While there is a need for greater transparency around executive pay, attempts to regulate the remuneration of corporate leaders will do more harm to the economy than good.It has become accepted as unquestioned fact that CEOs and their executive teams the world over enjoy exorbitant, unregulated remuneration at the expense of lower paid workers.
However, reality suggests this is not a pervasive phenomenon and more work must be done to determine the best course of action.
Defining excessive pay
The first imperative is the need to develop a reasonable language for describing the problem as well as agreed upon metrics to measure its extent.What is meant by excessive? Who exactly is being paid excessively? All executives or a minority who take advantage of their position?
One concept is that if, over time, the difference between executive income in an organisation and that of its lowest paid worker increases, excess has occurred.
A popular formula for determining this state is the Palma Ratio, which compares the income of the top ten percent highest paid to the bottom 40 percent lowest paid employees.
With globalisation, the complexity of doing business is increasing exponentially and the sizes of companies are growing, placing enormous pressure on CEOs and their executive teams. It is only right that they be fairly compensated for their extended responsibilities.
In contrast, performance requirements for lowest level workers remain fairly constant while the percentage increase in their pay has been higher than the rest of the staff in a company.Is it not then rational to assume that the difference in earnings between these two levels of responsibility may consequently widen?
This is not to deny that there is opportunity for excess and that there are those who will make good use of it. However, sufficient mechanisms already exist to deter this behaviour.
The remuneration committee
Locally, JSE-listed companies are required to appoint a remuneration committee, comprising only non-executive directors and chaired by an independent non-executive director, that regulates executive pay through a remuneration policy and implementation report.
Further, shareholders may cast a non-binding vote either for or against the remuneration policy and implementation report at an organisation’s annual general meeting.
While this vote cannot force a company’s management to abandon unsupported executive rewards, we’ve observed that remuneration committees take this indicator seriously and factor the result into their decision making.
In addition, shareholders do have a decisive vote on who is appointed as non-executives and what their fees should be. This creates sufficient tension to balance the concerns of the executive team, the remuneration committee and the shareholders themselves.
It has been suggested that shareholders should have a binding vote on the remuneration of executives but this is not recommended.
Such leverage could allow more powerful shareholders to effectively capture control of the company to their own ends. Their alternative goals need not be insidious to distract the executive team from its obligations to the company and related stakeholders.
In a free market, executives must maintain autonomy to make critical decisions that can propel their organisations ahead of competitors. If the shareholders can change the remuneration policy and / or implementation through their votes, then who becomes accountable for the performance of the company?
There is no doubt, though, that transparency on executive remuneration would go a long way to allaying public concerns.Proposed changes to the Companies Act could eventually require a declaration by companies on the income of their executives against the income of their lowest paid workers. Unfortunately, this continues to focus on the size of the pay gap which, as already noted, could result from other factors.
The best approach is to link pay back to performance, and remuneration reporting should follow this trend.
If the public knows how many jobs were created, what market share was won, or which performance milestones were achieved by a management team, their reward packages become easier to justify.
Losing executive talent
Most South African executives are in fact paid fairly, in proportion to their achievement of agreed on performance milestones.
If lawmakers were to become overly prescriptive of executive pay, they may face losing the very talent that can help reboot the economy.Internationally, South Africans are known as hard, dedicated workers and business leaders are regularly targeted by international executive head-hunters.
Faced with restricted earning potential locally, they may easily be tempted to seek their rewards elsewhere.
The real pay gap is between the employed and unemployed. It might pay the government to focus more on job creation than limiting the job creators. Because that is what a good executive does. They grow businesses, hire employees, engage suppliers and create an economic effect that ripples all the way down to small businesses and the unemployed.