So why has executive pay reached a median level of $1.2 million, as reported in the Star Tribune’s July 19 Business section, when the pay of others hardly advances? Having read hundreds of company proxy statements as part of my work over the years — documents that ask for the shareholder vote — let me suggest that the reason is because no one takes personal responsibility for executive pay.
Most companies hire outside consultants to do a survey of pay at comparable companies and use the results to justify their own executive-pay policies. And believe me, these consultants are thorough. They are not likely to give a one-page summary, since they expect to get paid for the extensive work they perform — and top executive pay may include a salary, cash incentives, equity awards, performance-based restricted stock units, time-based restricted stock units, stock options and separation pay, should that become necessary. CEOS and their boards of directors, who normally like summary statements and clearly defined objectives, are not likely to complain about this complexity. After all, it’s the director’s pay that’s also being justified in the process.
Take eBay as a typical example. In its 2015 proxy statement, numbering 100 pages, approximately half is dedicated to compensation. There are the proposals themselves asking for approval (two pages), followed by “discussion and analysis” (22 pages), compensation tables and a committee report (21 pages), and compensation of directors (two pages).
EBay and virtually every other company in America present all of this information to demonstrate that they are competitive and that they have gone to great effort to align executive incentives with the interests of shareholders. In other words, like schoolchildren, executives must be shown exactly what is expected from their work. One might wonder if these overly defined incentives might lead to misdirection or distraction, since a set of simple statements might better explain the matter. Increase profits, short- and long-term. Keep it legal. Treat employees, customers and the public as if they were your spouse or children. For this you get a salary, a bonus and some stock options. Thank you for your work.
But, no. The board of directors, which should govern on this subject, is seduced by the same consulting process, and the consultant who picks nice high comparisons is likely to get hired again next year. My informal review of smaller to midsize local companies shows director compensation ranging from $40,000 to $150,000 for approximately the same work at different companies — work that involves, at most, 12 meetings a year. The pay differential reflects the consultant’s use of different comparables. This reward system means that someone serving on three boards, for instance, can make a nice living by simply hiring consultants and giving advice, all part-time work. Would such directors be likely to turn down a consultant’s recommendations on executive pay? No. And who can denounce them as self-serving when they have statistical evidence from a supposedly neutral third party to support their position?
After the board gives its recommendation, final control of company direction and its pay policies is in the hands of shareholders, who have the right to vote for or against a company’s board of directors. This seems like control, but it is illusory unless an outright companywide proxy battle is undertaken. Absent a proxy battle, the vote is more like a management endorsement, as shareholders are given the opportunity to vote yes or no for individuals on a preselected slate. Furthermore, control of many companies is effectively held by institutions with large shareholder positions, and they are generally indifferent to company oversight if the stock is doing well. They defer that responsibility to the company’s board of directors. If, on the other hand, they are displeased with company performance, they sell the stock. Seldom are they interested in company reforms.
But on the specific matter of executive pay, U.S. Securities and Exchange Commission regulations require companies to ask shareholders for a vote approving or disapproving executive pay. This gives shareholders the right to express themselves on that specific issue, but it is advisory only. At many shareholder meetings, the vote is announced with a dismissive summary comment: approved by a majority. Of course, neither the board nor management is eager to discuss the matter in detail.
In another article the same day that the executive pay story was presented, Star Tribune columnist Lori Sturdevant discussed legislative pay that’s stuck at $31,000 and the difficulty in making it more competitive. Perhaps business executives should be in charge of legislative pay; they would then hire consultants. Alternately, legislators might be put in charge of executive pay; they would keep it under tight public control. But this is probably not a good idea, as new distortions surely would result.
So thank you, Star Tribune, for giving the compensation information major coverage. It is important to individual companies, and it is important to society as a whole. Primary responsibility for executive pay should lie with a company’s board of directors. Let’s hope they exercise some independent judgment. Next, it belongs to shareholders, but they are unlikely to be effective unless they form a dissenting group.
Donald M. Hall, of Minneapolis, is the author of the “Generation of Wealth, the rise of Control Data and how it inspired an era of innovation and investment in the Upper Midwest.”