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Monday, December 11, 2006

Pay for Performance?

Pay for performance is a frequently used corporate mantra these days. The idea is that companies should rewards their top employees with higher pay, while doling out minimal raises to underperformers or even laying them off. While the policy may be frequently used to judge the performance of regular employees, surprisingly that policy doesn't seem to be applicable to executives at some well-known firms. Despite mediocre performance of such companies, executives seem to be raking in lot of money.

Consider the examples given in the Business Week magazine. Based on the information provided in the Dec 18, 2006 issue of the Business Week magazine, Terry Semel at Yahoo is estimated to have earned $53.3 million during the period in which Yahoo's stock returned -32.9%. Similarly, Robert Nardelli at Home Depot is estimated to have earned $35.8 million while Home Depot's stock dropped -7.5% during the study period. Are these executives being penalized for their performance or they getting rewarded?

In contrast, consider the case of Zoll Medical whose CEO earned comparatively low compensation of $530,019 but the stock gained 99.4%. Similarly, A.I. Cross's stock gained 99.7% while its CEO is estimated to have a total compensation of $536,800!

Based on the examples listed in the magazine, the disparity in the performance of the CEOs based on the criteria of stock returns is enormous! I believe that pay should be tied to the performance of the employees but that rule should be universal. At many firms, executives seems to play by a different set of rules than those that apply to regular employees. I feel that even at the most large and complex firms, the total compensation of several million dollars for the CEOs is just excessive. As the examples in Business Week show, doling out excessive compensation in no way guarantees that the company will perform well under that executive. In fact, on the contrary, the excessive compensation of the executives tend to act as a drag on the income of such companies and that often gets reflected in the stock returns of such companies.

On the other hand, the data suggests that companies that seem to reign in executive compensation do not suffer from bad performance. Despite the relatively low compensation of CEOs at firms like Zoll Medical, A.I. Cross and WD-40, their stocks had good returns. When firms talk about things like cost controls, pay for performance or cuts in benefits, I believe that it should start from the top. Not only there is often too much fat at the top level but I believe that by starting such initiatives at the top, the firms can set a good example for the rest of the company. Too often, the benefit reduction, salary cuts, etc apply to regular employees while additional perks get doled out to the top level executives. What kind of example does it set for regular employees?

For the detailed data, click the link below to go to Business Week's site:

Business Week's article

posted by Ruby @ 6:50 AM

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