement at some point between 2019
and 2020.

On April 18, 2018, the Board Chairman notified the then-FHFA Director by email that he and
the Chairman of the Nominating and Governance Committee of the Board had drafted a plan
with recommendations to address transition issues prompted by the CEO’s decision to retire
from Freddie Mac in the near term, the expiration of the Chairman’s term in February 2019,
and the departure of the FHFA Director from FHFA at the end of his term in January 2019
(Board Transition Plan). He explained that the Board Transition Plan incorporated the CEO’s
thoughts on succession into its analysis and reached recommendations that the authors
believed were “in the best long-term interests of” Freddie Mac and “balance[d] the need for
executive stability and sound corporate governance principles.” He reported that the Board
Transition Plan had been discussed with the chairs of other Board committees (but had not
been “physically distributed to [them]”) and had their unanimous support. The Board
Chairman advised that the Board sought to share its transition plan with the then-FHFA
Director before sharing its recommendations with the CEO.

Roughly two weeks later, on May 3, 2018, the Board Chairman sent the Board Transition
Plan to the then-FHFA Director. The Board Transition Plan set forth the anticipated

6
  Pursuant to FHFA regulation, no board member of an Enterprise may serve on the board of directors for
more than 10 years or past the age of 72, whichever comes first. See 12 C.F.R. § 1239.20(a)(1)(i). The
FHFA Director may waive limits on board service at the Director’s discretion and for good cause. 12 C.F.R.
§ 1239.20(a)(1)(ii).



                                   OIG • EVL-2019-002 • March 26, 2019                                       12
transitions explained in the April 18, 2018, email and explained that the Board sought to take
“actions in the near term to minimize potential disruption resulting from key transitions of the
CEO, Board chair and Director of FHFA.” The Board Transition Plan addressed both the
Board and CEO transitions. For the expected departures from the Board, the Board Transition
Plan offered several options. (Because those options are not relevant to this evaluation, they
are not discussed here.)

With respect to the CEO succession, the Board Transition Plan acknowledged that the CEO’s
retirement would not likely impact “most of the senior executive team” but that at least one
senior executive, “Candidate A,” could be a “flight risk” if a CEO succession plan was not put
into place by year end 2018. The Board Transition Plan explained that the Board, over the
past few years, had assessed several potential internal candidates who reported to the CEO to
succeed him and narrowed its focus to two senior officers. Of these two senior officers, the
Board sought FHFA concurrence to consider Candidate A for the CEO position. The Board
Transition Plan envisioned that Candidate A would be:

    •    Appointed as “Vice-CEO” effective October 2018, with responsibility for the
         company’s three business lines, and

    •    Elevated to the CEO position, effective October 2019.

Recognizing that the FHFA Director had “sole discretion to affirm or reverse any decision
resulting from our [plan],” the Board Transition Plan asked to “accelerate the timing of
FHFA’s review and approval [of it]” to minimize future instability and retain the company’s
“most promising senior executive talent.” It sought FHFA’s approval, or non-objection, to
forego an external search for a CEO candidate for several reasons: the congressional cap on
CEO compensation, 7 “at a time when Washington D.C. is expected to be in political turmoil,”
created challenges to Freddie Mac’s ability to recruit qualified external candidates; and an
external search “could be disruptive” to the senior executive team.




7
  In 2015, the then-FHFA Director awarded annual target compensation of $4 million to the Enterprises’
CEOs, which he explained was designed to “promote CEO retention, allow reliable succession planning, and
ensure the continuity, efficiency and stability of enterprise operations.” In response to the Director’s decision,
Congress passed the Equity in Government Compensation Act of 2015. This legislation reversed those
compensation packages and capped the annual compensation for the Enterprises’ respective CEOs at $600,000.
The House Committee on Financial Services explained the need for the Equity in Government Compensation
Act of 2015 in a committee report that referred to the bipartisan disapproval of the then-FHFA Director’s
decision to allow the Enterprises to increase CEO salaries. The report quoted statements from the Treasury
Department and the White House in support of limits on executive compensation due to taxpayers’ ongoing
backstop of the Enterprises and stated that the Enterprises “continue to function in ways unlike private
industry.” See House of Representatives, Rept. 114-339 Part 1 (Nov. 16, 2015) (online at
https://www.congress.gov/congressional-report/114th-congress/house-report/339/1).



