Compensation packages for chief executive officers in the U.S.
have careened out of control. However, the stage is set for what
could be a major correction in CEO salary as the American public
and shareholders alike find more and more reasons to question the
. More information is the key.
In October, the Securities & Exchange Commission (SEC) is
expected to release the final rules for a controversial proposal
that would require every publicly traded company to disclose its
CEO-to-worker pay ratio. The Dodd Frank Act charged the SEC with
the responsibility to make the rule, but it has taken this long
for the SEC to make any headway. During the SEC's public comment
phase, 128,000 comments flooded in about the rule. It was a
lightning rod for controversy as governance advocates and
business interests argued the pros and cons of CEO salary
Now that progress is on the horizon, many CEOs will have
something to sweat about. The data could lead many investors to
wonder whether CEOs' job performance really warrants their big
paychecks, and it could also raise regular folks' ire and overall
distrust for corporate America.
The skyrocketing ratio
AFL-CIO data shows that the ratio of median CEO pay to the
median pay of average American workers hit 331-to-1 in 2013. When
CEO pay is stacked up against minimum-wage employees' paychecks,
the ratio more than doubles to an eye-popping 774-to-1.
Naturally, CEOs should be paid more than rank-and-file workers
-- especially if they're truly the cream of the crop. But such a
huge gulf is unacceptable, if not ludicrous. In a strictly
business sense, out-of-control pay can represent a serious
strategic disadvantage. Peter Drucker, widely considered the
father of modern management theory, warned that when this ratio
rises above 20-to-1, employee morale can deteriorate. The ripple
effect of disengaged or even disgruntled employees can lead
businesses to falter.
The "pay for performance" joke
Advocates for high CEO salary argue that paying "market rates"
or higher lures and retains the very best talent at the top. Yet
that idea is flawed not only because the policy tends to push
CEOs' pay upward, but also because, in many cases, the
highest-paid CEOs aren't even the best performers.
True, some outstanding corporate leaders take home reasonable,
or even modest, paychecks in return for their hard work --
usually choosing to do so themselves. But for the typical chief
exec, a huge salary is a given, and across corporate America, CEO
"pay for performance" is largely a joke.
Many organizations have revealed data showing that sky-high
pay doesn't always add up to business or stock outperformance.
Just last month, Towers Watson released some relevant findings.
The consulting company analyzed 50 companies that had
outperformed peers in the S&P 1500 over a 15-year time frame.
It turns out these companies' executive compensation had been
the median CEO salary, not above.
Keep in mind that these CEOs' realizable pay was significantly
boosted beyond the median rate through stock options, and options
can sometimes artificially boost pay, which is another subject of
debate in the CEO salary arena. On the other hand, when options
and stock-based compensation are used in the way they were
originally intended -- to align CEOs' interests with
shareholders' interests in order to encourage long-term
outperformance -- they can reward exceptional CEOs well and
enhance companies' true performance.
Shine the spotlight on pay ratios
Most CEOs are given the benefit of the doubt every step of the
way toward an inflated pay package. In some cases, we could call
it money for nothing. Consider that new CEOs often bag
eye-popping sign-on bonuses before they show any performance at
all, while goodbye packages -- even for disgraced executives --
often represent more money than regular Americans can even dream
Disclosing the CEO-to-worker pay ratio will give much-needed
perspective to the discussion and force boards of directors and
shareholders to scrutinize CEO compensation more closely. It
should also lead to deeper thought about how we define
performance and merit in America. Outrageous CEO salary is
overdue for an overhaul, and increased awareness may be the
catalyst for change.
Check back at Fool.com for more of Alyce Lomax's columns on
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Why CEO Salary May Come Back to Earth
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