What's Wrong with Executive Compensation

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What's Wrong with Executive Compensation?

A roundtable moderated by Charles Elson

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When it comes to rewarding managers, does top dollar really buy top performance? Experts weigh in on one of the most important issues in business today.

cannot overpay a good CEO and you can't underpay a bad one. The bargain CEO is one who is unbelievably well compensated because he's creating wealth for the shareholders. If his compensation is not tied to the shareholders' returns, everyone's playing a fool's game." Today, the dot-bomb, the telecom bust, and the corporate accounting scandals seem to have done for that logic what "Chainsaw Al" did for Sunbeam. The value that many superpaid CEO superstars supposedly created has largely disappeared, and the likelihood of it being recovered anytime soon seems remote. Indeed, the very profits that many of the companies reported appear to have been the product more of auditors' imaginations than of any CEO's strategy for seizing or creating value. On top of all that, a good number of senior executives treated their companies like ATMs, awarding themselves millions of dollars in company loans and corporate perks. It's hard to dispute the idea that executives were somehow corrupted by the dazzling sums of money dangled in front of them. So what's wrong with executive compensation, and what can we do about it? To explore these questions, HBR and the University of Delaware's Center for Corporate Covernance convened a roundtable of compensation experts last October on the university's campus in Newark, Delaware. The 12 panelists represented an extraordinary diversity of viewpoints, from CEOs to investors, from the professionals who advise them to a chief justice who rules on their disputes. The discussion was moderated by Charles M. Elson, the Edgar S.Woolard, Jr., Professor of Corporate Governance at the university. Elson also serves as an independent director at a numberof major corporations and heads the Center for Corporate Covernance. -The Editors


THE HEiGHTOF HIS SUCCESS, Al Dunlap described in his book Mean Business a philosophy of executive compensation that came to hold sway in the late 1990s: "The best bargain is an expensive CEO.... You



what's Wrong with Executive Compensation?

Charles Elson: Let's begin by asking, Is there a problem today with executive compensation, and, if 50, how has it come about? Eric Roiter, perhaps you could start by speaking forthe shareholdersthe peopie doing the paying. Eric Roiter: Anyone discussing this topic ought to approach it with humility. It's daunting and complex. I think we can all agree that we ought to pay for performance. We ought to try to align senior executives' interests with the company's longer-term interests by, for example, requiring the ownership of real stock with extended holding periods. And we ought to introduce some downside risk into compensation packages. But while we all can agree on such steps in theory, it's the execution that bedevils us. There are three related avenues we could try. One approach is to attempt to devise a substantive test for what constitutes reasonable executive compensation. The test might be based on benchmarks for peer groups and adjusted to temper the spread between the pay of the most senior officers and that ofthe rank and file. Creating such a test would be a very difficult challenge, partly because it would depend on finding better standards than we have now for tying compensation to company performance. An alternative approach, which de-emphasizes a "substantive" reasonableness test, would focus on the approval process for executive compensation within a corporation. That's where we are headed with the recent New York Stock Exchange and Nasdaq proposals, which will require that compensation committees and nominating committees consist entirely of independent directors and that boards consist, at...
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