The Controversy of Executive Compensation

Executive pay continues to be a topic of conversation. A July 2017 Economy Policy Institute (EPI) survey reported that CEOs at the largest firms in America made an average of $15.6 million in compensation during 2016, or “271 times more than the annual average pay of the typical worker.” CEO pay continues to be exceedingly high and growing quicker than the pay of a typical worker…meaning less of an organization’s effort is being shared with the ordinary workers. What does the increasing appearance of economic inequality mean for organizations? Astronology® takes a brief look into the controversy surrounding executive pay.

An online Fortune article points out that in 1978, CEOs earned just 30 times the amount the average worker made.  CEO pay was set on scale with everyone else in the organization.  This was considered “internal equity.”  By the 1980s, “external equity” became the influence for CEO pay. This external equity meant that CEOs were paid on a scale with other CEOs. Considering that not all organizations are on the same market, this pay scale becomes problematic very quickly.

Fast forward to 2013, where a survey by the Hay Group found that 37% of CEO pay was in cash, while the percentage paid in stock and stock options was 54%. It also was discovered that a number of companies added stock options to CEO packages after the 2008 financial crisis. The thought behind this move was that since stocks were low, “giving execs equity was likely to make them richer in the longer term.” Considering that CEO pay typically is not tied as much to performance but more so to the size of the company, we can see how easily the combination of these factors may be why CEO pay has gotten so high.

Currently, there has been robust debate on whether implementing some form of pay for performance in executive pay could help with at least justifying executive pay levels. One particular aspect is the Securities and Exchange Commission’s (SEC) proposed mandated “compensation actually paid” (CAP). This mandate would require greater disclosure of executive pay, including more transparency to the company. However, some feel like this mandate will give only a “hazy” link to pay for performance.

The February 2017 Harvard Business Review article “Why We Need to Stop Obsessing over CEO Pay Ratios” gives an additional perspective to consider. Pay ratio is not comparable across different industries. For instance, investment banking will have a different pay ratio than the supermarket industry. Also, the effect of a CEO’s actions carries a bit more weight than most employees’ actions. The article explains that if the CEO improves corporate culture, that change can be rolled out organization-wide, thus having a larger effect in a larger firm. “One percent is $20 million in a $2 billion firm, but $200 million in a $20 billion firm. In contrast, most employees’ actions are less scalable. An engineer who has the capacity to service 10 machines creates, say, $50,000 of value regardless of whether the firm has 100 or 1,000 machines. In short, CEOs and employees compete in very different markets, one that scales with firm size and one that scales less.”

The author, Alex Edmans, also highlights some possible dangers to disclosing pay ratios.  “A CEO wishing to improve the ratio may outsource low-paid jobs, hire more part-time than full-time workers, or invest in automation rather than labor.” The article also notes that a CEO could raise workers’ salaries, but cut other benefits in order to compensate for the raises. More importantly, an organization provides more than just salary. The article reminds us that “… after salary reaches a (relatively low) level, workers value nonpecuniary factors more highly, such as on-the-job training, flexible working conditions, and opportunities for advancement…a snapshot measure of a worker’s current pay is a poor substitute for their career pay within the firm.” Clearly, the search is still on to find a way to understand and regulate executive pay.

Has your organization been faced with dealing with repercussions from high executive pay? Are you searching to find a way to link executive pay to performance? Share with us what your attempts have been, or if your organization has found some sort of solution. We look forward to hearing from you!

Concerns Surrounding Non-Profit Executive Compensation

Executive compensation is a natural concern of many in the non-profit sector. A 2011 report from the Chronicle of Philanthropy highlighted that the median pay of executives in 132 surveyed charities and foundations increased 3.8% over the prior year. Three years later, Charity Navigator reported that the typical charity CEO’s compensation had increased just 2.6% over the prior year. The Charity Navigator report surmises that raises have been modest since the recession. However, the report also acknowledges that despite this overall trend, there are some non-profit leaders that earn “excessive” wages of more than $1 million. Factors involved in increasing executive pay levels include the following:

• Greater competition among non-profits to attract top talent.
• Difficultly in retaining staff, and a lack of internal candidates for some critical positions. 
• Nonprofits’ desires to lure corporate executives, as the finances of non-profits have become subject to greater government scrutiny.

