Saturday, October 3, 2015

Executive Incentive Pay Is a Returnless Gift

Yahoo Finance reported:

It turns out offering CEOs huge bonuses to boost shareholder returns doesn’t actually work, according to a new study from Cornell University.  

The analysis, done in conjunction with consultants Pearl Meyer and Partners, examined a decade’s worth of data from every company in the S+P 500  It compared companies that offer their top brass a total shareholder return (TSR) plan to those that don’t and found the increasingly popular pay plans haven't significantly boosted any of a number of key metrics.

In 2004, just 17% of S+P 500 companies gave CEOs and top executives some form of a TSR plan. A decade later, nearly half of the companies in the index offered it.
Outcome obsessed C-Suite and board room leaders have a new metric to explore and it relates to their performance.  Their compensation theory failed miserably despite widespread application:

Nonetheless, giving CEOs more for total shareholder return doesn't make a difference, according to the Cornell study.

“There is no strong evidence of a positive impact of TSR plans on firm performance,” wrote Hassan Enayati, Kevin Hallock, and Linda Barrington of Cornell University’s Institute for Compensation Studies.
Extrinsic motivators distort behavior and harm quality.  Leaders intent on paying each other handsomely for their board room and executive suite service arrived at mind boggling complex pay schemes that paid off, no matter what the performance.

“Despite the fact that just under 50% of S+;P 500 firms have this pay metric as part of their executive compensation plans and that this pay metric is designed to align the interest of shareholders and executives,” Enayati told Yahoo Finance, “we find that there's no relationship between the pay metric and top-line business outcomes like 1-, 3-, or 5-year total shareholder return, return on equity, earnings per share growth, or revenue growth.”

As for those S+P 500 CEOs that have TSR plans, it represents on average some 29% of their total direct compensation, though that percentage is a decline from 38% a decade ago. That's because as more companies adopt TSR plans, they are doing so with less weight than companies who took on these kinds of bonuses earlier.

The average CEO of an S+;P 500 company made $13.8 million – or 204 times their average employee  in 2014.  
Most of it was a gift from their peers, completely unearned.  I shudder to think of the harm these executives created in pursuit of their personal wealth.

The compensation of top executives is virtually independent of performance.
That was the conclusion in Harvard Business Review in 1990.  Twenty five years later, after implementing changes the article recommended,  it's true again  As for the damage ZeroHedge noted in a report about employment:

Nothing about the lack of job demand as mega corporations continue to lay workers off in droves instead of hiring, instead using every last dollar of free cash flow to buyback their own stock to boost executive compensation instead of growing their company and hire more workers.
Optimize the company for executive pay, suboptimize the whole.  Slow learners or greedy?  Maybe both in the case of grocery store A&P, where Board members and executives enriched themselves handsomely just before the company declared bankruptcy.