Economist articles Exec Comp

Too many turkeys - Executive pay
1328 words
26 November 2005
The Economist
(c) The Economist Newspaper Limited, London 2005. All rights reserved
Are America's bosses over paid?
Executive pay is on the rise again—and so are complaints that ordinary performance is
attracting extraordinary rewards
AMERICA'S top executives had plenty to celebrate as they tucked into their turkey this
Thanksgiving—a resurgent stockmarket, record profits and, above all, their own everexpanding pay packets. In the years immediately after the bursting of the dotcom bubble
and the scandals at Enron and the like, executive pay fell—at least by some measures.
But that, it is now clear, was but a blip, mostly reflecting managers' reluctance to cash in
share options in what was then an unattractive stockmarket.
Executive compensation in America—already far ahead of the rest of the world, despite
the best efforts of overseas managers to catch up—is now rising inexorably again. In
fiscal year 2004 the total compensation of the median American company boss rose in
every industry, by between 9.7% in commercial banking and 46.1% in energy, according
to a new report by the Conference Board, a research organisation. In the big companies
that comprise the S&P 500 index, median total chief-executive compensation increased
by 30.2% last year, to $6m, compared with a 15% rise in 2003, according to a study
published last month by the Corporate Library, a firm that tracks corporate-governance
Recent higher profits are part of the explanation for higher pay. But there is a longer-term
trend at work. In 2004 the ratio of chief executives' compensation to the pay of the
average production worker jumped to 431 to one from 301 to one in 2003, according to
“Executive Excess”, a recent study of 367 big American firms by the left-leaning Institute
for Policy Studies. That is not quite a record: in 2000 the ratio reached 525 to one (see
chart). In 1990 the ratio was 107 to one and in 1982 a mere 42 to one. This year's
numbers seem certain to show the gap widening still further.
But while unionists and left-leaning politicians are worried about social equity, investors
typically have a different sort of concern. They are happy to pay for exceptional
performance; but less delighted when mediocre managers get lavishly rewarded. The
contrasting cases of James Kilts and Michael Eisner make the point.
Mr Kilts, the boss of Gillette, has publicly accused critics of the $165m bonus he got for
selling his firm to Procter & Gamble for $53 billion of “unsubstantiated, inaccurate and
irresponsible criticism” and of treating him like a “piñata”—a sweet container that
American children bash at parties. Piñata Jim may have a point. He did a lot to restructure
Gillette—allowing it to be sold for a fancy price, to the huge benefit of its shareholders. It
is when vast payments are the reward for poor performance that it is time to cry foul.
Michael Eisner was an outstanding manager during the first part of his more than 20
years at the top of the Walt Disney Corporation. But as Leo Hindery points out in a new
book (“It Takes a CEO”), he was also paid $800m over a 13-year-period during which
the company's shareholders would have done better by investing in Treasury bonds.
The populist end of the debate has led to some action in Congress. Barney Frank, a leftwing Democrat, has just introduced legislation intended to tackle the “problem of
runaway executive compensation”. Wisely, he is mostly seeking to improve disclosure,
rather than actually to cap pay at a specific level, which experience suggests would
encourage creative ways around the cap.
A 1994 reform that limited tax deductibility of executive pay to $1m merely turned the
$1m maximum into the de facto norm, and inspired the rapid growth of share options as
an alternative form of tax-favoured compensation. Some experts now blame the peculiar
risk-taking incentives created by share options for many subsequent corporate scandals.
Although Mr Frank's legislation is not expected to become law, it is adding to the
pressure on the Securities and Exchange Commission to make better use of its powers to
demand full disclosure.
Even some businessmen are now calling for restraint. Edgar Wollard, a former boss of
DuPont, recently proposed that a chief executive's compensation should be indexed to
the pay of the senior vice-presidents that head his firm's divisions. At DuPont, he was
limited to 150% of the average pay of those other top executives. Mr Hindery, a serial
CEO in the telecoms and media businesses, says he has published his book partly
because greed in corporate America is now damaging capitalism.
Many experts see the continuing rise of executive compensation—and the continuing
lack of a demonstrable link to performance—as a symptom of a massive failure of
corporate governance. Greater pressure from shareholders is generally regarded as the
only real antidote. But critics of perceived executive excess have been frustrated by
shareholder passivity, which is sometimes blamed on the short time horizons of many
So is there a cure? Certainly, fuller disclosure would help, argues Lucian Bebchuk of
Harvard Law School and co-author of a recent book, “Pay Without Performance: The
Unfulfilled Promise of Executive Compensation”. If there were proper disclosure of
forms of executive pay such as pensions, supplementary pensions and deferred
compensation, then it would be easier for shareholders to see whether chief executives
are being rewarded for genuinely good work.
It is the issue of aligning incentives and rewards—rather than the absolute level of pay—
that tends to concern professional investors most. “There is no right or wrong number”,
says Bob Pozen, chairman of MFS Investment Management, which has $160 billion
under management. It is hard to judge the merits of a package without looking carefully
at the details, he says, which is why he has little time for Mr Frank's proposal for
shareholders to vote each year on the executive compensation package. In Britain, where
shareholders now get a non-binding vote on compensation, it has had no real impact, he
Blame the consultants
Mr Pozen reserves his fiercest ire for the kind of executive pay package that rewards
bosses generously even if they fail. And he is extremely critical of the role of
compensation consultants. They, he says, tend to be chosen by the chief executive, and
to drive up pay by recommending that the top man should be paid more than his peers,
having chosen a group of peers whose pay errs on the high side.
Ira Kay, an executive-compensation consultant at Watson Wyatt, strongly disagrees,
pointing out that the compensation committee of the board increasingly hires the
consultant—a change he regards as “revolutionary”. Moreover, in the past few years
many American firms have changed their approach to executive pay, he says, improving
disclosure and changing the composition of pay packages so that they provide stronger
incentives to manage for the long run. In particular, share-option grants have fallen
sharply, while there are more grants of restricted stock (that pay out only over time or
when a performance target is hit).
Even so, a survey Mr Kay is working on suggests that there is now as “large a gap as I
have seen between what institutional investors and boards think about executive
compensation”. Boards think they are doing a good, shareholder-friendly job;
institutional investors do not. Mr Kay fears that if the institutions do grow more militant
about executive pay, there is a “risk of a return to the 1970s”, with bosses paid like
bureaucrats and talented managers seeking more rewarding work elsewhere.
That would indeed be a bad thing. But judging by recent trends—and the continuing
failure to reform board elections to make it easy for shareholders to vote out directors
who are too friendly to management—hell is more likely to freeze than bosses' pay.
Compensation culture - Boardroom pay
414 words
26 March 2005
The Economist
The Economist Newspaper
(c) The Economist Newspaper Limited, London 2005. All rights reserved
The pay gap between British and American bosses is shrinking
The pay gap between British and American bosses is shrinking
COMPANIES, sales and profits are all bigger in America than in Britain, so it's not
surprising that bosses' pay is as well. But, according to a new paper,* the Brits are
catching up—though they've still got a long way to go.
In 1997, the average British chief executive of one of the top 200 British companies took
home £955,000 ($1.56m). The typical boss of a comparable sample of American
companies was paid £2.68m, nearly three times as much. By 2003, the gap was down to
1.7 times: British bosses' pay had risen 77% to £1.69m ($2.76m), compared with only a
6% rise (to £2.83m) in America (see chart). Looking at the median rather than the
arithmetic average (ie, mean) shrinks the gap even further: by 2003 the figures were
£1.29m and £1.55m , a difference of only 20%.
As the totals have got more similar, so have the pay structures. Although salaries for
British chief executives are about 20% higher than for Americans, they are becoming less
important as a component of pay, accounting for 52% of total compensation in 1997, but
only 41% in 2003. That's closer to the American model, where CEOs are paid relatively
small salaries and make most of their money from variable pay like bonuses and stock
So what's changed? The authors make several suggestions. New tax rules in Britain have
made stock options an attractive option for boards, and new corporate governance laws,
enacted earlier than America's Sarbanes-Oxley act, may have led chief executives to
demand higher pay in return for extra responsibilities. Seeking talent from outside a firm
has become more common, and tends to be more expensive.
But the main reason, says Graham Sadler, one of the authors, is globalisation. The market
for CEOs has become one of the world's few truly global labour markets, and price
differences are therefore eroding. British firms must pay more to keep their bosses, who
may be lured by American companies with fat chequebooks. But globalisation should
help to keep American pay deals down, too, as bosses there face price competition from
cheaper foreigners.
