I recently read about a stock investor who made their investment choices based mainly on the ratio of highest executive pay to lowest intern pay… the closer the two values were, the better this person liked the company (I think they gave an example where a company they liked had exectives with roughly 28x higher pay). It made me think about the possibility of a law enforcing such a limitation (say 50x?). What unintended consequences might arise from such a law? Would the negative outweigh th e positive?
It’s certainly worth a try.
As far as I can tell, the salaries keep going up and up because the decisions are made by the board of directors, all usually big shots at other companies. And all with a vested interest in the rise of all executive salaries. There’s no reason for them to control top salaries at all.
Currently, there is a move just to make salaries, perks, and parachute clauses more public.
Better, would be to have the stockholders asked separately to vote for salary changes.
Best, but I’m not holding my breath, is to have the rank and file vote.
If the last happened, one of the immediate consequences is that top salaries would decline, but there would be no end of eager, well qualified, applicants anyway. Everyone wants more power, even if there’s no raise to go with it.
The biggest unintended consequence is shifting compensation to other forms. This may seem like it would be easy to just add those in too but it often isn’t. Stock options are the most troublesome to account for and they can potentially add up to very big money. Executives are often awarded stock options as a personal motivation for the company to do well. A management team that has taken control of a very troubled company may be given tons of stock options because the stock is relatively worthless at the time. If the stock stays goes down or stays the same, they get nothing. If they manage to turn the company around, they can end up with mega-bucks. There is no way to know beforehand.
I am close friends with a CEO that accepted an offer with a small office supply chain about 18 years ago. He agreed to be paid mainly in stock options and relatively little pay. He did his job extremely well and Staples exploded onto the national scene under his leadership. Other founders of the company were livid that his stock options were worth in the hundreds of millions. He told them to screw and walked away with the cash. Even the other management in the business didn’t know that they were about to receive a windfall.
There is no good way around stock options paying out megabucks. You want executives to have them to have a personal stake in the business and you can’t really steal their shares if the business is very successful.
Stock option payouts are just shared benefits that help everyone involved. I don’t see the point in limiting those to some arbitrary number.
Shanasty has a good point: for certain types of compensation, you couldn’t know beforehand whether they could become “excessive” or not. (You could have caps, however.)
I’m very cynical about how “public” companies are run. I think for the most part they are run by the execs for the execs. That they are stewards of capital in the service of the shareholders is pretty much a joke.
In Japan, executive pay is so low as to seem absurd by US standards. A CEO of a $1B company might make $300k. In the big companies I’ve worked for, execs below CEO rank pretty much topped out at under $200k, and most were much lower. Stock options didn’t exist because they were illegal until recently. On average, a Japanese CEO makes only 7x entry level pay.
So culture has a lot to do with it, and it’s definitely possible for companies to function without the execs making billions. The Finnish president of the Euro subsidiary of the Japanese drug company I worked for was said to make just $60k!
Personally, I think our system in the US of exec pay is a scam. It’s a churn that works like this:
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Company starts out. CEO 1 does well and gets paid well. So far so good.
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Company starts doing bad. CEO 1, honored though he is, gets pushed out. We’re still OK.
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CEO 2 is asked to join. He needs to be “incented” to take on a tough job like leading a company in difficult times. CEO 2 is given a good salary and stock options. Plus, he might be tainted forever if the company fails despite his best efforts, so he gets a Golden Parachute Package right from the start. The problem: No matter what CEO 2 does, he’s going to come out of this OK:
4A. The company improves! Whether it’s just naturally coming out of an economic slump or CEO 2 has been the cause of it, CEO 2 is richly rewarded. As the company continues to ascend, he just gets paid more and more and more and more…
4B. The company sinks further. CEO 2 resigns but has the Golden Parachute.
- In the event of failure, the cycle repeats: CEO 3 comes on, is given a good salary, stock options, and a Golden Parachute.
The upshot is that the CEO Ruling Class can never be punished for its errors. In a case like Enron, in which outright fraud was the MO, most of the piggies at the trough got away free.
