I've had just about enough of this:
CEOs Defend Their High Pay on Hill
In short, the government is holding hearings trying to figure out why CEOs are paid so much, even when their companies are failing.
Is this an intriguing topic to anyone in the Conglomerate? Is everyone thinkin', "Yeah! Why are those bastards makin' 600 times what the average worker makes?!"
I hope so, because otherwise writing about it would pointless and boring.
Here ya go:
Imagine you're on the board of a Fortune 500 company and you're looking to hire a new CEO. How do you attract the best candidate for the least amount of money?
Well, there are two variables (that are important, anyway).
1. Competition.
You and your board of directors are competing with other companies of similar caliber for CEOs. A young, talented CEO on the lookout for a job will compare your salary offer with other companies. Of course.
If your competition is paying $500,000 a year with tens of millions in stock options, you must either do the same or get a second-rate candidate. For the most difficult, most abstract, important and immeasurably stressful job in the entire company, you're going to have a hard time hiring a second-rate candidate and explaining to the stockholders that you "just don't want to pay to hire the best." Individual stockholders, for some wacky reason, don't see a problem with paying an extra million from their multi-billion dollar company's wallets to get a better-than-average candidate. Since so many competing companies are all facing the same problem with similar circumstances, CEO salaries will clearly go up fast, likely to the limit of the stockholders' tolerability level.
Clearly, stockholders can tolerate a lot of money going to their CEOs in salary and bonuses. If not, they'd vote 'em down.
2. Reputation.
If you were that top-tier CEO candidate looking for a job, would you rather work for a company that has a history of short-changing CEOs when their risky decisions turn out badly, or would you rather work for a company that pays their CEOs handsomely even when the company is failing?
Yes, it's a hilarious reality we live in, but not only does paying CEOs when they fail encourage them to make bold, sometimes risky, decisions, but it also acts as a signal to other potential CEOs. Chief Executive Officers don't work at the company forever, you know, and incoming candidates will be clearly more attracted to companies that have shown they pay for risk-taking behavior instead of punish it. Who on Earth would prefer to be punished for enacting [what you believe are] ingenious, but risky, business strategies?
That's it. That's why companies pay their CEOs so damn much. No, it's not technically fair, but they're not really, necessarily being overpaid, either. Just because the incentives are in the wrong place and somewhat hard to keep in check, and competition between companies in a great economy (ours) pushes CEO salary offers to the sky doesn't mean that it doesn't motivate individuals to work much, much harder to be more desirable to these companies. A business culture that pays CEOs millions upon millions of dollars certainly inspires people to want to be CEOs, don't ya think? The more CEOs, the more competition between CEOs, and the more and greater talent we have to choose from.
That's progress, dammit, with the bill paid by shareholders of giant companies. I see no problem here...
Friday, March 7, 2008
CEOs Are People Too. Rich People.
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This reminds me of a book I read back in college and picked up again this weekend for a bit o' browsing. It's called Searching for a Corporate Savior: The Irrational Quest for Charismatic CEOs by Rakesh Khurana. 'Tis rather interesting if you're interested in bizarre social aspects of the CEO job market. Anyway, based on what I know of the subject (which is all from reading; I don't actually hang out with any CEOs) I agree with pretty much everything you state here, except that a particular board is trying to figure out how to attract the best candidate for the least amount of money. It appears that boards believe that in order to attract the best candidate, they have to provide a compensation package that is at the very least above the median for similar companies (to prove to shareholders that they really want 'the best', etc.). Also, 'best' is a measure of greatness that makes no sense to anyone.
All in all, the CEOs will continue to get paid big money unless the shareholders decide they've had enough, and if a company is so bad at business that they continue to pay an ineffective CEO exorbitant amounts of money while the business fails, the business probably deserves to fail and the government has no business sticking their hands in any of it. Unless, of course, something largely illegal is going on, and I'm fairly certain that making exorbitant amounts of money in and of itself isn't illegal and therefore doesn't require a hearing, especially one that my tax dollars are paying for. It's a bit annoying that people seem to think that if individuals make exorbitant amounts of money, some illegal activity must be involved.
Abso-freakin'-lutely.
Let it be noted that I should have said, "Imagine you're on a board that believes it can not only find the best candidate, but also that it knows what 'best' is."
