CEO compensation Essay Example for Free

CEO compensation Essay Recently CEO compensation packages have high rocketed making many people question the validity of their compensation. Many questions have been risen to find out if CEO compensation if excessive. Through this paper we will discuss why we feel CEOs in America are grossly overpaid. We will start off by talking about the ethics on the matter and then the pay-performance connection within organizations. We will also touch on the real wages of employees and how America compares to international companies. We will finish our argument with some recommendations that we feel will help make organizations as a whole better. High Pay, Low Performance Financial Crisis It is shown in several studies that high CEO pay is linked to low company performance. In the article, â€Å"Chief Executive Compensation: An Empirical Study of Fat Cat CEOs,† by Kuo and Wang they describe the connection between CEO compensation and the financial crisis in 2008. As stated in the article, â€Å"the incentives built into the compensation plans of many financial firms are one of the fundamental causes of the financial crisis and surprisingly receives little public attention†. They go on to say, â€Å"Top executives of large banks or investment banks have encouraged the excessive risk-taking by top managers, leading to the financial crisis. † Kuo and Wang also explain how the incentives of executives are link to the short-term performance of securities that are traded. This sort of behavior is not in the stakeholders’ best interest. The CEOs in this case are clearly not interested in what is best for the company, but merely looking out for themselves. Instead of focusing on long-term competitive advantages and achievements, the CEOs are looking to make a quick buck for themselves. Another resource we used was that of Lucian Bebchuk and Jesse Fried. They have a very similar take on the topic, by also stating that trading securities was the beginning to the financial breakdown in American in the late 2000s. â€Å"During the extended bull market of the 1990s, executives’ compensation at public companiescompanies whose shares are traded on stock exchangesoared to unexpected levels† (Bebchuk and Fried, 2004, pg. 1). As you can see there is a strong connection between firms that trade securities and the breakdown of the market. Growing Trends The overcompensation of CEOs in America is nothing new, according to our research this trend dates back to the 1970s. â€Å"The review on CEO compensation by Frydman and Jenter (2010) shows that there was a dramatic increase in the compensation levels from the mid-1970s to the early 2000s in the U. S. Especially in the 1990s, the annual growth rates were more than 10% by the end of the decade† After researching the topic, we were surprised to find out just how much CEO pay has increased in a very little time-span, â€Å"Between 1992 and 2000, the average real pay of chief executive officers of SP 500 firms more than quadrupled, climbing from $3. million to $14. 7 million† (Bebchuk and Fried, 2004, pg. 1).   Star Athletes It has been said that CEOs are comparable to star athletes; therefore, they deserve the substantial increase in their pay. However, the majority of the CEOs that are contributing to this big picture problem are not working for their â€Å"team†. If CEOs were taking these risky investments to better the company, that is one thing, however, the link directly pointing to incentives tells a different story. Defenders of CEO compensation are also forgetting that along with the large compensation packages there is a great deal of retirement funds, 401ks, and stock retained within the company. The large payment of athletes could be contributed to the fact that they are not getting post-retirement benefits, like those of large corporation CEOs (Bebchuk, Fried, 2004 pg. 20-21). Employee’s Living Wages One of the biggest concerns with the increase of CEO compensation is the steadily decreasing real wages of employees. Compensation of CEOs far outweighs that of employee pay. In 1991, the average large-company CEO received approximately 140 times the pay of an average worker; in 2003, the ration was about 500:1† (Bebchuk and Fried, 2004, pg. 1). CEO Compensation and Virtue Ethics Another way to look at CEO compensation is to see if it agrees with virtue ethics. There is Aristotelian virtue oriented approach to ethics and was applied to business by Robert Solomon. In this, Solomon a rgues that business is primarily a practice, in which a community of individuals engages in a cooperative endeavor to deliver goods and services for the good of society. In this practice certain virtues such as integrity, moral courage, and justice are essential to the practice of business. Also, in virtue ethics justice implies that executive pay should be more modest across the board, regardless of company profitability. (Kolb, 2006, pg. 101-115) CEO compensation is not â€Å"fair† top 25 CEOs had an average annual pay of $32. 7 million, which is more than 900 times the annual salary of the typical US worker. In an era which many companies are cutting costs by laying off employees, such compensation seems to be unjust. Solomon argues that workers may not be loyal to someone they perceive as being unfair. At some level, trust and loyalty are needed for a company to prosper. Without these, this company will be left with a group of resentful, unhappy employees. Even if the CEO’s employees are â€Å"satisfied† with their minimum wage salary this satisfaction does not make the CEO’s actions any less just since he or she could afford to pay their employees more. At this point the CEO is taking advantage of his or her workers and being selfish. Companies give bonuses to CEOs even as employees and managers are being laid off. An example is one CEO and chairman of the board made $8. 