The Truth About CEO Compensation
By Jeffrey M. Cunningham, professor of leadership and innovation at Arizona State University, and host of IconicVoices: conversations with game changers, a YouTube series.
In 2013, Steven N. Kaplan published a paper that alarmed scores of anti-business activists.
A University of Chicago Booth business school professor, Kaplan looked at the arcane but critical subject of CEO compensation from a historical perspective and aligned those findings with corporate governance best practices.
Specifically, the long-tenured professor’s research challenged the oversimplified meme that all CEOs are grossly overpaid and yet their pay continues to rise, or that CEOs aren’t subject to pay for performance and finally, that boards do not penalize CEOs for poor performance.
Kaplan has been on the stump ever since, warning that if boards acquiesce to statistical misconceptions they will penalize good CEOs with lower pay they risk losing increasingly hard-to-find talent to fill the most demanding jobs, and ultimately do harm to shareholders they are paid to represent.
What led you to wonder whether CEO compensation was being misperceived?
Since the early ’90s, there’s been a spotlight on CEO pay. I was thinking about the fact that people on boards tend to be quite accomplished, and given the overwhelming scrutiny, how could they be getting it so wrong? Then there was an inconvenient fact that corporate profits calculated after compensation is awarded are at an all-time high. These two somewhat conflicting observations led me to say, “Let’s take a look at this.”
I also had a third epiphany of sorts.
Many of the MBA students that I teach go into private equity and Wall Street firms, and it wasn’t clear to me that they were making less money than the CEOs of public companies, but without the scrutiny. As an academic, I wanted to get to the bottom of this issue scientifically.
What was it during the ’90s that so profoundly affected CEO compensation?
Number one, the Internet boom and the IPOs that followed. Then, India and China opened up their markets, so it was the combination of the tech boom, globalization, and a rising stock market which led to a big increase in the ’90s. Stock options weren’t valued in those days — some-
thing boards have since rectified once the accounting changed — and that could also have been a factor.
Are boards doing an adequate job of assessing whether the CEO is fairly paid or overpaid?
Boards are not perfect. But if you look at output, U.S. corporations have done spectacularly well, so boards have, on the whole, done an outstanding job measured against that parameter. Other factors apply here as well. First, you have an active market for CEOs, and at the levels we are discussing, the market tilts in favor of the CEO. Also, CEOs today tend to turn over more quickly because the job is less secure. Activists are one reason, and there are other factors that all merge to make the job of chief executive more demanding than ever. That will have an effect on compensation. So, under these circumstances, there are probably CEOs who are overpaid but there are also CEOs who are underpaid. On the whole, the median or average CEO pay levels at the very top firms are about where they were 15 years ago.
Finally, you looked into the key factors of successful CEOs and then developed a theory called PEP, for “persistent, efficient, and proactive.” Tell me about that.
I call them bulldog characteristics. We are finding the key factor in a CEO’s success is “you’ve gotta get stuff done” and push the organization forward. Unlike the most popular management theories, we found that interpersonal characteristics were far less relevant. Now, we are not recommending hiring efficient jerks. It means that somebody can have great interpersonal skills, but if he or she doesn’t push forward and get things done, they won’t be successful. So I would say to any board of directors, if you want to hire someone who will succeed, hire someone who gets things done.
Does ‘getting things done’ trump strategic skills?
Let’s put it this way: if you have a great strategy but you don’t push, then good people get frustrated and leave. So the need to make things happen is paramount even to strategy.
Editor-at-large Jeffrey M. Cunningham is professor of business and journalism at Arizona State University, the founder of Directorship Magazine, former publisher of Forbes Magazine, and host of IconicVoices.org a YouTube series of interviews with global thought leaders.
The original version of this article appeared in the May/June 2015 issue of NACD Directorship.