And that's one of the reasons why CEO pay has always been so high, I think - Boards' potential hires (CEO candidates) are artificially rare; their pay should pretty accurately correspond with the specificity of the board and its definition of "best."
Your last sentence is my favorite, by the way, Gretchen. I agree wholeheartedly: It is definitely, definitely annoying that a lot of people so often assume the wealthy earn their money fraudulently. The class warfare stuff is somewhat depressing, ya know?
Boards of directors are comprised almost entirely of CEOs. Pay this guy more, you'll end up getting more yourself. Flawed system.
I can only assume you mean the boards of major companies are comprised of future CEOs, or people who will soon be CEOs.
That's not precisely true, but it's an interesting point. I think it seems more flawed than it actually is because we don't hear about shareholders making fusses about board members' salaries very often.
If any member of the board is truly overpaid, though, shareholders will - and do - speak up loudly. The system is pretty well kept in check by vigilant shareholders. The problem, again, is that the shareholders themselves are essentially competing with shareholders from other companies to find good board members/CEOs, and, since they can't collude, prices shoot up as fast and as high as necessary.
That said, it seems the system is only as flawed as shareholders want it to be. The only problems that might remain would arise from too little vigilance or shareholders voting infrequently, or similar problems of laziness...
And thanks, by the way, for the comment, Lewis - It's good to hear a new voice around here
I took Lewis's comment to mean that boards of directors are often composed of CEOs and board members of other companies. If a new CEO gets a compensation package which is large compared to other CEOs, existing CEOs can demand raises in response (or just for the hell of it). And since there is quite a bit of overlap between CEOs and boards of various companies, a lot of these folks know one another well and can work out "I'll scratch your back if you'll scratch mine" sorts of deals. I don't know what level of sleaziness actually goes on, but the opportunities are certainly there.
I don't think I've ever heard of shareholders becoming vocal about a CEO's salary. Seems like the obvious (or at least much easier) solution would be to sell and stop being a shareholder. The folks who invest money in major corporations aren't generally the ones who want all the "corporate evil" to go away.
Class warfare IS pretty depressing. My depression level seems to go up the more I encounter people who suck at math. The other day I saw a commercial about some service where these people help you understand the intricacies of your credit card bill, such as compound interest. And here I thought all of our existences were based upon compound interest!
Good points, Gretchen. I read Lewis's comment on Darrell's Post and understood a little better what he was saying. I left a long comment, as you probably noticed, in response...
Here's a couple more points:
- Yes, opportunities for back scratching certainly must exist, but they can't be sustained. (See my comment at Zazzumplop.)
- Explaining high CEO pay with a collusion theory is ignoring the countless straightforward, and proven, factors that really do explain high CEO pay, only two of which I laid out.
Others include economic growth, innovation, lower capital gains taxes, new technology, new industries & companies, more regulation, greater investment capital and, very importantly, globalization. All these lead to greater demand for [CEO] talent.
I'm convinced that people who think CEOs are overpaid are most commonly the people who don't realize how shockingly fast the U.S. and world economy has grown over the past 15 years...
Using only one of any of those variables I mentioned could easily explain substantially higher CEO pay.
In fact, if I had to guess, technological growth ALONE would account for the majority of the increased demand for CEOs in general, and that increased demand could very easily explain the majority of the rise (and size) of CEO pay.
- Investors do want "corporate evil" to go away IF that evil involves the company becoming uncompetitive (bad [read: low salary] board members/CEOs). Even though it's easy to sell shares, a large number of people really do vote in stockholder meetings, and even that is almost unnecessary: it only usually takes the LARGE shareholders to effect change, who clearly don't want to have illegal activity (back scratching) going on in their company.
So, my point:
The reason why you don't often hear about shareholders complaining about CEO salaries (it happens a lot, actually, but not commonly) is that their CEOs are paid fairly.
'Course, that theory depends on you believing everything else I wrote in this post and the comments...
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On a more hilarious note:
It is officially, truly hilarious that you can sell basic math as a service to people with credit problems...