* “How does US and UK CEO pay measure up?” Martin J. Conyon, University of
Pennsylvania, and Graham V. Sadler, Aston Business School, March 2005.
Document EC00000020050329e13q0000m
The Economist March 5, 2005
Copyright 2005 The Economist Newspapers Ltd.
All Rights Reserved
The Economist
March 5, 2005
U.S. Edition
LENGTH: 714 words
HEADLINE: Fat cats turn to low fat;
CEO pay
Bosses' bonuses are booming, but that is not all bad
NOW is the season when American companies file their annual reports with the
Securities and Exchange Commission. Among other things, these documents
give details of the pay of the companies' top executives. This year these
closely watched numbers are being translated into headlines about huge
increases in bonuses for the people who run the world's biggest companies. A
study by Mercer Human Resource Consulting for the Wall Street Journal shows
that last year's bonuses for the CEOs at 100 large American companies rose
by 46.4%. The median bonus was $1.14m.
These are big bucks, and there are plenty of instances where the logic of the
rewards seems at best warped. Michael Eisner, for example, the controversial
chief executive of Walt Disney, who was almost booted out of the job by
shareholders last year, nevertheless received a bonus of $7.25m. But there are
encouraging aspects to the figures. For a start, corporate profits in 2004 rose
significantly—those of big quoted firms in the S&P 500 index by some 20%. If
bosses' total pay is (as it should be) related to their companies' performance,
the variable part of that pay (which includes bonuses) could be expected to
have risen sharply during the year.
The other thing about the bonuses is that, to some extent, they are a reflection
of a welcome decline in stock-option schemes. Bonuses are being granted in
place of these. A study by the Boston Consulting Group of public companies
recently found guilty of fraud calculates that the value of the stock options
granted to the CEOs of those firms in the years before the frauds became
public was 800% greater than those granted to the CEOs of comparable firms
not found guilty of any wrongdoing. Nothing correlated so strongly with
corporate fraud as the value of stock options—not the standard of the firms'
governance, nor analysts' inflated expectations about their earnings, nor egoboosting stories about their CEOs in the press.
What's more, in the stockmarket's boom years stock options more or less
indiscriminately rewarded individuals with sums that frequently amounted to
tens of millions of dollars (and sometimes hundreds of millions). In 2001 nine
executives cashed in stock options worth more than $100m, including Larry
Ellison, the boss of Oracle (who got the biggest bounty, $706m), and Lou
Gerstner, the boss of IBM. Mr Eisner's bonus last year fades in comparison. In
2002, the pay of top American CEOs was over 400 times average earnings;
last year that figure is reckoned to have fallen close to 160.
Bonuses are largely in the control of a company's compensation committee, a
small group of non-executive board directors. Nowadays many of these
committees are being encouraged to talk regularly with leading shareholders
about what are suitable levels of compensation for top executives, and they
are increasingly sensitive to the reaction to the amounts they award. In
Europe, CEOs are being advised that they will be excluded from much-coveted
appointments in the future if they have been too greedy during their executive
There remains plenty of scope for compensation committees to improve. On
February 22nd, Merck's board awarded a bonus of $1.4m to Raymond
Gilmartin, its CEO. Yet Merck's share price fell by one-third last year and it was
forced to withdraw the painkiller Vioxx, a potential blockbuster drug.
But even if all compensation committees were to behave impeccably from now
on, there will be legacy problems for some years to come. When earlier this
year Carly Fiorina was booted out as CEO of Hewlett-Packard (HP), supposedly
a failure, she received a leaving present worth up to $42m. This was because
of the terms of a contract signed five years earlier. Compensation committees
have to wean themselves off these kinds of pay deals, which lavish enormous
amounts on executives even if they fail. Designing schemes that only reward
success should not be beyond the wit of directors, or the compensation
consultants they employ. In a hurry to find her successor, HP looks in danger
of making the same mistake again, while Ms Fiorina herself is being spoken of
as a future head of the World Bank. Change for the better? Maybe one should
just watch those figures a while longer.
LOAD-DATE: March 4, 2005
The Economist October 11, 2003 U.S. Edition
Copyright 2003 The Economist Newspaper Ltd.
All rights reserved
The Economist
October 11, 2003 U.S. Edition
LENGTH: 3016 words
HEADLINE: Fat cats feeding - Executive pay
NOTHING in business excites so much interest in the wider world as the pay of
top executives. And this is never more true than when, as now, a few
prominent cases prompt indignant headlines and rouse normally somnolent
shareholders to action. The phenomenon is global. Last month Richard Grasso,
chairman of the New York Stock Exchange, quickly went from folk hero, for the
way he got the exchange running again after the terrorist attacks of
September 11th, to the incarnation of corporate greed when it was revealed
that he would be awarded $140m in accumulated benefits this year. Mr Grasso
tried to stem the tide of outrage by agreeing to forgo another $48m due to
him, but that appeased no one, and he was forced into an ignominious
A few days later it was the turn of Josef Ackermann, the Swiss boss of
Germany's Deutsche Bank. He was charged with "breach of trust" and will
stand trial in Dusseldorf early next year. His alleged crime was committed in
early 2000 when he was on the supervisory board and the compensation
committee of Mannesmann. The German mobile-phone company yielded to a
bid from Britain's Vodafone, a takeover that it had initially contested. After the
deal was agreed, a group of Mannesmann executives was paid bonuses of
euro57m ($53m).
The current trial in America of Dennis Kozlowski, the former boss of Tyco, on
charges of plundering the public company that employed him of hundreds of
millions of dollars has rekindled in the public's mind the idea that
extraordinarily high levels of executive pay are tangled up with corporate
shenanigans and illegal activity. But that is not necessarily the case. There has
been no suggestion that Mr Grasso broke the law, nor that Mr Ackermann, who
is indeed accused of breaking a law, benefited personally from the bonuses
that were handed out to Mannesmann's executives. Independence on board
Few bosses these days need to resort to skulduggery to receive fat cheques.
For the most part, their employers are persuaded to sign legally binding
contracts which hand them large sums of money with few questions asked.
They are a bit like medieval knights granted great tracts of land by grateful
monarchs. It was always too much to expect them to say, "Thank you, milud,
but the little cottage by the main gate will do me nicely." Or, indeed, at some
later date to suggest: "Since I just lost that battle, here's half my land back."
Media mentions of "fat cats" and pay have been rising sharply--up by 60% in
the first nine months of this year on the same period in 2002. Executive pay
has taken over as the top concern of corporate governance from last year's
biggest worry, the independence of auditors. Governments and regulators are
becoming increasingly interested in the issue. Under pressure from institutional
investors, America's Securities and Exchange Commission (SEC) this week
proposed rules that will make it easier for shareholders to nominate candidates
to a company's board. Investors hope this will lead to the greater
independence of directors who, in the end, decide how much their company's
chief executive officer (CEO) should be paid.
In June, the British government issued a document inviting comments on how
to control one aspect of CEO remuneration--the granting of large severance
payments when bosses' contracts are terminated, regardless of how their
company has performed. "Rewards for failure for a small minority", says
Patricia Hewitt, Britain's secretary of state for trade and industry, "damage the
image and reputation of the whole of British business." The government has
received more than 100 responses to its paper and hopes to produce proposals
on the issue within two months.
By and large, governments are reluctant to intervene in the private matter of
employment contracts. A British parliamentary inquiry into the subject of
paying bosses large amounts even when they fail reported last month that it
would prefer the government to give industry's own initiatives on the subject
time to work rather than to impose new laws. But trade unions and many
shareholders are eager for governments to take action. In Britain, the Trades
Union Congress, the unions' national body, wants to reduce the notice given to
dismissed senior executives, which can often be as long as two years. "An
upper limit of six months should be a legal requirement," it says, to bring the
treatment of executives more in line with the three months that is normal for
other British employees. The AFL-CIO, which represents most unions in
America, is pushing for legislation to curb executive-only pensions that give a
chosen few guaranteed above-market rates of return. Soft landings, hard
So-called "golden parachutes", large pay-offs even when top executives fail,
have become a main focus this year in the debate over executive pay. The
Corporate Library, a shareholder watchdog in America, reckons that the
average departing CEO in that country receives a severance package worth
$16.5m. In May this year, shareholders at the annual general meeting of
GlaxoSmithKline (GSK), the world's largest pharmaceuticals company, revolted
against the severance pay promised to its boss, Jean-Pierre Garnier, if he were
forced to leave the company prematurely. Since one of the more likely reasons
for such a departure would be poor performance, shareholders deemed the
$35.7m farewell gift to be excessive. Under new rules allowing shareholders to
vote each year on British firms' executive-compensation plans, GSK's owners
gave Mr Garnier's golden parachute the thumbs down.
