In Figures: The value of the CEO

Executive pay is a subject that can be counted on to generate a high level of public scrutiny - and the CEO labour market could certainly do with a dose of transparency.

by Emilie Filou
Last Updated: 23 Jul 2013

1. THE INTERNATIONAL LEAGUE

When comparing executive pay around the world, the picture that emerges is one of the industrialised countries versus the developing world. At $2 million a year, American CEOs top the international league, while their Chinese counterparts earn 10 times less at $221,000. Most developed countries dominate the ranking around the $1 million mark, with the notable exception of Japan, where CEOs earn a more modest $550,000. Growth rates of base pay show double digits in India, and high rates are also predicted for China, Brazil and South Korea. Increased international competition and the presence of multinational companies (MNCs) have pushed up local salaries.

Growth rates of CEO compensation in developed economies tend to hover at about 3%, just above inflation.

2. PERFORMANCE AND INCENTIVES

The main trend in CEO compensation worldwide has been a shift towards more variable pay. Performance-related pay, be it in annual cash bonus or stock options, now makes up a substantial part of most compensation packages, and long-term incentives (three to five years) are gaining popularity.

In most countries, the share of variable pay in compensation packages has more than doubled since 1998. Base pay still provides for the bulk of most packages, but its prominence is falling; variable pay now matches or sometimes even exceeds base pay in several countries, with the US having the most accentuated ratio (27:62).

3. PAYING IN CASH AND KIND

Benefits and perks account for a large part of the package in some countries: in India, free housing and company cars take on a significant value in cities such as Mumbai and Delhi where land pressure is intense. Similarly, Sweden's average CEO compensation includes a generous benefit package in line with Scandinavia's high levels of social benefits. Latin American countries also tend to allocate a large amount of pay to such benefits, as they tend to be more tax-friendly than salaries or stock options.

4. CEO PAY OUTSTRIPS OTHER INDICATORS

In the US, as in a few other countries such as the UK, CEO pay has increased at a much faster rate than almost every other corporate indicator. Most of it is down to a substantial part of packages being made up of shares at a time when the stock market was doing very well. Had the minimum wage risen as fast as CEO pay since 1990, it would now be $23.03 an hour instead of its current $5.15. At its peak in 2000, the ratio of average CEO to worker pay reached 525:1. It was down to 431:1 in 2004 after the stock market crash of the early years of the century.

Research by the University of Manchester suggests, however, that CEOs may not have had much to do with the extraordinary market performances of that period. Instead, investors' irrational exuberance, a flood of individual savings and low interest rates seem to account for most of the phenomenon.

As Karel Williams, professor of accounting and political economy at the University of Manchester, says: "Evidence suggests that CEO performance is nothing exceptional. What's exceptional is how much money they have managed to earn themselves." In other words, they rode the tide of good fortune.

The same 'association with success' can be seen when comparing pay across various sectors. CEO compensation in the energy sector has increased a lot faster than in banking or telecoms, suggesting a strong correlation between oil prices and CEO pay (large bonus and high share returns).

REGULATION, TRANSPARENCY, DISCLOSURE AND INCENTIVES

Few business topics have generated such high levels of public scrutiny as CEO pay. Sky-high pay cheques have shocked many, and the media have revelled in multiple zero revelations and debates over whether CEOs are worth their pay. The fact is, CEO value responds to market laws of supply and demand, says Mark Reid, head of executive compensation at Towers Perrin.

Good CEOs who can generate and add value to a business are worth their weight in gold, quite literally. But just like any other market, the CEO labour market is not perfect.

The question of regulation is a delicate one. First, for most individuals, pay is a private matter. Second, it is also a matter of nationality: laws regulating labour issues and corporate behaviour differ from country to country. Cultural differences also affect perceptions: in the US, where the notions of entrepreneurship and meritocracy are ingrained in society, big money for the boss is part of the deal. In the Netherlands, though, it's the top team, rather than the top man, that is believed to make a difference. Therefore, international comparisons should be put into context.

DISCLOSED REMUNERATION

The question of openess about pay packages is a case in point. There has been a general push for increased transparency worldwide: in January, the US Securities and Exchange Commission voted to introduce a new set of rules requiring companies to be more transparent about the cost of their CEOs. Late in 2004, the EU also adopted a recommendation to include disclosure in best practice. But while transparency is meant to promote comparability and discourage excesses, it has had the effect of pushing salaries up by promoting access to information and competition. Besides, transparency affects only publicly traded companies. Investment bankers, entrepreneurs and senior execs of private companies also take substantial amounts back home, but the figures are not in the public domain.

The competition for skilled management is not about to ease off, as the shortage of talent in India and China has shown. The worldwide presence of MNCs has also promoted the western style of compensation packages - incentive-based. Pay for performance and equity ownership is now a staple of CEO pay, albeit in varying proportions. China is the latest country to join the equity band wagon with its shareholding restructuring programme introduced in January this year. The idea is to diversify the shareholder basis of large state-owned companies and to offer an equity stake of up to 10% to the management team. Until recently, packages were limited to base pay, which offered poor incentives for retention in the face of increased competition from MNCs and private companies.

BENEFITS PACKAGE

Incentives have generally been proved to work, although the correlation between performance and pay has been disputed. Stock options, in particular, have been criticised for promoting short termism and benefiting people who do not necessarily deserve it. David Larcker, professor of accounting at Stanford Graduate School of Business, argues that the problem is not the stock option in itself, but the way it has been used. Packages should be redesigned to include more long-term commitment rather than scrapped altogether.

In fact, Williams thinks that the next few years will see CEOs focusing on how to transform their incomes into wealth, mainly through ownership of stock, equity and hedge funds. Differences in absolute terms will continue to vary significantly, but one thing is certain: the media have not finished picking up on the issue of CEO pay yet.

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