In addition to higher pay, some non-profits compensate for the lack of stock options and other corporate extras in the sector by allowing flexible work time. Others even pay bonuses, once rare at non-profits.

In recent years, the Internal Revenue Service has begun examining executive compensation at non-profits with an eye toward uncovering potential abuse.

Understanding the need to recruit and retain quality staff has added to the concern over how to structure compensation policies & programs to be fair and competitive, without crossing the fiscally abusive line. Incentive plans and other innovative compensation & human resources practices are becoming critical elements in the organizational strategy of many non-profit organizations.

A previous Astronology® highlighted details to consider when developing a compensation plan for non-profit executives:

1. Rationale for developing plans

Surveyed non-profits indicated multiple reasons for creating new programs. More than half of the participants indicated their program objectives included the following:

• improve morale and/or employee relations;
• improve employee retention;
• link pay to performance / improve employee performance; and
• become more competitive in total compensation (i.e., cash compensation, recognition, and benefits).

2. Types of plans and performance measures

The most popular types of cash compensation and recognition programs implemented by the participants were bonuses, incentives, and non-cash recognition programs.

Productivity, financial, and quality measures were the performance criteria most often used as the basis for the respondents’ compensation awards under a variety of programs.

3. Budget and award amounts

The average variable compensation award payouts typically ranged from 20% - 30% of salary. In some organizations, the targeted payouts ranged from 10% - 20% of the salary range midpoint.

Interestingly, in Astron’s confidential database of non-profit organizations, target incentives levels are as follows:

• Staff / Non-Management: 5% - 10%
• Supervisory Staff: 5% - 15%
• Middle Management: 10% - 20%
• Senior Management: 15% - 30%
• Executive Management: 20% - 40%
• CEO: 30% - 50%

Beyond these details, following are guidelines to consider when implementing a new compensation plan:

1. Nonprofit organizations should first conduct an assessment to determine the appropriateness of innovative compensation to their cultures and organizations. This assessment should focus on the following:

• the objectives to be achieved through implementing an innovative compensation program,
• what motivates staff,
• the opinions and views of members, constituents, & volunteer leaders, and
• the financial resources available.

2. Any innovative compensation program should be viewed as part of a total approach to compensation and carefully integrated into the design of that program. A market analysis of current compensation levels related to the jobs in the organization should be conducted in the early stages of or prior to developing a program.

3. The innovative compensation program, especially management incentive programs that provide significant opportunities for financial rewards, should be clearly tied to performance. The program should demonstrate the achievement of overall organization objectives in finance, program, development, client service, membership, public affairs, government relations, community relations, and any other areas deemed important to the organization.

4. Organizations should consider pilot testing innovative compensation programs on a selected group of staff before introducing the programs to all staff. More than one innovative compensation program should be considered, especially in larger organizations. Many non-profit organizations have implemented at least two types of programs.

5. Innovative compensation programs should be well communicated to staff and used as a vehicle to announce the success of employees, teams, and the organization.

Is non-profit executive pay a concern for your organization? Is there some form of transparency in place to alleviate those concerns? Are you considering changing or have you recently changed your compensation plan? Please share your thoughts with Astronology®. We may feature your response in a future article!

What I’m Hearing…Executive Compensation

I was watching the ABC World News last night, and of course the upcoming Presidential election was one of the main stories. The candidates’ stands on Executive Compensation were a primary focus for the evening. It appears that the American public has had enough of golden parachute and other severance provisions that in many cases reward failure rather than success. The concept of “Say on Pay,” or shareholders’ opportunities to vote on executives’ pay, was also mentioned.

Presidential election notwithstanding, it is time for Americans to look more closely at executive compensation, and to make sure that pay is truly for performance – positive performance. While the average American may think they can’t control what happens at a Fortune 500 company, it’s time to think again. The power of consumers is great. Vote with your spending and dollars, and see how quickly changes and accountability come to organizations that previously seemed untouchable.