Beyond the media hype
Media shorthand; “excessive pay”, “reward for failure” and the “golden parachutes” are understood by us all and point to a broken system. However, I think it’s a small step from this corporate caricature to a more considered debate. While many people may say that executive pay should be reduced, if asked whether private sector pay, including their pay, should be controlled by government, there would very likely be less enthusiasm for state intervention of this kind.
I would expect that if our government wished to legislate to enforce a ‘general will’ to control pay it would be relatively simple to do so, but not necessarily effective, by enacting legislation. And it wouldn’t be unchartered territory. France has recently introduced a 75 per cent ‘super-tax’ on incomes over £800,000 a year. Another approach is to introduce a maximum pay multiple which aims to tie the earnings of senior executives with what is earned by staff.
An added dynamic to this issue is the UK’s weak economic performance which has left few of us unaffected and generally less tolerant of perceived unfairness.
Reforms on the horizon
Vince Cable’s executive pay reforms have sought to address this highly emotive subject following the most significant consultation on this issue in a decade. At the risk of oversimplification, the reforms appear to reflect a view that the battle that needs to be won is preventing high pay for poor executive performance, rather than high pay in general.
Instead of imposing an agreed or capped rate of pay, the question as to what a management team should be paid is to continue to be determined by the owners of a business; the shareholders. Cable’s reforms give shareholders greater information through increased transparency on what executives are paid. As a result, assessing pay against company performance is far easier - excessive pay should stick out like a sore thumb. A company being outperformed by its competitors but with higher levels of executive pay will have to justify such an anomaly.
Shareholders also gain greater powers through the introduction of binding votes on remuneration. The agreed policy will set out the parameters for how executives will be paid for up to three years.
Pay for performance?
Payouts to poor performing executives who resign or are sacked are also tackled explicitly in these reforms. The terms of such payments need to be approved in advance and any unauthorised exit payments would be a breach of the binding policy. I think we will see this changing the dynamic of executive departures. The balance of power has moved. Executives are likely to be in a weaker position to negotiate as the board will be legally obliged to stick to pre-agreed levels of payment.
I believe this improved information and increased power will materially change how executives are paid – by demanding that a business proves the link between pay and performance, and crucially, how pay is aligned with the achievement of corporate strategy.
The proposal that directors are liable for any payments made outside the agreed policy should also concentrate the mind. I don’t believe, however, that the new regulations will reduce the overall quantum of pay, although it may slow the rise. What is important is that pay is tied to generating sustainable value for a business and to the policies agreed with shareholders and is seen to be so by the wider public.
I also think it’s important to acknowledge that executive pay and the disparity between those with the highest and lowest incomes is part of a far bigger story. Globalisation and technology are both powerful forces which are shaping what we have the potential to earn and how we are all paid – but the reality is that both currently act as enablers to some people and as barriers to others.
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