The problem of executive pay, however, is superficial compared to the much deeper problem of how interest and rents and the “ownership” of assets is treated in our economic system. Despite our “science” of economics, we do not have the technology or philsophy to peer very far into the mist, but the essence of it is this: The concept of “ownership” is now obsolete. There is control, and there are the interest and rents that accrue to control. The trick behind the whole system is that money is paid to labor once but to money perpetually (interest) and to a physical asset either perpetually (rents on land) or for a long term (rents on depreciable assets). The upshot is that once one becomes a rentier, s/he is served in perpetuity by labor.
Attain enough capital, and you become a rentier. You don’t have to work; you don’t even have to manage your assets; you can pay someone to do it.
The CEO class do not “own,” but they certainly control. In theory they should pay themselves as little as possible, since they mere stewards of the capital, but they are de facto managing rentiers. It’s true that they bust ass in alpha-male fashion but they do not assume risk as do true entrepreneurs.
The system itself is fundamentally broken. Our current “science” of economics can’t fix it, nor does Marxist ideology have a ghost of a chance. Rather, a rational system of socialism, in which control (and not the phantom of “ownership”) is asserted over capital and assets for the greater good of the society and polity, is what will work.
This has already happened to a great degree, and by any rational definition the US is already socialist. Hence, laws against pollution assert governmental control over such assets as factories. The estate tax is designed to prevent permanent feuds of capital from forming (they form anyway).
The short answer to the OP: You ask your question about “unintended consequences” as if our current system is good and normal. It isn’t. Such a cap would be an attempt to prevent the CEO class from gaming the system, as they undoubtedly do now. Whether the attempt succeeds at any given time is a matter of circumstances and culture (it is already “successful” to some degree in Japan), but the attempt will and must continue to be made insofar as we are interested in a just economic system.
Stock option grants won’t be such a big deal, since the accounting rules for them have changed, and they now have to be considered as an expense.
I agree that options are not going to change much. The only suggestion I heard was making compensation in options based on increase in stock valuation above some metric, say S&P. This is to avoid a mediocre executive making a killing from a general rise in the market.
As for limiting compensation, I don’t see much of a downside, so long as eveyone has to do it.
Government shouldn’t interfere like this in the operations of a private company. Whether high executive salaries are good or bad is really pointless, it’s not up to the government to run businesses for themselves in the manner it sees fit.
If government and society just doesn’t like the thought of people making lots of money (this is what pisses off most people here at SDMB, is rich people in general) then there are other ways to deal with that by just taxing the rich to hell and back.
Actually, in a socialist system it is up to government.
And the US is a socialist system.
So, are you against the SEC also? These are publicly owned companies, remember, and are thus subject to regulation. And don’t you think collusion between a CEO and directors to inflate a CEO’s pay for poor performance, is violating their duty to the owners of the business?
U.S. corporations might have to start outsourcing their executive positions. 
There is still more than a little leeway, since option valuation is not straightforward nor particularly well-understood by a lot of people.
While it is not up to the government to run businesses, it certainly is up to the government to maintain the competitiveness of markets. If excessive executive compensation is driven by market power rather than supply and demand, then it causes deadweight loss. Not only can the government intervene, but I believe it should.
You’re not kidding. I understand how they work (working in Silicon Valley and all) but I don’t understand that they can be valued, even in principle, before being exercised. I do believe there are clear accounting rules, however, and there is definitely a drop in the number of options granted. The bad part is that there is likely to be not as broad coverage of options as there was before - my company is very good about giving a lot of people, not just execs, the options. Still, the new rules should exert some downward pressure on them.
That’s assuming execs care more about the bottom line of the company than their own bottom line. Silly me. :smack:
Options for publically traded companies are traded on the open market. Why couldn’t the price of the option on the date issued be the value?
Obviously, this won’t work for companies that aren’t publically traded, but the government has less interest in standardizing their business.
Correct. No one has provided a good justification for limiting CEO salaries. They just give a few examples of some high profile corruption cases and say that the system is broken.
What people are really discussing here is agency issues. The owners of a company (shareholders) are paying mangers to run the company so as to give them the greatest return on their investment. To do this, they provide incentives so that the CEO and other executives success is tied to the success of the company. Where this becomes an issue is when the CEOs are able manipulate the system so that the success or failure of the company is irrelevant to their personal success.