The vote sent a jolt through corporate Britain, and was hailed as a landmark in
corporate governance. Yet it did not actually change Mr Garnier's
compensation package. The vote is only advisory. Sir Christopher Hogg, the
chairman of GSK, points out that the company (aided by Deloitte & Touche)
was already undertaking a review of its remuneration policy before the vote
took place. That review is still going on and Sir Christopher says that whatever
the outcome, "we will be seeking shareholders' the AGM in
2004." He has written to the Association of British Insurers to say that "the
board has registered shareholders' particular sensitivity to payments on
termination, whether contractual or ex-gratia."
British union leaders want shareholders' votes on executive pay to be made
binding. And they want shareholders to register more concern about the issue.
Despite all the fuss over Mr Garnier, GSK remains the only company in Britain
this year whose remuneration report failed to meet with its shareholders'
In France, the tide of sentiment against rewards for failure helped persuade
Pierre Bilger, a former chief executive of Alstom, to hand back in August the
euro4.1m severance package granted to him in March when he stepped down
from the troubled French engineering group. He did not, he said, "want to be
cause for scandal among the 100,000 Alstom employees whom I had the
honour to direct for 12 years"--until, that is, the company had to be rescued by
the French government. Mr Bilger's example has not yet been followed by his
compatriot Jean-Marie Messier, the former boss of Vivendi Universal. He is still
fighting to retain the euro20.5m severance package due to him after he was
Yet golden parachutes and severance pay are only one part of executive
compensation. They have been the main focus in recent months. But that is
only because the previous mechanism delivering big payouts--namely, share
options--came under such hostile scrutiny. Chief executives are selected for
their cleverness and determination, and they have directed these qualities at
boosting their own pay. The more the public spotlight is thrown on one aspect
of bosses' remuneration, it seems, the more it rises elsewhere.
The amounts awarded through share options in recent years dwarf those paid
out by golden parachutes or by any other mechanism. Even in 2001, after the
stockmarket bubble had burst, the value of stock options granted to the CEOs
of S&P 500 companies, America's largest, rose by 43.6% in a year when the
total returns from those companies fell by almost 12%.
The immense and random windfalls that stock options can bring has aroused
the anger of shareholders and the general public alike. Last year, for example,
Jeffrey Barbakow, the chief executive of Tenet Healthcare, a hospitalmanagement business in California, received $111m from exercising his stock
options in a year when the company's share price fell by nearly 60%. After a
group of shareholders led by a Florida doctor threatened to remove him, Mr
Barbakow resigned last May.
Share options give rise to a phenomenon known as "pump and dump",
whereby top executives do everything they can to pump up their company's
share price in the short term (including, in notorious cases such as WorldCom,
fiddling the company's accounts) so that they can dump their options and
maximise their personal gain.
They also, in effect, dilute shareholders' equity with nary a by-your-leave.
According to the Investor Responsibility Research Centre in America, the
average percentage of companies' shares that was promised as share options
reached a record 15.7% in 2002. In some significant cases, it exceeded 25%.
It has been a fundamental tenet of shareholder capitalism for decades that
there should be no dilution of equity without the prior approval of the
company's existing shareholders. Share options drove a coach and horses
through that principle.
Once the options trend slowed, bosses reverted to cash to swell their
remuneration. In 2002, the median cash bonus of S&P 500 CEOs rose by 8.8%
after falling the previous year, according to figures prepared for CalPERS, the
largest public pension fund in America. The value of CEOs' stock-option grants
in 2002 fell by 18.6%, having risen by 43.6% the year before.
A number of companies are now rewarding their top executives with stock
rather than stock options. Trevor Fetter, Mr Barbakow's successor at Tenet
Healthcare, was granted two shares in the company for every one that he
purchased, up to a limit of 200,000. Many such awards of shares are in the
form of "restricted stock", which the executive is not allowed to sell for a
specific period. This retains the link between reward and the company's share
price, but removes most of the opportunities to pump and dump.
Another method of showering bosses with rewards which surfaced in 2002 has
been pension packages. These first hit the headlines with Jack Welch's divorce
settlement. The estranged wife of the former boss of General Electric pointed
out to the divorce courts that Mr Welch's retirement package did not just
include a generous pension, but also entitled him to the use of GE's corporate
jets, help with his $80,000-a-month Manhattan apartment, and a regular
supply of fresh flowers.
Then the bosses of American Airlines, struggling from set-backs in the airtravel business following September 11th, were revealed to have placed $41m
in a pension fund for themselves that was fully protected should the company
go into Chapter-11 bankruptcy. This self-appointed perk remained hidden until
after negotiations with the airline's unions aimed at securing wage concessions
of up to $2 billion had ended a few months later.
Loans granted and then forgiven are another popular way of enriching CEOs.
Charles Conaway, the chief executive of Kmart, an American discount retailer,
left the company in March 2002 after just 21 months in the job and two
months after the company had filed for Chapter-11 bankruptcy. A company
loan of $5m, granted as part of Mr Conaway's pay package, was "forgiven"
upon his departure.
Robert Nardelli, one of two candidates who failed to win the top job at General
Electric on Mr Welch's retirement, left to head Home Depot, a retailer with
revenues less than half those of GE. Mr Nardelli's compensation in 2002 (of
around $20m) included $2.5m for the forgiveness (to be spread over four
years) of a $10m loan granted to him on his appointment. His contract also
forgives him any interest on the loan and any tax due, and it includes a golden
parachute of at least $20m. Not bad for an also-ran.
The spotlight rarely falls on the basic salaries of top executives because these
do not tend to rise at such a dramatic rate. In 2002, the median base salary of
the CEOs of the S&P 500 companies was $925,000. The median total
compensation for that year, on the other hand, was $3.65m.
It has become almost fashionable these days for bosses to forgo their basic
pay. Eli Lilly's boss Sidney Taurel took a salary of only $1 in 2002. John
Chambers of Cisco Systems did likewise, and Larry Ellison, boss of Oracle, took
a dollar less. Nevertheless, in 2001 Mr Ellison had been the highest paid
executive in America thanks to $706m garnered from stock options he
exercised that year. Scratch and scratch alike
How do CEOs manage to get themselves these handsome contracts? Warren
Buffett, the chairman of Berkshire Hathaway and one of America's shrewdest
commentators on corporate governance, says in his most recent letter to his
shareholders that "the answer lies not in inadequate laws...but rather in what
I'd call 'boardroom atmosphere'."
The "you scratch my back, I'll scratch yours" atmosphere of company
boardrooms has been recognised for decades. As Mr Buffett describes it, "when
the compensation committee--armed as always with support from a high-paid
consultant--reports on a mega-grant of options to the CEO, it would be like
belching at the dinner table for a director to suggest that the committee
Last week, the Wall Street Journal reported that Mr Grasso had tried to
persuade a NYSE market-maker to commit more money to the market in the
shares of AIG, America's biggest insurance company. Mr Grasso had received
complaints about the market-maker from Hank Greenberg, the chairman of
AIG. Mr Greenberg happened to sit on the NYSE compensation committee
responsible for Mr Grasso's employment contract.
The back-scratching is made more effective because it is exercised within a
relatively small circle. Fifteen years ago a book called "Les 200" caused a stir in
France by tracing the connections between the 200 individuals who, in effect,
ran French big business. In America, where the population and the economy
are so much bigger, this network is much larger. Research by The Corporate
Library, however, suggests that even in America today a small number of
individuals link with each other across the boards of the country's biggest
companies. And they compare notes.
In a report published in September, The Corporate Library claims that the
best-connected board in America is that of J.P. Morgan Chase (see table). One
of the bank's directors, William Gray, president of the United Negro College
Fund and the first black American to chair the House of Representatives'
budget committee, has the most S&P 500 company directorships of anybody
(eight). Apart from J.P. Morgan, he is on the board of Dell, Pfizer, Rockwell
Automation, Viacom, EDS, Prudential Insurance and Visteon. These eight firms
have an annual turnover of $186 billion.
