It is typically a mixture of fixed salary, variable performance-based bonuses (cash, shares, or call options on the company stock) and benefits and other perquisites all ideally configured to take into account government regulations, tax law, the desires of the organization and the executive.
[1] The three decades from the 1980s saw a dramatic rise in executive pay relative to that of an average worker's wage in the United States,[2] and to a lesser extent in a number of other countries.
The rate of executive pay is an important part of corporate governance, and is often determined by a company's board of directors.
In a modern corporation, the CEO and other top executives are often paid a salary, which is predetermined and fixed, plus an array of incentives (bonuses) commonly referred to as the variable component of the remuneration package.
The combination of Fixed Pay and Short Term Incentive is referred to as Total Cash Compensation (TCC).
Short-term incentives usually are formula driven and have some performance criteria attached (typically pre-agreed KPIs) depending on the role of the executive.
Typical performance metrics are financial ratios (e.g. Earnings Per Share (EPS) growth, Return on Equity (ROE), etc) and/or use some form of Total Shareholder Return (TSR) metric Vesting refers to the period of time before the recipient exercises the right to take ownership of the shares for a predetermined price and realize value.
This form of incentive is also designed to reward long term service of an individual and is an important retention tool.
[8] Empirical evidence[9] shows since the wide use of stock options, executive pay relative to workers has dramatically risen.
There is increasing shareholder lobbying for "clawback" provisions to enable the company to recapture rewards that were improperly received.
According to one 2005 estimate the U.S. ratio of CEO's to production worker pay is 39:1 compared to 31.8:1 in UK; 25.9:1 in Italy; 24.9:1 in New Zealand.
The explosion in executive pay has become controversial, criticized not only by those on the left,[21] but by proponents of shareholder capitalism such as Peter Drucker, John Bogle,[22][23] Warren Buffett[14] also.
According to economist Paul Krugman, "Today the idea that huge paychecks are part of a beneficial system in which executives are given an incentive to perform well has become something of a sick joke.
A study of more than 1,000 US companies over six years finds "strong empirical evidence" that executive compensation consultants have been hired as a "justification device" for higher CEO pay.
[14] Share repurchases have been criticized for causing misaligned incentives between executive compensation and market capitalization of the company.
[27] Since the early 2000s, companies in Asia are following the U.S. model in compensating top executives, with bigger paychecks plus bonuses and stock options.
[28] However, with a great diversity in stages of development in listing rules, disclosure requirements and quality of talent, the level and structure of executive pay is still very different across Asia countries.
[31] Australia's corporate watchdog, the Australian Securities and Investments Commission has called on companies to improve the disclosure of their remuneration arrangements for directors and executives.
Chinese private companies usually implement a performance-based compensation model, whereas State-owned enterprises apply a uniform salary-management system.
[35] In 2008, Jean-Claude Juncker, president of the European Commission's "Eurogroup" of finance ministers, called excessive pay a "social scourge" and demanded action.
[36] In 2013, there was a push by then European Commissioner for Internal market and Services, Michel Barnier, to legislate that shareholder be given votings rights to challenge executive pay,[37] similar to regulations enforceable in Australia.
[39] In December 2011/January 2012 two of the country's biggest investors, Fidelity Worldwide Investment, and the Association of British Insurers, called for greater shareholder control over executive pay packages.
[40] Dominic Rossi of Fidelity Worldwide Investment stated, "Inappropriate levels of executive reward have destroyed public trust and led to a situation where all directors are perceived to be overpaid.
asked publicly traded companies to disclose more information explaining how their executives' compensation amounts are determined.
[44] The share of corporate income devoted to compensating the five highest paid executives of (each) public firms more than doubled from 4.8% in 1993–1995 to 10.3% in 2001–2003.
[45] The pay for the five top-earning executives at each of the largest 1500 American companies for the ten years from 1994 to 2004 is estimated at approximately $500 billion in 2005 dollars.
[48] A study by University of Florida researchers found that highly paid CEOs improve company profitability as opposed to executives making less for similar jobs.
[49] However, a review of the experimental and quasi-experimental research relevant to executive compensation, by Philippe Jacquart and J. Scott Armstrong, found opposing results.
In particular, the authors conclude that "the notion that higher pay leads to the selection of better executives is undermined by the prevalence of poor recruiting methods.
Instead, it undermines the intrinsic motivation of executives, inhibits their learning, leads them to ignore other stakeholders, and discourages them from considering the long-term effects of their decisions on stakeholders"[50] Another study by Professors Lynne M. Andersson and Thomas S. Batemann published in the Journal of Organizational Behavior found that highly paid executives are more likely to behave cynically and therefore show tendencies of unethical performance.