Survey Says: Mixed Response to Proposed SEC CEO Pay Ratio Rule
The SEC recently voted 3-2 to propose rules for pay disclosure ratios at companies listed with the SEC. The proposal would require companies to disclose CEOs’ total compensation as a multiple of median total worker pay. Total compensation would include salary, bonus, stock-and-option awards, long-term incentive pay, and change in pension value.
In an informal poll, we asked CFA Institute members for their thoughts on whether the proposed rule would be beneficial. The survey results are mixed:
Useful tool for investors to better understand pay – 43%
Used to shame companies and their boards – 43%
Inconsequential – 12%
No opinion – 3%
It is clear that CFA Institute members are as split on the issue as many in the investor and issuer communities. Proponents of the rule claim that it will bring further transparency to executive pay and allow for a deeper understanding of pay practices among investors. The rule’s detractors claim that the pay ratio rule is meant to do nothing more than shame companies about their pay practices, and could undermine fruitful engagement between issuers and investors.
Our own analysis of the proposed rule demonstrates that both sides are right — to a point. Yes, a pay ratio will bring more useful data to the table, allowing investors to better understand executive pay practices at some companies. However, the rule would also likely spawn large, bold headlines about pay inequity — all based on a single number meant to represent a company’s pay practices in a given year. Yes, there are outrageous pay packages out there, but one number, at a single point in time, doesn’t tell the whole story, whether the topic is quarterly earnings or executive pay. Investors should be wary of putting too much meaning behind the one number of the pay ratio. Using a mosaic approach on pay, as in other investment analysis, is a wiser course of action.
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The CEO to median employee pay ratio has no role to play whatsoever in the effort to inform stakeholders about executive compensation. Public companies have gone to great lengths in their CD&A disclosures to provide all the information needed to evaluate the effectiveness of the executive compensation program and the governance process associated with it. This ratio is no more meaningful than the square root of the organization’s zip code. One only need read the SEC instructions for performing the calculation to understand the dubious value of this calculation.
The motive for this rule comes from a populist political agenda. Agree or disagree, the important part is understanding the capital markets impact. If this rule achieves the shaming of executive pay to a popular level, it could lead to a reduction in public companies. This is a trend we’re already seeing for myriad reasons and this effect would only add to the reasons to go private.
The Wilshire 5000 constituents are already half the count from the late 90’s. With this trend, investors will need private equity companies to go public if “the little guy” is to have access to the best of American innovation and prosperity.
Is there a really positive correlation between exec comp and share performance? The $2 bn taken out by 5 CEOs of financial companies run into the ground in the financial crisis would suggest not.;
Ted,
Thank you for your comment. Investors are increasingly asking companies to demonstrate a link between pay and performance. They particularly want to see that pay is linked to the execution of strategy and that a significant portion is long term in order to incentivize behavior that helps build a sustainable enterprise.
Matt