A boss's remuneration is largely determined at the time of his appointment,
which follows a fairly standard procedure. At Motorola, whose CEO Christopher
Galvin resigned on September 17th, a search committee was appointed
immediately after the resignation was announced. Under the chairmanship of
John Pepper, a director who was once the boss of Procter & Gamble, it includes
Larry Fuller, a former boss of Amoco, and Douglas Warner. Mr Fuller is a
director of J.P. Morgan Chase and a member of America's best-connected
board. Mr Warner is a former chairman of the board of J.P. Morgan Chase who
now sits on the compensation committee of General Electric. Selection process
One of the first things that the Motorola search committee did was to follow
the standard procedure of selecting a recruitment consultant to help them--in
their case, the well-established firm of Spencer Stuart. To determine what a
new CEO's salary should be, consultants make use of benchmarks. For Tenet
Healthcare's new boss, for example, the comparison was with "compensation
levels and opportunities made available to executives at the company's peer
This has the effect of continually ratcheting up bosses' pay. No selection
committee wants to award their new choice less than the industry average.
That will, they feel, not attract the best man to the job, and it will also suggest
that their company has settled for someone less than average. Since the
tenure of top bosses is getting shorter and shorter, this ratcheting effect is
accelerating, especially in Europe where, according to a recent report from
consultants at Booz Allen Hamilton, the turnover of top CEOs has almost
tripled since 1995.
Warren Buffett said recently, "It would be a travesty if the bloated pay of
recent years became a baseline for future compensation. Compensation
committees should go back to the drawing board." But it is not easy to see who
will be brave enough to fight the benchmarking trend. One feature of the
recent scandals over executive pay may help: the finger is now being pointed
more directly at those who agreed to extravagant contracts in the first place.
Carl McCall, a former UN ambassador, and Jurgen Schrempp, the boss of
DaimlerChrysler, resigned from the board of the NYSE shortly after Richard
Grasso left because of the brouhaha surrounding his pay. And Josef Ackermann
is going to court for no other reason than that he nodded through handsome
golden parachutes for some Mannesmann executives.
If members of compensation committees were more regularly held to account
for the contracts which they approve, it seems likely that fewer of those
contracts would be offensive to employees, shareholders and the general
GRAPHIC: Why are company bosses being paid such large sums of money?
LOAD-DATE: October 10, 2003
The Economist October 11, 2003 U.S. Edition
Copyright 2003 The Economist Newspaper Ltd.
All rights reserved
The Economist
October 11, 2003 U.S. Edition
LENGTH: 1043 words
HEADLINE: Where's the stick? - Where's the stick?
RUNNING a large public company is a stressful and important job. Thousands
of employees and business partners and millions of customers and
shareholders rely on the good judgment of corporate chief executives, who
have to make decisions in a climate of constant uncertainty. Only the savviest
and most determined need apply. Lately, though, these adjectives hardly
spring to mind when company bosses are mentioned. For many, top bosses are
not the toughest or most talented people in business, just the greediest.
A string of corporate scandals in recent years, from Enron to WorldCom to
Tyco, have revealed senior executives apparently plundering their companies
with little regard to the interests of shareholders or other employees. And even
when no wrongdoing is alleged, huge pay awards are provoking growing
outrage. Just ask Richard Grasso, the former chairman of the New York Stock
Exchange, who went from folk hero to a symbol of excess almost overnight
when it was revealed that he was due to receive $188m in accumulated
What is now causing the most indignation, in Europe as well as in America, are
"golden parachutes" and other payments which reward bosses even when they
fail ()see page 83. Not only does it seem that bosses are being fed ever bigger
carrots, but also that if the stick is finally applied to their backside, they walk
away with yet another sackful of carrots to cushion the blow. Bugs Bunny
couldn't ask for more.
The highest-profile cases of excessive pay, unfortunately, are not isolated
exceptions. Bosses' pay has moved inexorably upwards, especially in America.
In 1980, the average pay for the CEOs of America's biggest companies was
about 40 times that of the average production worker. In 1990, it was about
85 times. Now this ratio is thought to be about 400. Profits of big firms fell last
year and shares are still well down on their record high, but the average
remuneration of the heads of America's companies rose by over 6%.
This one-way trend in top executives' pay has rightly raised eyebrows, on both
sides of the Atlantic. The supply of good bosses may be short, but can it be
that short, even during an economic slowdown and stockmarket slump? A
recent poll in Britain found that 80% of people believe that top directors are
overpaid. This summer customers boycotted a Dutch retailer, Ahold, to express
disapproval of the pay awarded to that company's new chief executive.
Unions in America and Britain want governments to be more directly involved
in regulating bosses' pay. But that cure threatens to be even worse than the
disease itself. It would be much wiser to play to capitalism's strength--its
flexibility--and to encourage shareholders themselves, the ostensible owners of
companies, to sort the problem out. For too long the missing element in the
setting of top executives' pay has been the active interest of shareholders.
Only once that comes into play can the bargaining between boards and bosses
become a more equitable affair.
Lavish pay-outs are not only costly in themselves but can also damage the
long-term health of a company. Too many bosses have manipulated corporate
results to fill their own pockets. Moreover, pay packages thought excessive or
unfair can destroy morale among the rest of a company's workforce.
So what should shareholders do? For a start, big institutional investors can
often make better use of the powers that they already possess. In Britain this
year shareholders received the right to vote on top executives' remuneration.
And yet at only one company (GlaxoSmithKline) did big investing institutions
vote against an existing package--not an impressive performance if they are
genuinely aggrieved. Beyond Lake Wobegon
The pay-setting process is characterised by what has come to be known as the
Lake Wobegon effect, after the novel "Lake Wobegon Days" by Garrison Keillor.
All Lake Wobegon's children are said to be "above average". Most boards
appointing a new chief executive will seek the advice of a pay consultant, who
will tell them the going rate. The trouble is, no board wants to pay the average
for the job. The above-average candidate which directors have just selected as
CEO, they invariably reason, deserves more. And so bosses' pay spirals
If shareholders want to break this mould they need to be far more diligent.
Greater transparency about executives' pay will undoubtedly help, and moves
in that direction in both America and Europe are to be welcomed. And yet
shareholders must also exercise more say in choosing genuinely independent
directors to select and monitor the CEO. Few public companies today in either
America or Europe have a majority of independent directors. This week,
America's Securities and Exchange Commission took steps in the right direction
by proposing an increase in the power of shareholders to nominate and appoint
directors. Once they have these powers, shareholders should make use of
That leaves the vexed question of how, and how much, to pay top bosses.
There can never be any simple, single formula for this. Much will depend on
the situation of each company. The boss of a firm in a stable or declining
industry should probably not be paid in the same way as one in a fast-growing
high-tech market. Some corporate boards ought to at least consider a return to
what was once the norm in both America and Europe (and still is in Japan) and
largely ditch pay-for-performance and instead pay largely through a straight
salary (most lower-level employees are paid this way).
Yet most boards will probably stick with pay-for-performance of some kind.
Whether in the form of options, the outright grant of shares, bonuses tied to
criteria such as earnings or revenue growth, or some other means, pay should
be explicitly aligned with the long-term interests of the owners, not short-term
blips in share prices or profits. Whatever formula is chosen, some bosses are
bound to try to manipulate it. This is why, in future, capitalism's pillars, the
shareholders who own the company, will have to become more actively
involved in choosing the directors who represent them and in policing what
they do. Shareholders, after all, supply the carrots.
GRAPHIC: Something has gone wrong with bosses' pay. The solution has to
lie with shareholders
LOAD-DATE: October 10, 2003
The Economist October 25, 2003 U.S. EditionCorrection Appended
Copyright 2003 The Economist Newspaper Ltd.
All rights reserved
The Economist
October 25, 2003 U.S. Edition
Correction Appended
LENGTH: 1972 words
HEADLINE: Tough at the top
CORPORATE leaders are having a rotten time. Accounting scandals, lavish pay
increases and collapsing stockmarkets have conspired to turn the world against
them. They are regarded with cynicism and mistrust everywhere. In America,
the bosses of big companies command only slightly more respect in publicopinion polls than used-car salesmen. Rebuilding lost trust will be slow work.
At the same time, leaders of large companies are increasingly in the public
gaze. A company's boss is now expected to take personal responsibility for its
fortunes as never before. This is reflected not just in new corporategovernance rules, but also in the way that financial markets scrutinise the
appointment of a new corporate boss and that companies feel they have to
defend executive pay packages.
Yet the task of a corporate leader has never been more demanding. This is
partly because of changing corporate structures. Big companies often operate
in many countries or product markets, and joint ventures, outsourcing and
alliances add further complexity. Layers of middle management have gone, so
that more divisions report directly to the person at the top. The pace of
innovation is quicker, new technologies have to be applied faster and product
life-cycles have become shorter.
