Reference no: EM133651171

Assignment:

This question often circulates in the media regarding the large compensation packages that CEOs receive as leaders of large publicly traded firms. Reporters in the media are often focused on the growing inequality between the top executives' pay and the average wages of U.S. workers. In 1983, average pay for leaders of the six largest banks was 40 times the average of all U.S. workers, while the average pay for leaders of the largest Fortune 500 companies was about 38 times. However, CEO compensation has grown significantly compared to the average worker, and now the median CEO-to-median-worker pay ratio stands at 140 to 1. It is easy to see why the media would focus on this issue.

Moreover, because of the oversized compensation packages, the 2010 Dodd-Frank Act requires that public companies disclose their CEO-to-median-employee pay ratio in their annual proxy statement. But there are huge differences in this ratio even among companies in the same industry. For example, Marathon Corporation, the second-largest oil refiner in the United States, paid its CEO, Gary Heminger, $19.7 million in 2017. His salary is 900 times that of the average employee at about $21,000 per year. However, Marathon runs Speedway retail gas stations with many part-time and low-wage employees; if the Speedway workers are excluded employee median pay at Marathon shoots up to nearly $126,000 per year, which translates into a CEO-to-worker pay ratio of 156 to 1, much closer to the overall median. As noted, there are large differences within sectors. "Processedfood giant Kraft Heinz Co. last year paid its CEO $4.2 million, about 91 times its median worker's $46,000 compensation.

Kellogg Co., a smaller food maker, paid its CEO an annualized $7.3 million, or 183 times its median employee, who was paid about $40,000." Along with Dodd Frank, the Security and Exchange Commission has given shareholders the opportunity to vote on the compensation the CEO receives; the so-called "Say on Pay" regulation. This has given more ownership scrutiny to top executive compensation. As such, board members can be disciplined and even lose board seats if the compensation plan receives a negative vote. Of course, as explained in this chapter, CEO compensation is more complex than might be deduced from media headlines.

However, because of the increased transparency, firms and boards of directors making compensation decisions for CEOs are more sensitive to issues associated with executive compensation. Notwithstanding the complexities, CEO compensation continues to rise, although not as much as in the pre-financial crisis period, primarily due to the emphasis on long-term incentive compensation versus cash compensation (salary and annual bonus).

Research from the finance discipline finds that the make-up of the pay package that most top executives receive has been changing. Instead of an over-emphasis on stock options, top executives have been receiving compensation that is based on restricted stock ownership, which cannot be realized unless they meet significant performance targets over time. As such, research finds that managers are taking much more measured risks now than before, with far less of the oversized risk-taking that can result in disastrous consequences for a large firm.

In summary, executive compensation is a complex issue that cannot be simply determined by the overall size of the package. Although executive compensation has grown dramatically, there are both legitimate and illegitimate reasons for such huge pay packages. Each case needs to be examined closely. However, the perception will certainly linger that top management executive compensation relative to the average worker has added to the inequality in our society. As such, care should be taken to manage this issue from a policy point of view. Managerial human capital should be rewarded for its capability and the value it creates, but lower-level workers and their human capital should also have opportunities to make progress.

• According to the case, what factor contributes to the variability in CEO-to-worker pay ratios within the same industry?
• According to the passage, what consequence can boards of directors face if the compensation plan receives a negative vote from shareholders?
• How has the composition of executive pay packages changed, as discussed in the case?
• How has the emphasis on executive compensation changed over time, specifically in the post-financial crisis period?
• What does the case suggest about the CEO-to-worker pay ratio within the same industry?
• What does the case suggest about the impact of increased transparency on boards of directors making compensation decisions for CEOs?
• What impact does the Security and Exchange Commission's regulations have on corporate governance?
• What is the primary purpose of the "Say on Pay" regulation mentioned in the passage?
• What research finding does the case highlight regarding the make-up of top executives' pay packages?
• What regulatory measure, enacted in 2010, requires public companies to disclose their CEO-to-median-employee pay ratio in annual proxy statements?