9 million in 2003, which was the same year his company lost $463 million and he slashed the workforce by 20 percent, or 6,000 workers. Doing things like this can poison a corporation and completely divide a company. Instead of CEO’s comparing compensation packages to to other employees of their companies, CEO’s are comparing their compensation packages to the other CEO’s, which is not a standard for just compensation, since the issue of inequality often arises within a particular corporation. The success of a company is a team effort and not just all done by the CEO. Without the lower level employees a company will not be able to be successful. CEOs do have greater responsibility, but corporations are too large and unwieldy to be governed by just one individual. By spreading the CEO’s compensation package it could allow for employee raises and benefits which could help motivate employees and make them happier. Executives can be paid well without being paid excessively. A CEO is not some isolated individual seeking his or her own ends independently of other members of the corporate community; he or she is part of a whole. Therefore CEOs should not be paid like they are an individual who does everything on their own. A CEO’s role is defined by the corporation and the corporation has an overall purpose to benefit society. CEOs taking less in their compensation packages and spreading them throughout employees can actually help society. Our economy is down and needs to be improved. In order to improve it we need people to start spending money. However, in order to spend more money people need to make more money. If CEOs distributed some of their compensation packages to their fellow employees they could have more money to spend and help increase the level of our economy. International Compensation When comparing CEO compensation in the United States to other major countries the statistics are quite glaring. A study done by consulting firm Towers Perrin estimated pay as of April 1, 1999, in industrial companies with approximately $500 million in sales. CEOs in the United States earn over $1,350,000 compared to Japanese, $485,000, German $530,000, French, $570,000, and UK, $665,000 (Balsam, 2002, pg 277). Rules for governing executive compensation vary from across the globe. In companies such as Germany and Finland it is illegal to to use stock option to compensate executives until 1998, unlike the United States, which stock options are a major part of their compensation package (Balsam, 2002, pg 277). It was noted that in 1997, Disney’s Michael Eisner single handedly out earned the aggregate paychecks of the top 500 CEO’s in the UK. CEOs in the United States earn 45 percent higher cash compensation and 190 percent higher total compensation. Also median base salary is 30 percent higher in the United States while United States median bonuses are more than triple of that in the UK as well (Balsam, 2002, pg. 288). When comparing corporations in Canada with the United States there is a marked difference between the two countries in both the level and structure of CEO compensation. During the 1993-1995 period Canadian CEOs earn lower pay, with the median CEO earning $560,000 in US dollars compared to $2. 5 million for corporations in the SP 500. Salary made up a higher proportion and bonuses and options a lower proportion of the compensation package for Canadian corporations. Overall, the relationship of pay to performance is weaker in Canada than in the United States. Despite the drastic differences in CEO compensation between the United States and other countries there are several reasons for these differences which stem from being cultural, some regulatory, and others due to taxation. In many countries it is taboo to earn the amount of money that American executives make. Some countries have their own laws and regulations that make stock options less valuable and limit the overall compensation of CEOs. Lastly, restraints and taxes can affect compensation. An example is that few Japanese and German corporations were able to issue stock options. Japan is limited to owning only 10 percent of their stock, which is a large amount but much less than companies in the United States (Balsam, 2002, pg 280). Overall, the United States drastically pays CEOs higher compensation than the rest of the world, on average. It is easy to see how wide the gap actually is when seeing the statistics. Several reasons contribute to the difference in CEO compensation. However, with the success of international companies and paying CEOs less compensation, we in the United States can infer that CEO compensation in the United States is too high. Recommendations After taking a closer look into the argument and debate of CEO compensation we believe there are several ways to lessen the gap between CEOs and employees. One idea we had was to link bonuses to the company stock prices. This way, CEO pay will be more based on yearly performance of their company. Another suggestion we had was to offer more modest compensation packages, and to spread the wealth CEOs no longer make throughout employees to add to their salaries, benefits, and improving employee working conditions. Out last recommendation was for board of directors to make more restrictions on CEO pay, such as limiting stock options. Conclusion After all of our research we strongly believe that salaries of CEOs are incredibly excessive. CEOs whose performance did not match up, to the steadily decreasing real wages of employees