EXECUTIVE PAY

There is something intellectually dishonest about the way many top executives are compensated. The process goes something like this. The company's Directors, wishing to appear to be impartial or at least objective, hire a firm of independent compensation consultants. The consultants duly carry out a survey, often worldwide, of the pay of executives in the company's industry. That survey provides a benchmark, against which the pay of the company's own executive is measured. Since the company's own executive is deemed by the Board to be of above average quality, he/she gets an above average compensation package.

The dishonesty lies in the assumption that the company's own executive is always above average. It is, by definition, impossible for all executives to be above average. But what Board would say that its own executive is below average? After all, it was they who picked him/her; and to admit otherwise would reflect badly on their judgement. The result is that everybody, or nearly everybody, gets above average pay rises, thereby ratcheting up the benchmark prior to the next round of compensation surveys.

Everybody does well out of this system. The executive in question, the compensation consultants, the Board members (who are often rewarded by a grateful executive). Everybody except, of course, the shareholders who ultimately have to pay for all this. In the large, publicly-quoted, multinationals where this goes on, that means you and me.

Board spokesmen are often heard saying that the market for talent is a global one, and that they have to pay the going rate if they want to attract good people. That is both true and false. The market is indeed global; but the "going rate" is being artificially inflated through the process above. If the CEO of Exxon's salary is currently US$10m a year, are they really saying that there is no talented oil executive in the world who would do the job for (say) US$2m? I have to say that I doubt it.

Walter Blotscher