Has CEO reward reached a crisis point?
In 2000, the average FTSE 100 CEO earned 47 times more than the average full-time employee. By 2014 median CEO pay increased to around £3.3 million which was 120 times more than a full-time employee. Further, using indices with a common base year of 2002, CEO pay is said to have increased some 2.25 times faster than GDP. This increasing disparity has recently been considered by the authors of a detailed report published by the CIPD.
The report states that despite the introduction of the Enterprise and Regulatory Reform Act 2013 which requires UK listed companies to publish a single figure detailing the total pay awarded for the lead executive’s position, and for listed companies to hold a binding shareholder vote at least every three years on the remuneration report, CEOs continue to receive weighty reward packages that are out of sync with company performance and the returns delivered to shareholders.
According to the report, CEO reward practice has now reached a crisis point. The report considers the factors and behaviours which determine CEO salary packages but concludes that individuals do not respond to financial incentives in the way economic theory expects; the assumption that giving CEOs more money will motivate them is misplaced. Where performance is measured, this is usually confined to organisational and financial metrics, rarely taking into account wider stakeholder perspective such as customers and employees.
The CIPD published a further paper in 2015 setting out the results of a survey into what employees really think about their CEO’s pay packet 2. The survey highlights the perceived corrosive effects on workforce productivity of having CEO pay out of kilter with organisational performance. In particular, the survey results show that nearly half of employees feel their CEO’s pay is either “far too high” or “too high” and more likely to say that their CEO’s pay is not rewarded in line with performance.
Notably, no less than seventy-two percent of employees would like to see more pay transparency in their organisations (with over half of employees wanting to see greater pay transparency at all levels).
Seventy-one per cent of employees agreed that CEO pay levels in the UK are too high.
The results clearly show that UK employees believe the negative impact and consequences of current CEO pay levels are far-reaching: three-fifths of employees feeling that CEO pay levels actually demotivate employees and more than half believing they are bad for an organisation’s reputation. The CIPD report finds that a key barrier to change is the lack of knowledge or guidance around how CEO rewards should be allocated in order to promote desired leadership behaviours, ethics and values.
The report makes the following broad recommendations:
- Organisations should be required to publish diverse internal and external performance data, including from employees and customers over CEO tenure. This should include the pay ratio between senior organisational leaders and also other employees.
- Executive pay packages need to be proportional to the contribution to performance, simple to understand and implement and recognise that immediate rewards are more motivating than delayed rewards. Base salaries should be generous but not inflated, and incentives play a smaller role.
- Pay ratios between senior organisational leaders and other employees should be published and subjected to ‘transparency checks’, publicising factors which may influence the size of the ratio, such as the percentage of labour outsourced to other countries. This is likely to be challenging in practice, but has to be met head on.
- Organisations should publish complete data on who is part of the REMCO, and in particular whether remuneration consultants have other vested interests (for example are consulted by the organisation on other matters too).
- Organisations should consider two-chamber boards – where one chamber is elected by shareholders (the current process) and the other chamber selected randomly from existing stakeholders – and allocated clear responsibilities.
- Organisations need to ensure diverse boards, remuneration committees and organisational leaders.
- Organisations should use valid selection measures, including bespoke psychological profiling, to ensure that leaders are narcissistic but bring a balanced leadership style.
- Leadership behaviours can weaken over time and too much emphasis is being placed on CEOs. Organisations should ensure a job design where both intrinsic and extrinsic aspects feature highly, as in an ethical approach, and leadership and accountability is shared. This should result in more equal distribution of rewards in top teams.
- Organisations should make perceptions on rewards within the organisation and beyond explicit – a good place to start would be a gap analysis between the now and the future. Such data would assist in identifying priorities that will provide evidence to underpin CEO reward decisions.
- Organisations should coach executives, develop their coaching skills and have them coach or mentor others to ensure that learning, innovation and mutual respect permeate practice and encourage more transformational.
- Importantly, the report concludes that all stakeholders need to take heed from the evidence offered by behavioural science and that more detailed work is needed on how changes could be implemented practically.
CEO reward practice needs to become evidence-based, focused on more holistic metrics, be simple yet effective and build on sound enforceable policy to encourage sustainable business performance and a culture where learning and innovation happen naturally. The authors of the report hope that, taken together, these initiatives will curb excessive CEO reward, while maximising individual and organisational performance instead.
- CIPD. The Power and Pitfalls of executive reward: A behavioural perspective. December 2015
- CIPD. Pulse Survey. The View from Below: What employees really think about their CEO’s pay packet. December 2015