Surface Ripples

Executive Pay - Abuse or Merited?

It’s that time when executive pay is in the headlines as companies report their yearly results and bonuses. Arguments have been raging for a long time, as rewards at the top often appear not to be linked to results and the gap between the top and “the workers” continues to increase.

This causes continuing resentment, erupting in anti-global protests, in the anti-capitalist “camps” recently seen on Wall Street and St Paul’s and in personal vendetta against “fat cats”. Politicians and the media are increasing their rhetoric and a distinctly “hostile” atmosphere prevails.

I believe in “the bigger the job, the bigger the pay” and that the person(s) running a company, taking the risks and making strategic decisions should be paid more than the worker who (say) just packs the boxes. Both jobs are important, but the skills required to pack a box are less than those required to run a company. Therefore, the box packers are paid less.

The “market” argument goes like this: “Talent is scarce”. Another is “Top people have more to manage than ever”. The other favourite is “A CEO or Chairman can be sacked at any time, therefore he/she needs to be rewarded commensurately”.

Scarcity is a myth propagated by those whose interests it serves. No one is indispensable; if the CEOs of the Fortune 500 companies were to disappear overnight, the markets might wobble, but replacements would be found quickly either from within or without. Corporate governance requires that companies have a succession plan for all top management. When the search is on for a new CEO or Chairman, the press can field several names (when Eric Daniels stepped down from Lloyds Banking Group they managed 10 and at least four when Stephen Green stood down as Chairman of HSBC). Talent is not scarce.

On the rare occasions that a top manager is asked to leave before the end of their term or contract due to poor performance, there is usually a “sweetener”. The CEO of BP who presided over the Deepwater Horizon oil rig disaster wasn’t sacked, merely re-assigned to Russia with a handsome cash payoff.

We all have more to manage in our lives, and modern education should be geared to this. The head of a large company has considerable support in his/her efforts. How much of any large company’s success is due (at least in part) to its brand rather than to the individuals at the top? Equally, how much is due to the hard work of the people on the “front line” who deal daily with the customers who pay for the company’s product?

Bonuses come out of profits – money that would stay in the business as retained profit or be paid as dividends to its shareholders. The “main” shareholders tend to be institutions – pension funds, insurance companies, hedge funds, asset managers. The size of their shareholdings allows them to exercise disproportionate influence. Highly rewarded top executives oversee the rewards of other top executives – can this be truly objective?

Remuneration at the top should come in two parts. First: a salary that reflects the skills needed to run the organisation “competently: acting as a “good steward”, managing the assets of the business “sensibly”, taking neither excessive nor insufficient risk (risk will always be part of growing a business). It should reflect that the incumbent can be replaced. Given the number of MBA graduates appearing every year, we should be experiencing a “glut” of talent to act as a control on prices.

Second, if the business grows, that success must be rewarded equitably in proportion to the perceived contribution of each member of the team. What may happen is that everyone gets a percentage of their salary or of a “bonus pool”. However, the problem is that 5% for someone on £50,000 means a £2,500 bonus, whereas 5% for someone on £500,000 means £25,000. Who has worked “harder” or made “more contribution”? These and similar questions are asked by David Bolchover in his book Pay Check.

Penalties for failure must be proportional to rewards for success. If good results see high rewards, poor results should see “claw backs”. You can’t have all upside and no downside. “Unfair” some will say, “how can I help it if my great performance is impacted by the incompetence of others or by the vagaries of the market?” The answer is simple – if it’s impacted by the incompetence of others or poor market conditions in bad times, the same applies in good times. Therefore the bonus should be reduced to reflect the “support” received from others/benign market conditions…

Buying a top executive is not dissimilar to buying a high-spec car. As the former will cost more, so will a top executive due to the accumulated skills and experience they have amassed. However, when your high-spec Mercedes Benz breaks down, you repair or replace it. They aren’t scarce; so it is with top people.

Unless there is a massive shift in market perceptions, the top people will continue to benefit from what others see as excessive rewards. Political and media hysteria over this risks being seen as “anti-business”, driving away good talent from markets seen to take this stance. This can only result in mediocre performance at best.

Labels: Career, Financial, Productivity, Social, Strategy

posted by William Martin @ 17:30