It began as an ordinary piece of fan mail, thanking me for writing a book I published a few years ago (“Coming Apart”) and expressing the writer’s shared concern with the loss of seemliness in American life. And then the ordinary suddenly became extraordinary:
I write to give you my personal perspective on why CEOs make so much money as you describe in Coming Apart. I’m not writing about the really obscene hundreds of millions that clearly are the result of clubbiness and abandonment of a sense of seemliness, but about why the average is $12 million today and increasing every year.
I have served and continue to serve as a director of public companies. I was for more than a decade the CEO of a company that makes [an important but unglamorous product]. My compensation started at less than the $1 million per year you cite as the base year in your study and became more than 10 times that amount for my last several years. At least that was what the proxy statement showed, but it was actually a good bit more when it all paid out because the principal component was performance-based compensation that increased in value due to our company’s financial performance and stock price increases, with the result that in some years my compensation exceeded 20 times that amount.
Now while I was CEO our company grew almost ten fold in size and profitability, and I did have opportunities to leave for other lucrative jobs. So you could argue both that it was necessary to pay me that much and that it was a good deal for shareholders. That isn’t the point. Surely I would have worked there or somewhere else just as hard for much less if there were no choice. I loved my job and was thrilled to have it. Why was it that much?
On multiple occasions the SEC [Securities and Exchange Commission] amended its rules to increase the disclosure of compensation data and to force boards to explain their rationale for the amounts. That, combined with the influence of the arbiters of corporate governance, created an inviolable requirement for compensation committees to be advised by consultants. A perfect recipe for increasing compensation.
Let me explain in my own case. I asked only that I be paid at market for my position and performance, and that my compensation be very heavily weighted to performance. Henceforth, I could rely on our consultants to provide essentially perfect market data on comparative compensation, accompanied by recommendations appropriate in light thereof, and there was really no need for much discussion or worry as long as our company was successful.
From the standpoint of my own conscience, you raise the moral question of its “seemliness.” Consider that the vast majority of our hourly employees earned hourly rates between $13 and $30 and the next highest paid executives made a third as much as I did. I could, of course, rely on the market, since it set my compensation, and given our performance I could feel I earned it. And, lastly, I made nothing like the really obscene compensation of some CEOs, of which there are a goodly number of examples, let alone of the athletes, private equity founders and, worst, the entertainers. So I slept okay, although admittedly not always and not without some anguish.
But what troubled me then and now from a policy standpoint was why the average and, worse, the poor performers make almost as much. We can’t disregard the fact that the revenues, earnings and scope of a Fortune 500 company today are integral multiples of those of decades ago, and they continually grow, which would account for some increase. But so much? And so uniformly without much regard for performance?
Thank our regulators and corporate governance efforts to reduce CEO compensation through disclosure and oversight of board decisions. I’ve been a long time observer of public companies and a reader of their proxy statements. In 70’s and even the 80’s the compensation of the CEO seemed to be mostly a matter arrived at between the board and the CEO that resulted from discussions and negotiations and the public disclosure was a matter of a few pages. But there was then nothing like the pressure to conform to best practices backed up by the reliance upon the advice of consultants and the concommitant availability of market data that there is today.
You can guess how it works. No board that isn’t about to fire its CEO really wants to admit that their CEO is a less-than-average performer by paying him or her less than average. But if the lowest-paid CEO’s are always being brought up to the average, then the average increases every year. Then for the high performers to be paid well, their compensation needs to be increased, but that raises the average… and so on every year. And the compensation committee and the board always have this market data before them, the recommendations of their consultants and “best practices” to adhere to. These influences are not easily resisted. You see the result.
Like many regulatory unintended consequences, it’s hard for me to see an easy way back. But it’s more than an academic question if you are a director serving on a compensation committee.
All these things may be obvious to you, but the influence of disclosure and corporate governance didn’t make the book, so I hope you don’t mind my writing this long email.
No, these things didn’t make the book and weren’t obvious to me—and made perfect sense as soon as I read them. The same dynamic has been operating in every field, including sports and entertainment, where compensation is made public. Public disclosure of CEO pay and a requirement to provide a rationale for that compensation is indeed “a perfect recipe for increasing compensation.” Unintended outcomes strike again. And yet there’s not the slightest chance that CEO compensation can be made a private matter.
I have altered biographical details and numbers to protect my correspondent’s anonymity.
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