Corporate leaders are struggling to keep up momentum in their businesses
when economic activity is sluggish. They also need time to spend with the
people they lead: for more and more businesses, the abilities of a relatively
small number of people are thought to be the key to success, and retaining
and developing their talents is vital. Swamped with e-mails (which some of
them answer themselves), voicemails and demands for appearances on
breakfast television and at grand dinners, many corporate leaders find it
harder and harder to make time to think.
In addition, for anyone in charge of a large quoted company, the level of
outside scrutiny--whether by government, consumer groups, the press or the
financial markets--is far beyond anything a corporate leader would have been
subjected to in the past. For many bosses, this sense of managing in a goldfish
bowl has become particularly onerous. The chairman of two large publicly
traded British companies says in exasperation: "I spend my life advising
friends of mine not to become chief executives of quoted companies, and by
and large they take my advice." Many look longingly at the more secluded
world of private equity.
Whatever the reason, people have come to expect more from corporate
leaders. Profiles and interviews published in the business press ensure that the
more telegenic or talkative business folk are as well known as minor Hollywood
celebrities. In the heady stockmarkets of the late 1990s, some chief executives
acquired heroic status, and not always reluctantly. As Rakesh Khurana at
Harvard Business School points out in a book debunking the cult of the
charismatic boss, in 1981 only one cover of Business Week featured a chief
executive from a Fortune 1,000 firm, but in 2000, when the markets peaked,
the number rose to 18. These days, a company's performance and, more
alarmingly, its share price, are often seen as largely determined by its CEO.
Financial markets continue to harbour exaggerated expectations. "The pressure
people are feeling at the top of organisations is unbelievable," says John
Kotter, also at Harvard Business School. If earnings growth drops 3%, he says,
the share price may fall by 30%. Yet earnings are unlikely to grow faster than
GDP for more than short periods, and GDP is likely to remain sluggish in most
countries for several years to come. Moreover, most companies jog along at
much the same pace as the rest of their industry most of the time. A recent
study by Nitin Nohria of Harvard Business School and a group of colleagues
found that fewer than 5% of publicly traded companies maintained a total
return to shareholders greater than did their industry peers for more than ten
years. To expect bosses consistently to deliver double-digit growth is to ask
the impossible.
This gap between expectations and reality has helped to sweep corporate
heroes from their pedestals, especially in America, where the cult of the
business leader went to the most ludicrous lengths. A poll in July last year
found that only 23% of Americans thought the bosses of large corporations
could be trusted, even fewer than the 38% who (unwisely) trusted journalists.
The same poll found, though, that 51% of respondents trusted accountants
(whose failings contributed to several corporate scandals), and a remarkable
75% trusted people who run small businesses.
The mistrust of big companies is obvious for all to see. Jeffrey Garten, dean of
Yale University's business school, who was touring the United States a few
months ago to promote his latest book, spoke to audiences of ordinary,
intelligent people across the country. "I was quite frankly taken aback," he
reports. "There is enormous public cynicism about the ability of business
leaders to take the public interest into account. The American public thinks that
business leaders took leave of their senses during the boom. I'm chastened by
the whole experience."
The magisterial William Donaldson, chairman of the Securities and Exchange
Commission (SEC), speaking to a roomful of bosses at a meeting of the
Business Roundtable in Washington, DC, last month, declared that the view of
American business "is as low as it has ever been", and added apocalyptically
that the system could not continue to operate "if so much of the population
thinks that business leadership has failed them". Jack Welch, still a hero to
many in spite of some embarrassing scrutiny of his retirement package from
GE, talks of a "crisis of confidence" in corporate leadership.
The crisis probably reflects three things, in roughly equal measure. First, the
scandals at Enron, WorldCom, Tyco and other companies have caused a great
deal of damage. The most dramatic of these have been in America, but Europe
has also had its share, with debacles at France's Vivendi, the Netherlands'
Ahold (albeit at an American subsidiary) and ABB, a Swiss-Swedish
multinational. So far no large, old-established company has been hit by fraud:
companies such as DuPont, Shell and Colgate-Palmolive remain solid. But the
public may not notice the difference, and some grand old names have
rewarded mediocrity with indefensible generosity.
Second, as we argued in our issue of October 11th ("Where's the stick?"),
stock prices have collapsed, but bosses' pay hasn't. "All the studies I've done
for 2002 suggest that the CEO's idea of pay for performance was to take a
smaller rise," reports Bud Crystal, who monitors executive pay. Shareholders,
meanwhile, have generally had to accept a huge cut in equity values. They are
understandably annoyed. The number of shareholder resolutions has shot up.
Complaints about bosses' pay have multiplied, even at well-run companies. At
Vodafone's annual general meeting in July, small shareholders repeatedly
departing chief executive--although the share price has performed less
attacked the board for increasing the pay of Sir Chris Gent, the company's
disastrously than that of most other telecoms companies.
Third, a great many people have lost their jobs. Running a company is always
harder in bad times than in good: morale wavers, new opportunities vanish
and mistakes are more difficult to hide. But in addition, most companies have
laid people off. In America, 3.2m private-sector jobs have gone since early
2001. Profits are recovering, but employment is not. No wonder people take it
out on the bosses.
In response, a raft of new measures has been launched to improve corporate
governance. Many governments, and some international bodies such as the
Paris-based OECD, have been drawing up new codes of conduct. Most of these
aim to ensure that boards of directors keep a closer eye on the behaviour and
competence of corporate leaders. The effect has generally been to increase the
professionalism of corporate boards, and to make them take their duties more
seriously. Companies now pay more attention to internal controls and guard
their reputation more jealously. The number of ethics courses taught in
business schools has increased markedly. But few people believe that this will
bring a big reduction in fraud, the cause of the worst recent scandals; and
hardly anyone thinks that it will make companies expand faster or invest more
wisely. Do leaders matter?
How great is the impact of the few thousand people who run the world's main
private companies? Large companies are among society's most important
institutions. In the hero-worshipping 1990s, such bosses attracted immense
adulation, especially in America. Now the fashion is changing. "Humility is in,
arrogance is out," says Andrea Redmond at Russell Reynolds, a firm of
headhunters. "They are no longer bragging. There is more emphasis on
underpromising and overdelivering," reflects Dennis Carey, vice-chairman of
Spencer Stuart, a rival firm.
But people still think that it matters who runs a company. As John Reed said
when he was boss of Citicorp: "In the old days, I would have said it was
capital, history, the name of the bank. Garbage--it's about the guy at the top."
If anything, such views are gaining ground. Burson-Marsteller, a consultancy,
regularly asks a sample of "business influencers" what proportion of a
company's overall reputation is attributable to its CEO. In 1997, when it first
put the question, the proportion was 40%; this year the figure is 50%.
There have been few systematic attempts to discover what impact an
individual corporate leader has on a company's performance, but last year two
economists, Marianne Bertrand at Chicago University's business school and
Antoinette Schoar at the Massachusetts Institute of Technology (MIT),
published a paper on the subject. They found that managers of similar
businesses ran their companies in very different ways, which made a big
difference to performance. Some managers, for instance, held more cash and
less debt, and some made above-average numbers of acquisitions. These
tended to perform worse than their peers.
Mr Nohria, together with colleagues at Harvard Business School, has gone one
step further. He has looked at a group of companies over 20 years, during
which time they had an average of three CEOs. The difference these bosses
made varied greatly from one industry to another, from a high in hotels and
motels, where the impact of the leader explained 41% of a firm's profitability,
to a low of 4.6% in paper manufacture. On average, the leader accounted for
about 14% of a company's performance. The effect is greater in declining
industries, where a relative lack of buyers or suppliers limits corporate choices.
Hero-worshippers may feel that a 14% difference in performance is scant
reward for their idol's efforts. But two other academics at Harvard Business
School, Anita McGahan and Michael Porter, calculated a few years ago that the
industrial sector in which a company operated explained only 19% of its
profitability. The implication is that, for a corporate board, a decision to choose
a new CEO is almost as important as a decision to switch sectors.
This survey will concentrate mainly on leaders at the top of the corporate tree.
It will look at the forces that shape them, at the way they are chosen, and at
what happens when they fail. It will argue that having a grand vision is often
less important than getting things done. But because these leaders set the
ethical tone in their business, they can play a big part in helping to regain the
public trust that has been lost in recent years. Capitalism depends on trust, so
this is a truly important job.
