Excessive CEO pay: What is to be done?

Over the past 10 years, the CCPA has documented annually the average pay of the highest-paid 100 CEOs of companies listed on the Toronto Stock Exchange as well as the relationship between that average and the annual employment earnings of a Canadian earning the average weekly wage for a full year.

We’ve demonstrated that CEO pay, relative to average pay, is:

  • Extraordinarily high. $8.96 million in our most recent analysis for 2014 compared with about $48,000 for the average;
  • Breathtakingly different from the average. Based on the 2014 record, the average compensation of the top 100 CEOs in Canada would have reached the average Canadian’s annual full-time earnings by 18 minutes past noon on January 4, the second paid day of the year;
  • Significantly higher, relative to the average, than 20 or 30 years ago. In 2014, the ratio of CEOs to the average was 184:1; in 1998 it was 85:1; in the 1980s, it was less than 40:1;
  • Remarkably durable over time. CEO pay increases regardless of recession or recovery, commodity price boom or collapse, high dollar or low dollar and regardless of the strength of criticism coming from shareholders and political leaders.

The standard response from CEO pay apologists is that this is the result of the workings of the market and that boards of directors should be relied upon to bring salaries under control.

That doesn’t seem to be working. Even when boards of directors are concerned about pay practices, they seem powerless to do anything about them.

Warren Buffett­­—on various days either the richest or second-richest man in the world—joined a chorus of public criticism about pay practices at Coca-Cola, on whose board he sits. But when it came time to vote on the package, the best he felt he could do was abstain from voting, because he didn’t want to “go to war” with Coke.

“Say on pay” votes were supposed to deliver cautionary messages about pay, but those votes are simply advisory—boards are free to ignore them and usually do.

It’s not hard to see how this happens, given the process through which CEO pay is established. It is controlled, incestuous and circular.

It’s controlled because in practice, CEOs have a lot of influence on who gets nominated to or removed from a board. That’s a powerful incentive on board members not to rock the boat.

It’s incestuous because the typical board includes at least a couple of people who are CEOs of other companies. It’s not hard to see why they might not be able to work up much enthusiasm for an attack on executive compensation.

It’s conflicted because CEO compensation is supported (and often driven) by an executive compensation industry that largely depends on corporate management for their business and has a powerful incentive to keep management happy with them.

And it’s circular because the engine behind CEO compensation runs on comparisons with the compensation of other CEOs.

The idea that boards of directors can take care of this problem has run out of gas. And that means it’s time to package up some skunks to send to the CEO pay garden party.

One line of attack would be to take compensation decisions out of the hands of the board of directors entirely by making shareholder votes on pay mandatory rather than advisory. That would certainly be disruptive. But it also raises questions about the delegated model of corporate governance itself.

A second, less dramatic change, would be to change the accountability of compensation advisors to make them, like auditors, accountable to shareholders rather than to the board. We could also prevent compensation consultants to boards from earning any other income from the corporation or an entity related to the corporation.

While that might change the process a bit, it is not clear that shareholders are any better able to rein in corporate salaries than the boards of directors they technically appoint.

And that means that uncontrolled CEO pay cries out for action by government.

Direct intervention is a possibility, but the track record is not that great.

When the Clinton administration moved to limit the corporate tax deduction for salaries to $1 million, corporate North America responded by establishing $1 million as a salary norm and poured the rest into bonuses, stock grants and stock options, which weren’t affected by the limit.

When the government in the UK decided to put a limit on financial services industry bonuses, the industry responded by abandoning its mantra of pay for performance and hiking base pay.

The key is to make changes in the system that change the incentives that are driving pay up so high.

An easy starting point is to end the special tax treatment for proceeds of stock options in the personal income tax system. Right now, income earned through stock options is taxed at half the rate of ordinary income—a tax break that is worth millions to Canadian executives.

Higher top marginal tax rates on all earners would serve to dampen down the incentive to demand ever-higher levels of compensation, regardless of the form it in which it is provided.

Another area of potential interest is the tax treatment of grants of stock, which have become a significant engine of compensation growth, both in Canada and the United States.

Grants of stock are appealing to executives because the value that accrues after the grant is taxed as a capital gain at half the rate. They’re appealing to corporations because the corporations can simply issue new shares rather than dipping into the company’s cash flow.

A broader reform of capital gains taxation to even the tax playing field for all forms of income would serve to dampen down enthusiasm for stock grants as a form of compensation.

And from the corporate end of the scale, requiring public corporations to pay executives with stock purchased in the market rather than through new issuance would change the way these compensation practices look to investors.

A further measure could lean against the pressure to pay more by introducing a tax penalty into the income tax act so that pay in excess of a given ratio to average pay would be subject to a tax penalty.

These are not easy issues to deal with in an economy that is as internationally exposed as Canada’s, but at the very least we should expect our governments, and those who claim to be responsible corporate leaders, to be leaning in the right direction.

Hugh Mackenzie is a CCPA research associate. Follow him on Twitter @mackhugh. You can find this year’s report on CEO pay at http://www.policyalternatives.ca/ceo2016.

3 comments

  1. It’s disgusting that Warren Buffett wouldn’t take on Coke. He doesn’t need to worry about not being appointed to any more boards. He and people like him are in the best position to shout out their indignation and rouse others. In the end, they all stick together. As I read through the description of how the CEO package works and why, I was struck by what a strong “union” they have, these people who scoff at trade unions.

    SOMETHING NEEDS to be done and quickly. The loopholes need to be closed and limitations imposed upon that unbridled greed. I think we need to keep hammering at that information for awhile and get it into the mainstream media regularly enough and often enough to create the demand for change. And maybe that needs to be accompanied by other strategies, such as information picket lines outside plants and outside corporate head offices at negotiation times and especially every time a plant closes or a group of workers gets laid off (i.e. the total amount of money saved by laying off or leaving on strike x number of workers compared with the total remuneration of the CEO and Board, which, I imagine, would be larger or close enough in comparison to make people think). Sometimes I wonder whether we are heading in the direction of another bloody revolution when the people finally get fed up and some seemingly minor incident causes everything to snap.

  2. If minimum wage had kept pace with CEO increases it would currently be in the range of $100 per hour, not the current $10 or so.

    Change our minimum wage laws. Make minimum wage 1% of average CEO compensation – that’s still a higher ratio than 1:40, so we can start increasing it by .1% every year until we reach 2%. At current CEO rates, that sets minimum wage to about $28/hr. I’m assuming a 60 hour week – I know CEOs work hard and many do work that many hours. At 40 hours it would be $43/hr.

    That gives CEOs a clear choice. Raise all of their employees wages, or take a pay cut. Simple.

    It never ceases to amaze me that when employees ask for $1 an hour the CEO screams that prices will go up!!! Yet the executives’ millions in bonuses (which actually cost more) don’t seem to affect prices at all?

  3. I like the idea of tying minimum wage to CEO salaries. What if we give tax breaks to companies that pay their non-management employees a living wage?

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