US boards ignore long term and reward CEOs for status quo
When we made our annual foray into the US executive pay goldmine in April, chief executives' earnings for 2012 showed what appeared to be muted growth. The $US14 million in median overall compensation received by the top 100 American CEOs was just a 2.8 per cent increase over 2011.
Well, what a difference a few months and a larger pool of CEOs make. According to an updated analysis, the top 200 chief executives at public companies with at least $1 billion in revenue got a big rise last year. The median 2012 pay package came in at $US15.1 million - up 16 per cent from 2011.
So much for the idea that shareholders were finally getting through to corporate boards on the topic of reining-in pay.
As usual, cash pay pales for many next to the value of the shares and option grants they received. Median cash compensation was $US5.3 million last year, while share and option grants came in at $US9 million.
Share grants are clearly where the action is, and their value can really add up. The median value of shareholdings of these top CEOs is calculated at $US51 million.
The trouble is, share grants, which are supposed to create an incentive to improve performance, are also where pay excesses and disconnects arise, compensation consultants say. How these boards measure corporate performance can fail to align long-term incentives with shareholders' interests.
Boards typically assess an enterprise's performance not only internally against what occurred in previous years but also externally, against a peer group of companies.
Far too often, though, measures to evaluate performance are focused on short-term results and miss a crucial element that determines long-term success: the ability to innovate.
"We need compensation that is aligned to long-term value drivers, like innovation," said Mark Van Clieaf of MVC Associates International. "Yet at probably 70 to 80 per cent of companies, there are no metrics for measuring the impact of new products or services that were launched."
Companies that don't weigh innovation in deciding pay are essentially rewarding the status quo and failing to reward moves to keep a company strong in the long term, with investment in research.
James Reda, an independent compensation consultant, suggests that boards allocate awards at or near the end of the year so that total shareholder returns can be assessed more easily.
"Why just give stock away to senior executives and hope for future performance?" he said. "It's better to adjust the pay based on performance the CEOs are actually delivering to shareholders. This is also a good way to put the brakes on CEO pay."
"How much of the pay is driven by right time, right place, and how much is driven by truly sustained, multiyear performance that's still in place X years out?" says pay consultant Brian Foley.
"What I would like to see is not just performance criteria that are robust and meaningful, but also awards that are at risk for a meaningful period of time."