CORRECTION-DATE: November 15, 2003
In our survey of corporate leadership ("Tough at the Top", October 25th ), we
said that Larry Bossidy was running Honeywell. In fact, he has not been chief
executive since February 2002. David Cote holds the post. Sorry.
GRAPHIC: The jobs of big-company bosses have become more difficult and
less glamorous, and their image has taken a terrible pasting. Frances
Cairncross offers a survival guide
LOAD-DATE: October 24, 2003
The Economist December 11, 2004
Copyright 2004 The Economist Newspapers Ltd.
All Rights Reserved
The Economist
December 11, 2004
U.S. Edition
LENGTH: 840 words
HEADLINE: CEOs and their Indian rope trick;
Executive pay
Executive performance and executive pay
The link between pay and performance is weak
EXECUTIVE pay should reflect performance, right? But does it? A recent survey
by the Hay Group, a consultancy, puts the average basic annual salary of the
chief executive of a large American firm at $1m. But his total remuneration is
more like $5m. Some of the extra comes in perks, but most is "variable pay"—
bonuses and stock options that supposedly relate to the performance of his
firm. That high level of variable pay should lead to sizeable fluctuations in total
remuneration, as good years follow bad, and vice-versa. Yet for a while there
has been little sign of that.
Performance-related pay is meant to align executives' rewards with those of
shareholders. And indeed top executives' remuneration spiralled up, with the
stockmarket as a whole, in the boom years at the end of the 1990s. But it
continued to levitate thereafter, like the subject of an Indian rope trick. Mercer,
a consultancy, says that the median compensation of bosses of big American
firms (a different sample from Hay's) rose from $5.2m in 2000 to over $7m in
2001, a year when tumbling share prices cut shareholders' assets by some
12%. (Though, to be fair, performance pay is often paid after some delay, so a
close correlation between pay and share price in any given year would be
The differential between the pay of top executives and their workers has
grown. In 1991 the pay of the average American large-company boss was
about 140 times that of the average worker; by last year, it was over 500
times, and growing. Last year's 7.2% rise in the average American boss's total
compensation is worth over $400,000—nice work, if you can get it.
In aggregate, the sums forked out in pay to top American executives are now
enormous. According to Lucian Bebchuk of the Harvard Law School and
Cornell's Yaniv Grinstein, the top five executives of 1,500 large American
companies in 1993-2002 received a total of about $250 billion.
The Hay Group reckons that a European chief executive's basic salary is much
the same as that of his counterpart across the Atlantic. But variable pay adds
only 150% to that, as against 400% in America. And far more of the
European's package is in bonuses and free shares linked to the performance of
the company relative to its sector or an index, rather than in options which
relate rewards solely to the movement of the company's share price.
Will American practices spread worldwide? Watson Wyatt, an employeebenefits consultancy, says that American multinationals increasingly are
applying a common compensation scheme to all their operations. But Mark
Reid, the head of Towers Perrin's UK compensation practice, says that
investors in British companies have recently become far more involved in
setting executives' pay and are opposed to the globalisation of American
norms. The chairman of a big British company's remuneration committee now
talks with its 10-15 biggest investors about top-level pay regularly, once or
twice a year. "The degree of dialogue has changed enormously," says Mr Reid.
Levels of disclosure in Europe too are improving—often from next to nothing.
Last month the European Commission recommended that, each year, firms
release a breakdown of all the components of their directors' fixed and variable
pay. It urged Europeancountries to take suitable measures by the end of June
2006—measures already established in Britain and being gradually adopted in
Germany's Cromme Commission recommended last year that firms publish
details of the remuneration of individual board members. To date, they have
only been required to release aggregate figures. So far nine out of the 30
companies on the German stockmarket's DAX index have complied.
DaimlerChrysler and Porsche say they will hold out for non-disclosure, but the
government has threatened to enforce disclosure by law if companies do not
do it voluntarily.
The issue is now at the forefront of the corporate-governance agenda. In
November, CalPERS, America's largest public pension fund, vowed to hold
"directors and compensation committees more accountable for their actions."
(Its president was forced out soon after.) Last week William Donaldson, the
chairman of the Securities and Exchange Commission, told compensation
committees to focus more on performance-related pay schemes.
The likely introduction of accounting rules that will compel American companies
next year (for the first time) to "expense" share options—ie, measure and take
into account their cost—will reduce their attraction. That prospect has already
persuaded companies such as Microsoft, Cisco Systems and Hewlett-Packard to
change the assumptions underlying their option schemes in order to reduce
their potential impact on the bottom line.
The new rules should not, however, deter companies from trying harder to
design compensation schemes that more closely align actual pay with actual
performance. Huge pay packets for bosses would be much less controversial if
there was evidence they had actually earned them.
LOAD-DATE: December 10, 2004
Copyright 2004 The Economist Newspapers Ltd.
All Rights Reserved
The Economist
May 29, 2004
U.S. Edition
LENGTH: 743 words
HEADLINE: Greed is bad;
Spitzer v Grasso
Richard Grasso, self-professed "CEO of capitalism", is sued for being too
THE symbolism of a case is rarely so perfect: Dick Grasso, who spent eight
years atop the New York Stock Exchange (NYSE) as a combined mascot and
regulator of the world's biggest companies and investment banks, is being
sued for the era's most egregious excess: executive compensation. On May
24th, New York's attorney-general, Eliot Spitzer, filed civil charges against Mr
Grasso, demanding the return of at least $100m, slightly more than half of
what he may have been eligible to receive in his final years on the job.
Characteristically, Mr Grasso said he was worth every penny, demanded an
apology and offered vague threats of a counter-suit.
A trial now seems inevitable. Joining Mr Grasso as a defendant is Ken Langone,
former chairman of the NYSE's compensation committee. Mr Spitzer has
already reached settlements with Frank Ashen, former head of the NYSE's
human resources team, and Mercer Human Resource Consulting, which had
analysed Mr Grasso's pay for the board. Both have admitted providing
inaccurate information. Mr Ashen will give $1.3m back to his ex-employer;
Mercer will return the fees it charged the exchange in 2003.
Also spared from being the direct target of litigation are the members of the
NYSE's board (Mr Langone apart), a list that includes many a Wall Street bighitter. A line was drawn, Mr Spitzer said, between those who misled and those
who were misled, though everyone in this grubby tale would "live to regret"
their involvement.
Although the board will not be at the defendant's table, their actions are likely
to be closely scrutinised in any trial. Mr Grasso's compensation reflected a
"paradigm for misbehaviour" by a board, and a "fundamental breakdown of
corporate governance", says Mr Spitzer. The defendants intend to provide
voluminous information showing that the board was fully aware of Mr Grasso's
pay and therefore, presumably, complicit in his actions.
The case against Mr Grasso rests largely on the allegation that his pay package
violated New York's Not-for-Profit Corporation Law, which governs the
exchange. That law states that executive pay should be "reasonable" and
"commensurate with services provided". Mr Grasso's was nothing of the sort,
says Mr Spitzer. His salary and bonus for the four years from 1995 were
$17.8m; in the following four years they were $80.7m. Mr Grasso benefited
from a dizzying array of programmes, including such delights as the
Supplemental Executive Retirement Plan and the Supplemental Executive
Savings Plan.
Perhaps the most damaging allegations concern how Mr Grasso ran the
exchange. According to the complaint, he "had the authority unilaterally to
select those who served on the Compensation Committee. He also regulated
most of them. This conflict allowed Grasso to influence directors who might
have wanted to pay him less, and to reward directors who would pay him
more." In other words, the bankers on the committee, appointed by Mr Grasso,
paid him vast sums, in return for which he helped smooth regulatory problems.
The NYSE described in the complaint is controlled by a man willing to trade
favours. The most disturbing anecdote concerns a meeting of Wall Street
leaders with the then chairman of the Securities and Exchange Commission,
Harvey Pitt, in 2001. Questions were raised about tainted research by stock
analysts. A response, Mr Pitt reportedly said, should be organised by the
exchange and the industry. Mr Grasso, it is alleged, responded by giving the
heads of two of the firms that employed the analysts places on the NYSE
board, and then pushing through a lucrative new contract for himself.
Yet for all this, the case is not clear-cut. Much rests on what is "reasonable"
pay. At the NYSE Mr Grasso built market share, and the value of a seat on the
exchange tripled. He was also a good lobbyist in Washington. But most of the
improvement at the NYSE was due to a raging bull market.
