Boards of firms such as Microsoft, Cisco and Verizon have given shareholders the right to an advisory vote on executive pay.
Should shareholders have a say in pay? CEOs the world over think it’s a ridiculous idea, but that hasn’t stopped many American companies from giving — even if grudgingly — their investors and shareholders greater say in executive compensation.
The initial trickle is slowly turning into a deluge. By some estimates, 40 US companies have adopted the route this year and the number is growing fast.
Consider this: In the last three months alone, boards of companies such as Microsoft, Cisco and Verizon gave shareholders the right to an advisory vote on executive compensation.
In September, the Microsoft board said given the interest in executive pay, it makes sense to encourage more dialogue with shareholders on the compensation approach, and it approved a plan that calls for a vote on the company’s executive compensation every three years. The first vote took place at the annual shareholders’ meeting last month, and nearly 99 per cent of the ballots received supported Microsoft’s compensation practices.
Last month, the Pfizer board did the same, saying the feedback would supplement the company’s ongoing investor outreach activities on a broad range of corporate governance topics, which would not diminish with the adoption of this advisory vote.
A month earlier, Cisco narrowly approved an annual say-on-pay proposal under pressure from investors, but the company didn’t mince words while articulating its position against it. In a detailed statement in October, Cisco said that the measure was unnecessary because shareholders already had more effective ways to communicate their views on executive compensation “through regular discussions with management” and the compensation committee of the board of directors. Given the many different facets of compensation policy, a simple, non-binding vote did not provide guidance to any issues that might be of concern to shareholders, the company said.
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HR observers say the stand taken by Cisco as well as many others exposes the problem in making the say-on-pay move a success. Companies are just going through the motions of adopting the system under tremendous pressure from big institutional shareholders — a constituency they find difficult to ignore. But it will be nothing but a showpiece for the following reasons:
First, the votes are non-binding and arguably toothless.
Second, companies argue say-on-pay takes away the fundamental right of every board — that is to determine the payment it wants to give to attract the best talent. Besides, it takes away the board’s prerogative to manage. “Management of a company can’t be reduced to a democratic circus, ” is the common refrain. Some companies say shareholders won’t know what an appropriate pay practice is since they are not privy to competitive information like which executives are receiving other job offers or what competition is up to.
Third, given the fact that the US Congress may make say-on-pay mandatory, CEOs argue legislations have hardly helped matters. For example, in the early ’90s, when Bill Clinton took over as the President, he brought in a tax rule that sought to curb excessive executive pay by linking it to performance. Therefore, to deduct executive compensation of more than $1 million, companies had to prove that the executive had met certain performance goals. Companies responded by simply lowering the performance goals, and executive pay continued to be determined by market forces.
There is some merit in such positions, but supporters of the say-on-pay model have equally strong arguments. Since it is non-binding, boards of directors will still have the final say, but it at least clues them into what shareholders are thinking. There is no harm in establishing a system of dialogue between the board of directors and the shareholders to ensure that the latter’s inputs are used in deciding compensation of CEOs and other top executives.
Besides, it will force managements to think twice before indulging in excesses of the past, increase the sensitivity of CEO pay to poor performance and lead to a reduction in severance packages. Remember the examples of Home Depot’s unsuccessful CEO Bob Nardelli walking out with $210 million as part of his golden handshake. Lee Raymond of ExxonMobil got $400 million, and Hank McKinnell, who was ousted from the CEO’s job at Pfizer, got more than Nardelli.
Where does India Inc figure in all this? Many say it won’t be a bad idea if Indian companies adopt a similar model. Though CEOs in India are nowhere near their US counterparts in terms of excessive pay, HR experts say it will be a good corporate governance move. For example, the UK adopted the say-on-pay model three years ago and while that has not stopped CEO compensation from going up, it has succeeded in reducing the rewards for failure through a stronger link between pay and performance.
Major industry chambers say such a move — even if voluntary — may not be necessary in India. Rather, a corporate governance committee set up by CII is likely to recommend the constitution of a remuneration panel to be entrusted with the task of developing a remuneration policy for both executives at the board level and one level below that.
The other apex chamber, Ficci, says there are enough checks and balances already. For example, the Ministry of Corporate Affairs has already issued guidelines for executive pay and the compensation of all directors cannot exceed 11 per cent of the total profits of any company. Further, the compensation of all directors, including the executive chairman and whole-time directors, cannot exceed 10 per cent of the total profit of the company. Norms for calculation of profits for this purpose have also been indicated.
But supporters of the say-on-pay model say such a move will at least force Indian companies to disclose the reasons why senior executives are being paid a particular sum. There cannot be any argument against the fact that shareholders and investors are entitled to information on the specifics of major perks. Perhaps most important of all, they ought to know the reasoning that leads to the choices a company makes. HR experts say it’s an open secret that today’s compensation committee reports are simply a waste of trees and ink.
It’s true that a majority of Indian companies are indulging in such “waste of trees and ink” when it comes to publishing their compensation strategy. Here is one example from an Indian company’s annual report: “Our compensation strategy is to ensure that the senior executives of the company are compensated effectively in a manner consistent with our stated compensation strategy, competitive practices and the requirements of appropriate regulatory bodies.” Did anyone actually learn anything about what the company’s compensation strategy might be?