                                    OIG • EVL-2019-002 • March 26, 2019                                              13
On May 4, 2018, Freddie Mac’s Chairman of the Board, Chairman of the Board’s Nominating
and Corporate Governance Committee, then-FHFA Director, and a Special Advisor to the
then-FHFA Director (who was also Acting Deputy Director of the FHFA Division of
Conservatorship) met to discuss FHFA’s feedback to the Board Transition Plan (which had
been sent to FHFA the previous day). Several days later, the then-FHFA Director provided
feedback on the Board Transition Plan. By email dated May 9, 2018, he wrote that the
approach of the Board Transition Plan “strikes us as being very reasonable.” He responded
that he had “no interest during [his] tenure as Director in undertaking an outside search for a
successor,” which the Freddie Mac Board treated as FHFA’s concurrence with its request to
forego an external search for the CEO position. The then-FHFA Director concluded with the
hope that this feedback would be sufficient to enable the Board to move forward and reach
consensus on a plan for CEO succession. 8

    Refinement of the Board Transition Plan Between May and August 15, 2018

Over the course of the next three months, the Board refined the Board Transition Plan, which
it shared with the then-FHFA Director and the Special Advisor verbally and through periodic
written updates (on June 21, June 26, July 16, and July 25). Among other things, the Board
developed key terms of the plan, including the transitional role of the primary internal
candidate, a proposed executive compensation package, and timing and logistics. On July 16,
2018, the Board submitted a detailed description of the anticipated responsibilities of the
Deputy CEO position during the one-year transition period. Those responsibilities included
the following elements:

    •   Identification of Candidate A by name;

    •   Creation of a new executive officer position, “Deputy CEO,” for a one-year period,
        and appointment of Candidate A to that position, with an annual compensation
        package equal to the highest paid company executive (then $3.25 million); 9

    •   Expectation that the current CEO would mentor the Deputy CEO during that one-year
        period to groom him for the CEO position, pursuant to a written development plan
        prepared and administered by the CEO;



8
  According to a June 21, 2018 email from the CEO to the then-FHFA Director, the Freddie Board met in
executive session on June 7, 2018 to discuss the Board Transition Plan submitted to FHFA and discussed with
the then-FHFA Director on May 4, 2018. No minutes for this executive session were provided to us by FHFA.
9
  That compensation award would amount to an increase in Candidate A’s compensation by $500,000. FHFA
was required to consult with the U.S. Department of the Treasury on this compensation award. See Section
5.10 of the Preferred Stock Purchase Agreement between Freddie Mac and Treasury, as provided in Part A of
the Letter of Instruction.



                                  OIG • EVL-2019-002 • March 26, 2019                                         14
     •   Description of the responsibilities of the Deputy CEO position during the one-year
         transition period, which included, for roughly the first six months, transition out of the
         multi-family business, development of subject matter expertise in business units and
         functional areas, and participation with the CEO in discussions regarding the business
         plan and corporate scorecard, and for the second six months, continued participation
         in these discussions, becoming a key adviser at business unit performance reviews,
         beginning to exercise primary CEO decision rights during functional area meetings,
         and leading interactions with key managers;

     •   Anticipated retirement of the current CEO by October 2019; and

     •   Appointment of Candidate A as CEO, with annual compensation that “would naturally
         revert to the $600K,” as required by the statutory cap, subject to FHFA approval.

We found no evidence that Freddie Mac and FHFA adhered to the procedures established
by FHFA for matters requiring conservator approval under the 2017 LOI. Communications
about the Board Transition Plan and its revisions were generally limited to conversations and
emails among the FHFA Director and Special Advisor, the Board Chairman, and the CEO.

On August 3, 2018, Freddie Mac requested approval from FHFA for the annual compensation
package proposed for the Deputy CEO position. While Candidate A had been compensated at
a rate of $2.75 million in his position as the Executive Vice-President of Multi-Family, the
CEO explained to the then-FHFA Director that the Board sought a $500,000 increase in his
compensation so that his compensation would be at the same level as the highest paid direct
report to the CEO during his one-year tenure as Deputy CEO. FHFA staff analyzed the
proposed compensation for this “newly created and unique” position which would “have
responsibility across the entire organization” 10 and recommended approval on August 14,
2018. The following day, the then-FHFA Director concurred with the staff recommendation
and approved the proposed annual compensation for the Deputy CEO position.

When FHFA staff recommended, and the then-FHFA Director approved, the proposed annual
compensation of $3.25 million for Candidate A in the “newly created” Deputy CEO position,
FHFA understood that the Board anticipated that the incumbent (if successful) would succeed
Freddie Mac’s CEO, and his compensation as CEO would be reduced to $600,000. We
provided FHFA with a draft of this report for its technical comments which it submitted on
March 4, 2019. In those comments, FHFA represented that Candidate A had advised both the


10
   That rule required Freddie Mac to provide FHFA 30 days written notice before a payment is made to any
executive officer of annual compensation (where the amount of annual compensation has changed). Pursuant
to its rule, FHFA will prohibit a “regulated entity” such as Freddie Mac from providing compensation to any
executive officer that is not “reasonable and comparable.”



                                   OIG • EVL-2019-002 • March 26, 2019                                        15
CEO and members of the Board that he would leave Freddie Mac if he was not selected as
CEO so his position as President “is designed to be temporary, not permanent.”

