Designed to address the problem of soaring executive compensation, ‘say-on-pay’ is a core provision of the Dodd-Frank financial reform bill. But on the legislation’s fifth anniversary say-on-pay is not having the impact its advocates had hoped for.
After briefly dipping at the height of the recession, executive pay packages are the highest they have ever been, and will likely continue to increase. In 2014, the average CEO of an S&P 500 company made 373 times the salary of the average employee. In 1983 that ratio was 46 to 1.
Dodd-Frank sought to address this concern with say-on-pay, which mandates that shareholders of public companies hold a nonbinding vote on executive compensation packages at least once every three years. Regulations were implemented by the Securities and Exchange Commission in 2011.
The motivation behind say-on-pay is righteous; shareholders should have more voice when it comes to companies’ decisions. But in its current form, the law is having limited effect, and may actually be making matters worse.
Executive remuneration has continued to increase every year since the measure’s implementation, as a mere 2 percent of pay packages fail to garner a majority of votes, while over 70 percent receive more than 90 percent support.
This overwhelming rate of approval makes sense considering that most of the shareholders who vote are professional money managers. Controlling about 60 percent of the shares of American corporations overall, and accounting for an even larger proportion of those who vote, they have strong incentives to keep executive compensation levels high.
In certain cases, though, say-on-pay has been used effectively to mobilize pressure to implement changes in compensation packages. Unfortunately, too often these changes are for the worse, emphasizing the kind of performance-based compensation that only serves to encourage risky behavior and incentivize short-termism, the tendency of CEOs to focus on meeting quarterly stock expectations and thus maximize their bonuses.
This is because compensation packages are often judged based on the company’s stock performance, which is much more dependent on overall market forces than anything the executive can control, and doesn’t necessarily give an accurate indicator of how a company will perform in the long run.
If a company is performing well, shareholders are typically willing to approve whatever pay package is put in front of them. On the other hand, if a company’s stock is declining and shareholders feel that compensation does not line up with performance, they will vote against pay proposals, and firms frequently make genuine efforts to restructure the CEO’s compensation package.
Many large pension funds have been on the front lines of these battles, using their size to compel firms they invest in to alter their pay policies in ways that encourage CEOs to focus on longer-term value. The problem is that shareholders often push for more performance-based pay, in which a large proportion of an executive’s compensation is tied to the company’s stock price.
This practice encourages executives to prioritize actions that will boost stock prices in the immediate future - such as stock buybacks - over actions that will create more durable growth - such as investments in innovation. The result is CEOs acting in ways that boosts their pay while harming their companies in the long run.
A more effective measure to curb executive pay by empowering shareholders would be to give them more control over electing corporate board members, which is the aim of the Boardroom Accountability Project. Started by New York City Comptroller Scott Stringer, the Project seeks to give shareholders proxy access, the ability to nominate directors to the board. That idea is gaining traction among pension funds across the nation.
This would, in theory, give shareholders a meaningful voice regarding a variety of business actions, including executive compensation practices. Recently, activists have had decent success in getting some companies to voluntarily change their bylaws to allow proxy access, but the SEC has no intention of crafting a rule forcing firms to do so.
Alternatively, the SEC could mandate that workers receive a delegate to represent them on compensation committees. Or, at the very least, the rule could be changed to make these shareholder votes binding to ensure that companies always take them seriously, which has been an issue for certain firms in the past.
What’s clear is that there's a lot more work to be done to meet the goal of curbing CEO pay.
