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Ixnay on ‘Say on Pay’

The Dodd-Frank financial overhaul law gave shareholders a vote on executive pay. It turns out that they usually approve compensation packages by margins Fidel Castro would have envied.

The “say on pay” experiment is a bust.

The Dodd-Frank financial overhaul law gave shareholders the ability to vote on the pay packages of top executives, and it turns out that they fall over themselves to approve.

More companies are achieving Fidel Castro-like election results this year than in the first two years since Dodd-Frank started requiring such votes. A full 72 percent of companies reporting votes so far have received 90 percent or more shareholder approval for their pay packages. That compares with 69 percent in both 2012 and 2011, according to Equilar, an executive compensation consultancy.

And shareholders are feeling relatively magnanimous about the rotten apples, too. Only 41 companies out of nearly 1,800 failed so far this year on say-on-pay votes, compared with 49 companies at this point last year, according to the companies tracked by the executive compensation consulting firm Semler Brossy.

Troublingly, investors pass larger companies more readily than they do smaller firms. But the chief executive of a large company deserves more scrutiny over pay, not less. That’s partly because the livelihoods of so many people depend on people running big firms, but also because those executives are largely caretakers of already established institutions. Typically, they have displayed neither vision nor entrepreneurialism but an ability to rise through a bureaucracy without offending anyone. When they arrive on the throne, they typically do a little bit better or a little bit worse than their predecessor, without distinguishing themselves in the least. Yet, they get paid as if they were the second coming of Henry Ford.

The final strike against say-on-pay is that it has had no impact on the level of compensation. Quite the opposite. Pay for chief executives was at its highest level ever last year, up 6.5 percent from a year earlier, according to an Equilar analysis. After a brief dip at the height of the recession, pay for corporate chieftains rose 6 percent in 2011 and soared 24 percent in 2010. For those keeping score at home, that sharply outpaces inflation, which was a piddling 1.7 percent last year. Median worker pay didn’t keep up with rising prices in those years.

These results demonstrate that shareholders don’t care about pay if their stocks are going up. But if say-on-pay merely takes the temperature of the stock market, why bother? Stocks usually go up and down together, especially in a market driven more by Federal Reserve monetary policy than by individual corporate performance.

Permission is hereby granted to relinquish any hope that shareholders will try to distinguish between the chief executives who are “worth” their giant pay packages and those who aren’t.

But what did anyone expect from say-on-pay? It’s yet another example of Dodd-Frank’s ineptitude and impoverishment. The Securities and Exchange Commission finalized its say-on-pay rule, required by the financial overhaul, in January 2011. And what did it come up with?

The vote was nonbinding. It’s as if the government wanted to allow shareholders to conduct a primal scream. Instead, they whisper sweet nothings. And companies are required to hold the votes only once every three years. So the rule didn’t force companies to comply with anything. Instead of making policy to address the problem, Congress and the regulators came up with toothless P.R.

Corporate chieftains may think: Whaddya gonna do, sue me? Well, that’s been tried. And the plaintiffs’ bar has whiffed. According to an analysis by the law firm Haynes and Boone, a series of lawsuits filed in 2010 and 2011 alleging breaches of fiduciary duty went nowhere. The following year, a bunch of suits contended that companies had inadequately disclosed their compensation plans. The suits accused directors of violating their duties, and charged the companies with aiding and abetting, but they, too, mostly fizzled.

There is a clear winner, here, of course. As a result of say-on-pay, the SEC now requires tables upon tables of indecipherable material, so companies indulge in an orgy of disclosure. As with most regulation these days, corporate law firm partners emerge victorious, on the backs of the poor associates who have to wade through these materials in the wee morning hours.

So that was a bust. We can’t count on shareholders to be assertive. The plaintiffs’ lawyers, unsurprisingly, can’t make much hay out of possible noncompliance with a nonbinding vote.

The best we could hope for is that say-on-pay shifted the social norms about compensation. Maybe executives would be embarrassed not to win fulsome support from their shareholders. Well, it turns out that many millions of dollars comforts a chief executive just fine on those lonely nights after the rare shareholder rebuke.

And putting shareholders in charge of enforcing social norms is like having Lindsay Lohan advise Miley Cyrus on temperance. Active managers are an underperforming bunch. They aren’t exactly rushing to call attention to other underperformers. And as Harvard Business Review’s Justin Fox has pointed out, they share an interest with chief executives in remaining overpaid.

A new study from the left-leaning Economic Policy Institute notes that the rise in incomes for the top 1 percent — and especially the top 0.1 percent — is mostly accounted for by the rise in compensation for top corporate executives and finance professionals. Without those two groups, income inequality in this country would be substantially lessened. And the institute’s study contends, persuasively, that this rise has been in excess of what these people would require in order to be motivated to do their jobs.

The pay problem is often ascribed to crony boards of directors paying off their buddies so they in turn can receive excess pay. But having shareholders judge these packages replicates the problem. One overpaid class rewards another.

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