     Adjustments by FHFA and the Board to the Board Transition Plan After August 15,
     2018

1. FHFA directed Freddie Mac to conduct an external search for a new CEO. Although
the then-FHFA Director found the Board Transition Plan “reasonable” and advised that he
had “no interest during [his] tenure as Director in undertaking an outside search for a
successor” in May 2018, he reversed his position at some point between August 15 and
August 28, 2018. After consultation with Treasury, FHFA determined that Freddie Mac
should engage in an external search for a CEO candidate. An August 28, 2018, email from
the Special Advisor to the CEO confirmed that Freddie Mac would expand its search to
include external candidates.

The Board retained an executive search firm, Korn Ferry, in October 2018, to conduct the
external search for a candidate for the CEO position. Pursuant to the retention agreement,
Korn Ferry will assess external and internal candidates through interviews and assessments to
aid in an “apples to apples” benchmarking and evaluation by the Board. 11

2. FHFA directed Freddie Mac to change the title of the new position from Deputy CEO
to President but envisioned that the role and responsibilities would not change. Because
FHFA determined that Freddie Mac should expand its search to include external candidates
and select a CEO candidate after its search was completed, the Special Advisor reported to
us that he and the then-FHFA Director determined that the title of Deputy CEO was “not
appropriate.” FHFA decided that the more appropriate title for this new position would be
“President,” and informed the CEO of this change by email dated August 28, 2018. In its
technical comments to a draft of this report, FHFA stated that the change in title of the newly
created position from Deputy CEO to President did not change the roles and responsibilities
for the position.

In an email exchange on August 28, 2018, the Special Advisor and the CEO discussed the
role of the President position. The CEO described it as mirroring the position of Deputy
CEO that was not created: to be an “understudy to the CEO, gradually taking over” with the
expectation that the President would, over time, gradually take on responsibilities of the CEO.
The CEO explained that, unlike the newly appointed President of Fannie Mae, the President
of Freddie Mac would “focus on learning corporation-level and non-M[ulti]F[amily] business
activities to be as prepared as possible to become CEO upon the conclusion of the search (if it

11
   The agreement with Korn Ferry established a six-month timeframe to complete the search and provides for
an extension of up to nine months. Korn Ferry submitted an update to Freddie Mac on January 15, 2019, that
contained background information on several proposed candidates.



                                  OIG • EVL-2019-002 • March 26, 2019                                        16
went to him at that time).” While FHFA responded that it was “a bit open to exactly how [the
President’s] role is initially structured” in the short run, it directed Freddie Mac to consider,
after roughly three months, “how you describe this role publicly recognizing it will be
compared to Fannie’s president role.”

FHFA notified Freddie Mac on September 5, 2018, that it approved the increase in
compensation for Candidate A upon his promotion to President. That same day, Freddie Mac
announced that the current CEO intended to retire in the second half of 2019 and, as a result
of his decision, it was implementing its CEO succession plan. It announced that Candidate A
had been elevated to the position of President. It explained that the Board had formed a
search committee and intended to consider internal and external candidates, and identified
Candidate A as the internal candidate for the CEO position. The following day, Freddie Mac
disclosed in a Form 8-K filing, the same information as well as an annual compensation
package of $3.25 million for Candidate A as President.

In our view, FHFA’s approval of the $3.25 million compensation package for the “temporary”
position of President acted to circumvent the congressionally mandated cap of $600,000 on
CEO compensation. From September 2008 through September 5, 2018, Freddie Mac had
no position of President or Deputy CEO. The Board expected that the President, as the
“understudy” to the CEO, would execute only those responsibilities previously executed by
the CEO and now delegated by the CEO to him during a one-year transition period. FHFA’s
approval authorized Freddie Mac to provide a total of $3.85 million in compensation—$3.25
million for the President and $600,000 for the CEO—for the same responsibilities for which
it previously paid $600,000, an increase of over 500%.

We transmitted a final draft of this report to FHFA for management review and response,
which was due on March 21, 2019. That same day, Freddie Mac announced that its current
CEO would retire on July 1, 2019 and that its Board had appointed the current President as its
new CEO, which FHFA had approved. Its Form 8-K filing on March 21 also disclosed that
compensation for the new CEO, effective July 1, 2019, will “consist solely of an annual base
salary of $600,000, a level established by FHFA” pursuant to the congressional cap and, as of
that date, he “will no longer participate in the Executive Management Compensation Program
or have any compensation subject to either corporate or individual performance.” Freddie
Mac will continue to compensate its current President at an annual rate of $3.25 million, until
July 1, 2019. FHFA did not mention this appointment or the process used by the Board to
reach its decision in its management response, dated March 21, 2019 (see Appendix). Indeed,
FHFA represents in its management response that Freddie Mac is “conducting internal and
external searches for the CEO position.” There can be no debate that this affirmative
representation is factually inaccurate and creates a misleading impression.