Until now, Mr Spitzer's strategy has been to state a case and watch opponents
settle rather than suffer damage to their business. But Mr Grasso no longer has
a business, and he too is used to people settling on his terms. He has come out
fighting, claiming that Mr Spitzer's suit "smacks of politics". (Mr Spitzer has his
eye on the governorship of New York.) Mr Grasso seems to be betting that,
however distasteful a jury finds his compensation, it will find the alternatives
GRAPHIC: Spitzer: the barbarian at the gate
LOAD-DATE: May 28, 2004
The Economist October 25, 2003 U.S. Edition
Copyright 2003 The Economist Newspaper Ltd.
All rights reserved
The Economist
October 25, 2003 U.S. Edition
LENGTH: 2290 words
HEADLINE: Coming and going
FINDING the right person to lead a big company is as important, in terms of its
effects on human lives, as choosing the right leader for a small country. Yet
the decision often seems to be taken in a curiously random way, and to judge
by the brevity of many new chief executives' term of office, boards find it
extremely hard to get right.
Many companies still think about succession later than they should. But they
are getting better: a survey of American boards by Korn/Ferry, a consultancy,
found that this year 77% had some sort of succession-planning process in
place, up from 33% two years ago. And all too often, the chief executive still
dominates the search for his own successor, although again things are
improving, and boards are playing an increasing part. So they should: picking
a new boss is by far their most important job. They tend to want to look at
external candidates, even if they have an internal one in mind. And when
things go wrong at a company, boards frequently bring in an outsider, often
under pressure from institutional investors to pick a fresh face unconnected
with past problems. Search companies, too, generally have an incentive to
encourage an outside choice because it will earn them bigger fees.
Overall, though, most chief executives are internal appointments. Of all the
CEOs of the current Fortune 100 companies, fewer than ten have been
appointed from outside. That makes sense. Not only does an internal candidate
usually cost much less, but a well-run company should anyway have a bank of
potential leaders to choose from, and good succession planning allows
everyone to watch the hopefuls' performance in several key jobs.
In addition, argues Sir Terry Leahy, the chief executive of Tesco, Britain's most
successful grocery business, an internal appointment gives a candidate time to
prepare. He knew two years in advance that he would be the next boss.
"You're actually laying the foundations before you get the job," he recalls. He
argues, too, that internal appointments make it easier for businesses to
withstand hard times: the top people have been through past downturns, and
"it burns into the memory."
On the other hand, boards sometimes judge inside candidates more harshly
than outsiders. Anne Mulcahy, the capable CEO of Xerox, was initially passed
over in favour of Richard Thoman, a protege of IBM's Lou Gerstner. And in a
company with a strong culture, observes Sir Terry, a danger with internal
appointments is that "people may be so in awe of the past that they can't
make big changes." Marks & Spencer, once Britain's most famous retailer,
almost vanished into this trap.
For family firms, the decision whether to recruit a new leader from within the
family or to pick a professional manager from inside or outside the firm is often
a highly emotive issue. No family can rely on breeding high-quality executives
with every passing generation (for proof, see the fate of Chris Galvin at
Motorola), and a professional manager who runs a firm for a group of family
shareholders may have to act as therapist or referee as well as corporate boss.
But when it works, a new chief executive can enjoy an even longer period of
preparation than Mr Leahy's. Jeffrey Swartz, the third-generation boss of
Timberland, a maker of outdoor clothing, notes that his third child is the one
who shows most interest in the business. He plans to send the ten-year-old off
with his grandfather to visit factories and see how shoes are made. The perils
of a new face
Outside appointments to the top job are most likely when a company is in a
mess. Larry Johnston, who two years ago became CEO of Albertsons,
America's second-largest supermarket retailer, found a company that had lost
its way after a huge merger two years earlier. "The company was in turmoil,"
he recalls.
Mr Johnston had learned in the course of a long career at GE that "if you don't
do it in the first 100 days, you don't work here any more." He shoved through
difficult changes at high speed, arguing that many of them should have been
made straight after the merger. He slaughtered sacred cows: "A lot of things
are very emotional, and I try to keep the emotion out of it." But even the
ferociously energetic and unemotional Mr Johnston took no chances: he
insisted on a ten-year contract before he would take the Albertsons job. "These
are big ships to turn," he says.
Newcomers lack one of the key advantages of the insider: a network of
loyalists in the company who can help them lead. An outsider has to build such
a network very quickly and may pick the wrong people. It generally takes two
to two-and-a-half years for a new senior manager to get used to new
colleagues, a new culture and new ways of doing things and truly take charge.
But markets are reluctant to give chief executives even that long. BursonMarsteller's recent study of business influencers asked how long they thought
it took to turn a company around; the answer was an average of a mere 22
A chief executive who is perceived to be failing may be quickly dumped. A
study of CEO succession in 2002 at 2,500 big publicly traded companies
around the world by Booz Allen Hamilton, a consultancy, found that two out of
five of all chief-executive successions that year were "involuntary,
performance-related turnover"--or, to put it bluntly, sackings for
underachievement. That is a sharp increase on the previous year (see chart 4,
previous page), and is spreading rapidly from America to other parts of the
world, especially to Japan, where companies have been impressed by the
difference Carlos Ghosn has made to the car business of Nissan.
Boards and investors seem to be getting ever more trigger-happy, and
increasingly unwilling to give a boss the benefit of the doubt. Harvard Business
School's Mr Khurana has calculated how much riskier the boss's job has
become in America. For the same level of corporate performance, a CEO
appointed between 1990 and 1996 was three times more likely to be fired than
one appointed before 1980.
The Booz Allen figures suggest that the risks at the top have continued to rise
since then. In 2000, the median shareholder returns generated by fired chief
executives were 13.5% percentage points lower than those produced by
bosses who retired voluntarily; in 2001, only 11.9% lower; and last year a
mere 6.2%. Moreover, many of those who got the chop were working in
industries that had crashed: by far the highest rate of firings was in telecoms.
Outside hires are far more likely to be fired than insiders: their average tenure
is three years shorter. On the face of it, this seems unfair: in the first half of
their term in the job, outsiders deliver returns to shareholders nearly seven
percentage points higher than insiders, according to Booz Allen. But in the
second half of their term, a time when all chief executives see a slump in
shareholder returns, outside hires suffer a bigger setback, lagging insiders by
five-and-a-half percentage points. It may be that the initial higher returns are
related less to wise policies than to a honeymoon in the markets: the first
response to the arrival of a well-regarded corporate star at a wobbly firm is
usually a sharp boost to the share price. When it eventually becomes clear that
solving the problems will be neither swift nor simple, disillusion sets in.
The increasing riskiness of the market for top jobs in public companies helps to
explain the absurdly generous terms that incoming bosses demand. A sacked
CEO, says Tom Neff, chairman of Spencer Stuart and doyen of America's
recruiters of chief executives, "may be literally unemployable". He is extremely
unlikely ever to run another public company, although he may be able to "hang
on to a board or two" as a non-executive, or to gain a seat on the board of a
couple of unimportant companies. Hardly anyone returns from the dead. No
wonder that, according to Mr Neff's colleague, Dennis Carey, it generally takes
a 30% rise in compensation to persuade a senior executive to make a move.
"Wall Street remembers failure," he says.
But the risk cuts both ways. For a company, hiring from outside means upping
the stakes--which is why venture-capital companies are more willing to do it.
No wonder Mr Collins found that exceptional companies were
disproportionately likely to appoint a "quiet, stoic, workmanlike" insider rather
than acquire a charismatic outsider. "Charisma is a leadership liability," he
insists. "You can compensate for it, but compensate you must."
For companies determined to hire from outside, there are three ways to play
safe--perhaps four. First, counsels Mr Collins, look at companies that the
candidate has run in the past. How well did they do after he left? Anyone can
puff up short-term returns, but sometimes the successor has to foot the bill.
Second, look at the track record of the search firm. If people it has
recommended to other companies have been disproportionately prone to losing
their jobs, avoid it. Anna Mann, co-founder of Whitehead Mann and the
eminence blonde of British headhunting, has tended to bring to boards not
charismatic superstars but almost unknown candidates, often from abroad. Her
recommendations have included Luc Vandevelde at Marks & Spencer, Francisco
Caio at Cable & Wireless and Ben Verwaayen at British Telecom. "It requires a
lot of confidence for boards to appoint someone on credentials and merit rather
than name," she admits. But British boards, she says, are more willing than
American ones to ignore the "wow" factor.
