Will shareholder empowerment curb executive pay?

According to Reuters, even the business leaders at Davos are wondering why shareholders haven’t revolted against high pay:

Several business leaders, speaking candidly during closed meetings, pointed to growing social inequality and said there was a need for more effective tax collection from the best paid.

And while critical of regulatory efforts to cap executive remuneration, some blamed overly generous compensation packages on a lack of shareholder engagement in the issue.

“It should be up to the boards, not the regulators. Where are the shareholders of these banks?” the head of one investment bank told Reuters. Like others who spoke about the issue, he declined to be named.

Studies both here and in the US have concluded that there is little relationship between the pay of senior executives and company performance. The Telegraph even suggested last week that the correlation might be negative; some of the more modestly paid CEOs having delivered better results than the higher earners.

Investors can be forgiven for feeling nauseous. While the index went precisely nowhere between 1998 and 2010, causing deep anxiety for those saving for their retirements, chief executives were cushioned from these worries. Their remuneration across the FTSE100 rose by 13pc each year, dwarfing the 3pc rise in annual earnings. Some must bear responsibility for the strategies, which have brought their companies to grief, and various western economies to the brink of bankruptcy.

However nauseous they might be feeling, investors have done very little to stop the huge rises in executive pay. Bank shareholders seem to be particularly lethargic. Even with compensation ratios reaching new levels of bonkersness, the shareholders simply shrugged.

The government plans to give shareholders more power to ensure that executive pay is linked to performance but, given the lack of shareholder activism so far, there is little evidence to suggest that they will use that power.

There’s a further complication too. To an extent, it was the attempt to link directors’ compensation to company performance that got us here in the first place.

Source: Manifest and MM&K Total Remuneration Survey

Taking 1998 as the base year, the Manifest and MM&K Total Remuneration Survey (quoted by Full Fact) found that the share related elements of CEO remuneration (Options and LTIP) were responsible for much of the increase in their pay levels.

The picture in the US is similar, as this study by Professor Martin Conyon   shows. Professor Conyan notes that equity-based incentives account for much of the differences in executive pay between countries. American CEOs are paid more than their European counterparts partly because US firms are bigger. But, even if you control for size of firms and different industries, American CEOs’ pay is still significantly higher, largely due to their share-related compensation.

Broadly speaking, the more a country links its executive remuneration to shares, the more its CEOs get paid.

So the shareholders are failing to rebel against high executive pay and the pay schemes which were supposed to link executive pay to company performance have fuelled the pay boom.

It looks very unlikely, therefore, that empowering shareholders will do much to curb executive pay. Not all investors are keen and, if past performance is anything to go by, shareholder inertia and general lack of interest is such that trying to boost it with extra powers might be like trying to re-charge a flat battery. Even if there is a widespread shareholder revolt, which insists on linking pay to company performance, all attempts to do that so far have led to schemes which have simply made senior executives ever richer.

Shareholder empowerment might make good headlines and make the government look as though it is doing something but probably won’t do much to stop the rise and rise of senior executive pay.

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5 Responses to Will shareholder empowerment curb executive pay?

  1. Pingback: Will shareholder empowerment curb executive pay? - Rick - Member Blogs - HR Blogs - HR Space from Personnel Today and Xpert HR

  2. DrBlighty says:

    Another very relevant, intelligent and enjoyable blog from Flip Chart Rick. Corporate governance, I would argue, is one of the key issues.

    In the UK, boards of directors of public companies can be self appointing – there is no requirement in company law for them to be elected by shareholders, debenture holders or any other stakeholding group. The only statutory power possessed by the the shareholders, who are the company owners, in relation to directors is the power to remove them.

    The directors’ remuneration is set by the remuneration committee, a committee of non-executive directors, who, it is alleged, are independent of the executive directors. Although the directors’ remuneration, once it has been set, is voted on by the shareholders at AGM, the vote is not binding on the directors – it is merely advisory. So in the UK the pay of directors is set by directors, a conflict of interest and market failure, I would suggest.

    Boards of directors in the UK are unitary, that is, the non executive directors and executive directors sit on the same single board. There is no distinction between the two classes of directors in company law. Sitting on the same board introduces a very real risk that the independence of the non-executive directors is compromised. In other words the non-execs get captured by the execs – very convenient if your pay is being set by a mate or close colleague!

    In Germany, large companies have two tier boards, as distinct from unitary ones. The supervisory board, which comprises non-execs, is elected as 50% employee representatives and 50% elected shareholder representatives. The executive board, which does the day to management, is appointed by the supervisory board with any ties settled by the chairman who must be a shareholder representative. The supervisory board also sets executive pay. Hence in this way, a company’s employees as well as the shareholder representatives have a say in the executive directors’ remuneration.

    I believe that transplanting this model of corporate governance to the UK would provide moderation in directors’ pay and make it more responsive to company performance and employee well being. In the UK, directors often downsize the work force and then award themselves a large pay increase out of the money so saved. This is much less likely to happen when there is strong employee representation overseeing executive directors’ decisions.

    No doubt those who favour the status quo will object that the arrangements will damage the UK’s economy. These arrangements have not damaged the German economy which is currently doing very nicely than you very much. Industrial democracy makes practical and economic sense!

  3. needs2cash says:

    Perhaps these CEOs and our pension fund managers (representing shareholders) learned self-control from a stable upbringing. This and other attributes may make them uniquely valuable at work.

    However, as with any employee, as soon as they fail to earn at least triple what they are paid they should be laid off.

    How do we get our pension fund managers to remove leaders who are not worth at least three-times what they cost their employers?

    Beyond demoting self-esteem, how do we make self-control and other attributes less rare so it costs us less to lead our companies?

  4. needs2cash says:

    Sorry, I thought the findings from self-control research were common knowledge.

    Self-control can lead to better lives for everyone, not just directors of large companies. Let’s encourage self-control instead of inflating self-esteem beyond any real achievement.

    Many of us suffer the consequences of our lack of self-control (and that of our parents, their parents and so on) leading to more poor choices as some of us grow up to earn much less than those who exercised self-control.

    Rather it seems that some folks are so full of themselves that think they deserve more than they earn. Then they vote for successful people who reinforce their sense of injustice and the cycle continues.

    Hence the poor get poorer while those who choose to control their urges to invest in their futures may earn more than three times what they are paid.

    Here is one of the many reports (since 2006) on the importance of learning self-control from an early age: http://fsp.bc.edu/financial-success-begins-at-age-3/

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