                              OIG • EVL-2019-002 • March 26, 2019                                   17
FINDING ...................................................................................

       FHFA’s Approval of the Board Transition Plan and $3.25 Million in
       Compensation for the President Acted to Circumvent the Congressionally
       Mandated Cap of $600,000 on CEO Compensation.


CONCLUSION ............................................................................

In 2015, the then-FHFA Director awarded an annual target compensation of $4 million to
each Enterprise CEO in order to “promote CEO retention, allow reliable succession planning,
and ensure the continuity, efficiency and stability of enterprise operations.” Congress rejected
that rationale: it suspended those awards and imposed a salary cap of $600,000 on the CEO
position. Since Congress passed that legislation, the position of CEO at Freddie Mac has been
held by one individual who was paid a total of $600,000 for those services.

From September 2008 through September 4, 2018, Freddie Mac had no position of President
or Deputy CEO. FHFA approved creation of the position of President with the understanding
that the individual in that position would serve as the “understudy” to the CEO and execute
only those responsibilities previously executed by the CEO and now delegated to him during
a one-year transition period. FHFA’s approval of a $3.25 million compensation package for
the Deputy CEO position (which was never created) and subsequent approval of the same
compensation for the President position, acted to circumvent the congressionally mandated
cap of $600,000 on CEO compensation. As a result of FHFA’s approval, Freddie Mac is
paying a total of $3.85 million in compensation for the same set of responsibilities for which
it previously paid $600,000. Effective July 1, 2019, Freddie Mac’s new CEO will receive
annual compensation of $600,000.


RECOMMENDATION .................................................................

We recommend that FHFA:

       Re-assess the appropriateness of the annual compensation package of $3.25 million to
       the Freddie Mac President with consideration paid to the following factors: the
       congressional intent behind the statutory cap on compensation; Freddie Mac’s
       continued conservatorship status and the burdens imposed on the taxpayers from that
       status; the 10-year practice at Freddie Mac where one individual executed the CEO
       responsibilities with annual compensation capped at $600,000 since 2015; and the


                              OIG • EVL-2019-002 • March 26, 2019                                  18
       temporary nature of the position of President, in light of FHFA’s representation that
       Candidate A will leave Freddie Mac if he is not selected for the CEO position.


FHFA COMMENTS AND OIG RESPONSE .....................................

We provided FHFA an opportunity to respond to a draft of this evaluation report and its
response is included in the Appendix to this report. Because FHFA disagreed with our
recommendation to re-assess the appropriateness of the annual compensation award of $3.25
million to the Freddie Mac President, we consider this recommendation to be closed as
rejected.


OBJECTIVE, SCOPE, AND METHODOLOGY .................................
The objective of this report was to evaluate FHFA’s oversight of the Enterprise boards of
directors, with a particular focus on succession planning for the CEO position. Based on
information that came to our attention during this evaluation, we also sought to assess
FHFA’s oversight of Freddie Mac’s compensation practices relating to its President.

To achieve this objective, we requested and reviewed FHFA guidance pertaining to CEO
succession planning. Additional materials reviewed include FHFA correspondence with the
Freddie Mac Board and CEO, documentation of FHFA’s review of compensation
arrangements for the Freddie Mae President, and Freddie Mac Board documentation of its
succession planning activities.

In addition to our document review, we interviewed a Special Advisor to the Acting Director
and the DOC Deputy Director.

The field work for this report was completed between October 2018 and February 2019.

This evaluation was conducted under the authority of the Inspector General Act and in
accordance with the Council of the Inspectors General on Integrity and Efficiency’s Quality
Standards for Inspection and Evaluation (January 2012). These standards require us to plan
and perform an evaluation based upon evidence sufficient to provide a reasonable basis to
support its findings and recommendations. We believe that the finding and recommendation
discussed in this report meet those standards.




                             OIG • EVL-2019-002 • March 26, 2019                               19
APPENDIX: FHFA MANAGEMENT RESPONSE .............................




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ADDITIONAL INFORMATION AND COPIES .................................


For additional copies of this report:

   •   Call: 202-730-0880

   •   Fax: 202-318-0239

   •   Visit: www.fhfaoig.gov



To report potential fraud, waste, abuse, mismanagement, or any other kind of criminal or
noncriminal misconduct relative to FHFA’s programs or operations:

   •   Call: 1-800-793-7724

   •   Fax: 202-318-0358

   •   Visit: www.fhfaoig.gov/ReportFraud

   •   Write:

                FHFA Office of Inspector General
                Attn: Office of Investigations – Hotline
                400 Seventh Street SW
                Washington, DC 20219




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