Third, pick someone from the same or at least a similar industry. Considerable
research suggests that at least part of an individual boss's performance
depends on context: the industry, the company, the culture in which he is used
to operating. In that sense, corporate bosses are like star analysts on Wall
Street: work by Boris Groysberg and Ashish Nanda of Harvard Business School
suggests that on average such analysts' performance declines when they
change firms. The GE talent machine
And if all else fails, pick a senior executive from GE. The company is easily the
world's best machine for churning out corporate talent. "There's reason to
believe that they are a better training ground than we are," says Harvard
Business School's Mr Nohria, adding hastily, "though our cumulative record is
better." With Mr Groysberg, he has been conducting a study of what happened
when a company hired one of the bevy of GE executives who left during Mr
Welch's tenure or after failing to become his successor (see table 5, next
page). The effect on a company's share price is remarkable. On average, the
stockmarket reaction to the hiring announcement is a gain of about $1.3 billion
for the hiring firm, but no change in GE's share price. Traders seem to believe
GE is so crammed with good leaders that it can afford to lose a few. Overall,
the study found that the moves by 19 GE stars immediately added an
astonishing $24.5 billion to the share prices of the companies that hired them.
But there is better to come. Like Mr Johnston at Albertsons, GE executives
tended to join severely underperforming firms. By the time they arrived, the
companies' total shareholder returns over the previous year had been on
average 14.5% worse than the performance of the market. In contrast, the
shares of rival firms in the same industry had outperformed the market by
3.4% over the previous year.
On the day the appointments of the men from GE were announced, shares in
the firms that hired them jumped by an average of 10.4% (relative to the
performance of the market). Even leaving that to one side, they
outperformed the market by 3.1% over the first year and by 15% over the first
three years. Their competitors' shares beat the market by more in the first
year--5.3%--but by only 7% over the first three years. A year after the people
from GE started their new jobs, 11 of the 19 companies they joined were
already outperforming their competitors and the overall market. Seven of the
19 had acquired their new boss too recently to look at a longer record.
However, three years on, six out of the remaining 12 were outperforming
rivals; and seven out of 12 were doing better than the market.
Why do GE people do so well, even in industries with which they are
unfamiliar? The answer seems to be that GE's top brass spend their lives
darting from one sector to another, completely different one, to learn the skills
of managing against quite different backgrounds. Jeffrey Immelt, who took
over from Mr Welch, had managed in three quite different businesses: plastics,
where marketing is central; appliances, where costs are paramount; and
medical systems, a global high-tech business.
Christopher Bartlett, another Harvard Business School academic who is
studying GE's approach, explains that the company began to build the capacity
to train future CEOs when Mr Cordiner was chief executive in 1958-63. As he
split the company into many decentralised divisions, he saw the need to breed
people who could run them. Besides founding Crotonville, he set up the
process for reviewing and developing people that GE uses to this day. His
successor, Fred Borch, set up a central team with the task of developing and
cataloguing the company's top talent, to prevent divisional bosses from
hoarding it. Mr Welch linked the whole structure to pay incentives for good
The argument against conglomerates such as GE is that financial markets are
better at allocating financial capital than managers. "But what if the scarcest
resource is human capital?" asks Mr Bartlett. "That is something GE allocates
better than the market could."
GRAPHIC: The turnover of top bosses has risen alarmingly
LOAD-DATE: October 24, 2003
The Economist April 12, 2003 U.S. Edition
Copyright 2003 The Economist Newspaper Ltd.
All rights reserved
The Economist
April 12, 2003 U.S. Edition
LENGTH: 1009 words
HEADLINE: Corporate Governance Mom
IN A recent speech, Nell Minow told a story that sums up her two careers. She
once wrote an online advice column, as the "Movie Mom". One parent wrote to
say, "My two-and-a-half- year old knows how to work the VCR. Even when I
tell her not to, she still does. What should I do?" Ms Minow replied sternly,
"Someone has to be the grown-up, and you lose...If you can't make the rules
in your house, you're going to have a much bigger problem than videos." That
day, she went on, she had come across an employment contract giving a chief
executive below-market-price options worth $20m, plus free first-class travel
for his family, mother included, to visit him each month. Global Crossing's
contract was so "shockingly terrible" that it was like getting a letter from the
board saying "Dear Corporate Governance Mom, I tell the CEO that pay and
performance should be linked, but he says no. What should I do?" And she
wrote back, "Someone has to be the grown-up, and you lose..."
This is a good time to be a corporate moralist. When she is not reviewing films
for Yahoo!, Ms Minow's stock-in-trade is pointing out bad behaviour in the
boardroom. Sharp, articulate and angry, she deplores the greed of chief
executives and the spineless response of compensation committees, as editor
of The Corporate Library, an online database of company information. Some of
the reforms she has supported may soon become stockmarket listing rules.
Does she see this as a moment of triumph?
Not yet. Even at the scandal-ridden companies of the past year, the clean-up
team does not always seem to have learnt lessons, she points out. Tyco, for
instance, has made some governance reforms, but it has refused to replace the
audit firm that failed to uncover massive abuses by its former chief executive
or to give up its Bermuda domicile, which insulates it from shareholder
litigation and so genuine accountability. At WorldCom, where Michael Capellas
was brought in to clean up the mess left by Bernie Ebbers, the bankruptcy
court vetoed his proposed compensation package as "grossly excessive".
One test will be what happens to executive compensation. If governance has
improved, surely bosses' pay should mirror performance--and thus, like share
prices and profits, be lower on average this year. In fact, an analysis by the
Investor Responsibility Research Centre of the 2002 packages of 180 chief
executives (none of them new recruits) from the 1,500 largest S&P companies
finds that the median salary rose by 9%, the median cash bonus by 24% and
the median value of awards of restricted stock by almost 20% over 2001
levels. The median number of share options granted rose by 7.5%, and both
the value of options held and the median value of options exercised held
True, these results mainly reflect policies set at the start of 2002, before public
outrage against corporate excesses really got going. But there are ominous
signs: at Sprint, the board is buying Gary Forsee from BellSouth for $14.5m in
restricted stock and a guaranteed bonus--"my favourite oxymoron," says Ms
Minow, who reckons that boards still pay bosses big rewards with little regard
for performance. "The less variability the candidate is willing to take on in the
pay package, the less suitable he is for the job, especially in a turnaround
situation," she says. Boards are bad at saying no to chief executives, who in
effect set their own pay. "The overwhelming advantage the CEO has in
selecting 'his' directors" remains a formidable obstacle. Where are the
Still, there are hopeful signs. There will, she thinks, be more turnover in the
boardroom in the next year than in the past ten--and "the new crowd will do
better, or at least if they don't, they won't last long." The Sarbanes-Oxley act
does not alter much, she argues, but the listing rules that the New York Stock
Exchange is proposing may do. The requirement that directors meet regularly
without the presence of the chief executive will be immensely beneficial. She is
also keen on a new Securities and Exchange Commission rule that will
eventually require the disclosure of money managers' proxy votes and voting
But government has limited power to bring about governance change. The
answer, argues Ms Minow, lies in the market: the government's job ought to
be to remove obstacles that prevent the market from working and stop
shareholders exercising their power. Such a view is not surprising, given her
background: she has worked since 1986 with Bob Monks, one of America's
best-known champions of better corporate governance, setting up Institutional
Shareholder Services, which advises big institutions on casting proxy votes.
The Corporate Library has built up a wealth of data on executive pay and
contracts, and a database of the myriad ways in which directors are connected,
rather than independent. It is now establishing a rating system for good
governance, to be launched soon, on the theory that directors will care about
the stigma of a bad grade.
Maybe they will. Certainly, shareholders are more assertive at this year's
annual meetings than they have been for a long time. Taking the lead, as ever,
is CalPERS, California's state pension fund, which is urging General Electric's
shareholders to demand that its executives' share options be performancerelated. Shell's shareholders have threatened a revolt over boardroom pay.
Shareholders at Hewlett-Packard's annual meeting kicked up a stink about a
plan for generous severance packages for senior executives. And some
technology companies are restricting the use of share options, in response to
grumbles from investors.
Yet the worry is that, even after all the corporate scandals, so few shareholder
resolutions are likely to succeed. Too many shareholders are content to let
bosses remain largely unaccountable--the investing equivalent of leaving the
kids in front of the TV while you go to the pub. If only more shareholders
shared Ms Minow's robust approach to corporate parenting.
GRAPHIC: Nell Minow thinks that America's bosses still need better parenting
LOAD-DATE: April 11, 2003