From Wikipedia, since I'm lazy:
"In practice, it can be quite difficult to remove a director by a resolution in general meeting. In many legal systems the director has a right to receive special notice of any resolution to remove him;[9] the company must often supply a copy of the proposal to the director, who is usually entitled to be heard by the meeting.[10] The director may require the company to circulate any representations that he wishes to make.[11] Furthermore, the director's contract of service will usually entitle him to compensation if he is removed, and may often include a generous "golden parachute" which also acts as a deterrent to removal."
Moreover, shareholders don't care about the CEOs compensation because a) they care about the company's profitability (ostensibly) and no matter how large the package, it will be minuscule in comparison to revenues b) they are ignorant of it, because what they scrutinize is profitability, c) they are top officers themselves, or in their peer group, and considering that the very rich control an absurdly disproportionate amount of the wealth, they are bound to control a correspondingly huge amount of publicly traded stocks, and in turn wield a huge amount of power as shareholders as opposed to the average investor.
I unflinchingly stand by CEOs comprising the majority of non-executive board members universally. Not the simple majority, but definitely a plurality. And to give them less credit than random college kids is a bit puzzling, if not insulting to their superior strategic and managerial skills that you're espousing.
All that being said, I agree with you almost all of the way. Captaining companies with hundreds of billions dollar caps is certainly a job that demands handsome reward, and as we can see in any uber-elite merit based industry (sports, entertainment, etc), salaries tend to increase asymptotically towards the upper bound. But, unfortunately, the system for fixing these salaries is rife with conflicts of interest. Who isn't going to give their boss a raise? What expert businessman isn't going to be able to collude to line his pockets a little more?
The real upshot is that in the big picture, CEO compensation is nigh irrelevant, at least for 95% of companies that anyone cares about. And its certainly nowhere NEAR a problem, much less one that demands recourse/legislative oversight. But, you try to tell that the egregious golden parachutes for failed CEOs isn't a symptom of collusive, quid pro quo, buddy buddy boards...
I disagree. CEOs don't seem like real people. At least the few I have been in contact with.
In my experience, CEO's are generally drunks...so at least they know how to party, right?
I couldn't help but agree with this post, but shouldn't it be noted that the 'incentives' that everyone complains about that CEO's receive are incentives if and only if a goal or target is reached. Thus, don't they deserve the bonus? It was the original goal.
What's wrong with that? Or perhaps what is the difference between that and commission based pay scales? (i.e. Sales)
Perhaps more companies should actually treat all employees with the same contracts. Give them goals, if they don't meet them, they don't get paid - or they loose "X" amount of shares etc. Suppose the business would operate with greater efficiency? Suppose there would be more money in the entire pot for everyone?
Just some thoughts...
Fred:
The incentives that seem to bother people the most, though, are those that are given even after failure, i.e. the Golden Parachute.
Lewis:
Well said.
I don't understand, though, why you posted the Wikipedia quote - Making it harder to fire a CEO, offering Golden Parachutes, etc. is EXACTLY what I've been saying is acceptable practice (to the shareholders), as it's not a "problem that needs to be overcome if you want to fire the CEO" but rather precisely the signaling mechanism that is used to attract the best candidates (#2: Reputation, in the post).
Second, reread my comment about the "greedy college kids" hypothetical experiment at Darrell's post. My point was exactly the opposite of what you inferred.
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So lemme summarize - we disagree about a couple things, still, I believe:
- Extent of shareholder activism
I believe they're largely vigilant, and even if they weren't, they are the ones who bear the cost of overpaid CEOs and their own lack of concern, not the public. You can't even argue Market Tyranny on this one, as it's easy to stop being a shareholder...
- Board Members
CEOs do cross-serve, as I said, but to provide a believable means for collusion, boards would have to be almost entirely CEOs (like 90%+), which they are most definitely not. The disagreement on this one is pretty fruitless, though - I'll grant you that, yes, boards do have a lot of CEOs.
- Golden Parachutes
As I said, boards use compensation packages as an initial enticement. They are ABSOLUTELY not something concerned shareholders would choose to get rid of.
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I think that probably sums it up, right?
You're definitely right about the big picture, Lewis (or Leveer...?) Most companies don't offer such excessive bonuses and pay packages.
Thanks, by the way, for engaging this one - it's been fun, and I definitely am giving the possibility of collusion among board members/CEOs a lot more credence than I was before...
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