The Board of Directors does not get together to pump up all executive salaries because of some nebulous desire to see salaries increase. They SPECIFICALLY hire each other to each other’s companies boards so they can increase EACH OTHER’S salaries.
The system isn’t broken, it just isn’t perfect. That is why billions of dollars a year are paid to accountants, lawyers and consultants in order to try to keep companies in compliance with an ever increasingly complex maze of corporate regulation.
But hey…pays my bills so who am I to complain.
:eek: Sounds like a pretty serious problem to me, given that compensation is ideally supposed to be determined by market forces rather than by this kind of collusion.
I can’t understand why someone would think that objections to this kind of behavior must be motivated by “being pissed off at rich people in general”. I’ve got nothing at all against rich people, when they make their money in an honest and competitive way rather than just helping each other scoop it out of the till.
You don’t consider “oligopolistic inflation of CEO salaries is inefficient and causes deadweight loss” to be a good justification?
In any case, recall that the OP wasn’t suggesting any kind of legal regulation to limit executive compensation. S/he was simply talking about an individual investor’s choice to favor investing in companies where executive compensation levels are more moderate.
If all executive compensation actually worked like this in the real world, the system wouldn’t be so bad. The problem is, firstly, that anyone who has kept track of corporate pay and company performance over the past couple of decades has seen multiple examples where the size of the executive’s golden parachute or overall compensation seems to bear very little relation to company performance. The problem is that these are generally ratchet-type agreements where compensation goes up with stock prices, but where there is no way of clawing back if things go to hell. Plenty of companies have handed out massive departure checks to CEOs who have done nothing except oversee the continued decline of company (investor and employee) fortunes.
Not only that, but the method of executive compensation tied to share prices encourages a model of business management that emphasizes short-term gains over long-term success and stability. The CEO, after all, often knows that he (or, sometimes, she) is only going to be around for so long, and that his or her remuneration really hinges on company performance during that CEO’s tenure. This provides little incentive to set the company on a firm footing for stable, long-term growth and prosperity, instead encouraging speculation and short-term decisions. In this model, one of the easiest ways to ensure better short-term growth is often simply shedding jobs. It generally looks good on the balance sheet, and is often done without consideration for whether a better business model might involve, for example, greater diversification or new strategies that would allow the company to keep those people employed and continue to grow.
What amuses me, under certain definitions of amuse, is that the same people who want to eliminate the minimum wage to allow companies to cut workers salaries by a buck or two an hour see nothing wrong with handpicked compensation committees inflating loser CEO salaries by tens of millions of bucks.
Me, I’m not rich, but I’m closer to rich than I am to poor.
black-scholes broke the ground for valuing options. Actually it’s pretty easy to do if there is publicly traded stock
[QUOTE=Kimstu]
:eek: Sounds like a pretty serious problem to me, given that compensation is ideally supposed to be determined by market forces rather than by this kind of collusion.
[\QUOTE]
I wasn’t trying to imply that it wasn’t.
No one mentioned that as of my posting
I think people have an innate sense of what is “fair”. There’s nothing wrong with CEOs making millions, but there does get to be a point where people say “ok that’s too much”. Especially if the company is not doing well.
"It made me think about the possibility of a **law **enforcing such a limitation (say 50x?). "
Of course the question is why 50x? Why not 51x or 100x or 10x?
Black-Scholes worked really well for Long Term Capital Management.
The issue is not how to value options at a certain moment in time, but how to account for them as part of a compensation package and report them on the balance sheet. On the other side, if you are an analyst, how you interpret this accounting. This isn’t really my area of finance so I don’t wish to presume to be authoritative, but I do know the matter is hardly cut and dried.
Because unlike actual stock, they have no intrinsic value at the grant date.
At the end of the day, corporations have a choice of valuation models they can choose from. They are enjoined to use a “principles-based” approach. People with a pulse realize this means an “incentives-based” approach. Decoding what the incentives are in each unique corporate context is the challenge.