Disparity of Exec Compensation vs. Worker Pay
By: Rebecca Tonn, Colorado Springs Business Journal
Along about the middle of the recession, Americans gave corporate excesses a cold shoulder — especially financial institutions that received bailout money.
But even in private companies, executive compensation has trended downward — despite protestations that private companies should be able to do and pay as they please, since they don’t report to stockholders.
And, of course, pay across the board — from entry level professionals to C-level executives — is down because of the ubiquitous poor economy.
“But there’s a growing disparity between compensation of workers and executives,” said April Peterson, assistant director of career services at Regis University. “And many people think there’s something wrong with this picture.”
The disparity has existed for years, but didn’t garner as much attention until the Troubled Asset Relief Program and other “bailouts” brought executive compensation to the forefront.
But blaming excessive executive pay on corporate greed is a “gross oversimplification,” said Paul R. Dorf, managing director of Compensation Resources Inc.
There is an explanation, which requires going back to the 1980s.
Back then, a total compensation package was about 50 percent base salary, 25 percent annual bonuses and incentives, and 25 percent stock options.
Because empirical data showed that employee stock ownership plans make companies more productive and financially sound, many companies gave stock to all employees and executives.
“But, in reality, 100 shares won’t interest you much, and once restrictions lapse, many employees convert their stocks to cash,” he said.
Thus there’s a vast difference between giving a worker 100 shares of stock or having a structured ESOP or giving 500,000 shares to an executive.
And some of the disproportion between workers’ salaries and executive compensation wasn’t intentional.
“During the ‘90s, a lot of companies hoped to be the next Apple, but they didn’t have a lot of cash, so they paid employees with stock,” Dorf said.
Meanwhile, it was a bull market and a dot-com boom, and companies gave away “tons” of stock because it didn’t cost the company money.
Incentives and bonuses for C-suite executives grew from 25 percent of base salary to 100 or even 200 percent of base.
“In Japan, an executive might make 25 times what the lowest-paid worker makes,” Dorf said. “But in the U.S. they can make 200 times what employees make. In other countries, they were much more careful and discriminating when they gave stock to executives.”
By 2000, base salary was 25 percent or less of a compensation plan, annual incentives and bonuses were about 20 percent, and stock options were as high as 55 percent.
Then two things happened to change executive compensation: the stock market plummeted at the end of 2001, and during December 2004, the Federal Accounting Standards Board adopted regulation 123R, which required that stock options be listed on profit and loss statements as compensation.
“Companies stopped giving stock to employees, and started giving less to executives,” Dorf said. “As of last year, the three components of a compensation plan had changed dramatically, to about one-third each.”
But through the years, outrageously disproportionate executive compensation packages became the norm, and trying to adjust them got dicey. If company ABC lowers comp packages, it could lose executives to XYZ down the street.
“Organizations that want the best talent have to be competitive in what they offer executives,” Peterson said. “The disparity is not ever going to go away. But if I had a crystal ball, I’d say we may find ourselves aligning closer to where we were 20 years ago. Nobody likes to tighten their belts, but the bubble across the industries has burst, and executives and workers are taking pay cuts, benefit cuts and furloughs.”
One of the ways to narrow the gap is for the government to put “teeth” into the regulations.
“There’s a major problem and no easy solution,” Dorf said. “So much of compensation design is geared around staying within the parameters.”
And regulations have too many loopholes.
“It’s the law of unintended consequences,” Dorf said.
When bonuses are capped at 100 percent of salary, the “solution” to maintaining top-heavy compensation is simple — increase base salary to $500 million or more.
That’s why, Dorf said, current regulations are “toothless tigers.”