Is management remuneration too excessive - Essay Example

? is management remuneration too excessive? A Literature review A literature review on the argument regarding the justification of the excessive salaries and perks offered to the higher management of companies against the services that they offer for the management the day to day affair and decision making. INTRoDUCTION In an article published in Business Week, In 1980 it was established that the a Chief Executive Officer working at a any foremost organization, on average, makes approximately 42 times compared to what a worker works on a normal hourly pay. In the next decade, i.e. 1990, this rate had crossed the doubled mark as it was up to 85 times compared to a normal hourly pay of a worker and in the next decade i.e. the twentieth century, the average salary of a Chief Executive Office has climbed to an incredible 531 times of the regular workers’ hourly pay. (Management 2000) This has been always an argument regarding the fact that the management, especially the top management, such as the Chief Executive Officers, Directors, Chief Financial Officers and the Heads of Departments etc are paid extensively more that the normal employee even though their job is limited to the decision making part while the workers have to put in extra impetus from the planning to the implementation stage. Let us go research in this respect whether the management remuneration is justified. review Shleifer and Vishny (1997) in their research have described the corporate governance as the means where the providers of funding guarantee a return on their investments for themselves. Since, the profits of the investors largely depend upon the contracts incurred between themselves and the company so a variety of markets operations and the performance of players of finance has developed into various sub literatures. need for the growth in pay of executies Lucian Bebchuk in his article “The Growth of Executive Pay’, discussed the reasons and the need for the substantial increase and the growth of the pay of executives and the top management personnel. He has justified the growth in the pay scale by the comparison of the size of the organization where the executive is employed. He mentioned “Remuneration level is predictable to augment due to the increase in the size of the firm and performance of the management, which may vary from industry to industry” He has researched over the average size of the S&P 500 firms from 1993 to 2003 and has expressed the fact that with the relevant increase in the size of the organization or the performance of the company, the compensation of the executives has increased side by side showing a very linear trend. Kaplan and Rauh (2009) inspected the query regarding if increase in the management remuneration can imitate the forces of the market. The idea was that if a top management personnel’s pay imitates the market forces; in that case its increase should be in line with that of other extensively paid occupations. Kaplan and Rauh also assembled some information on the compensation of high yielding professions such as the employees from the financial service sector, banks, and funds and compared them to the compensation received by the business lawyers, professional athletes, doctors and celebrities. Murphy and Zabojnik (2007) proposed the thought that the escalation in management remuneration embodies the move in the significance of the ability of the managerial staff i.e. the talent and ability which is capable of being transferred through several companies related to the human capital which is specific to the firm i.e. precious only to the extent of the organization, which functioned to support the bargaining point of the top executives through improving their options of working at another organization. different views of executive compensation Holmstom (1979) in his article published in the Bell Journal of Economics has discussed several views of the executive compensation of which he has highlighted two of those views. He discusses that one of the view which he highlighted as the optimal contracting view where he looks at the arrangements of executive pay as a result of the transactions held at an arm’s length among the executives (the top management) and the board of directors, that directs to arrangements which make available incentives which are efficient as well as rewarding for the top management and hence aids in reducing the gap between the two and reducing the issue of agency as much as probable. Another view, which was discussed by Bebchuk and Fried (2003), is regarded as the view of the managerial power. This view raises the query as if the arrangements made for the remuneration of the top executives are the result of the arrangements executed at arm’s length and it establishes a view which looks at such arrangements of the executive compensation as itself being an integral division of the agency problem without aiding in solving it or reducing the issue. worthiness of top executives and their pay raise Rob Preston, in his article published in Information Week argues on the worthiness of the top executives and how much should they be paid in respect of the services that they are offering to the organization they are working for. He mentions that when the salary of the U.S. president was raised, some people defined the increment as "obscene." Rob, who is the editor in chief, mentions that coming to the salaries of executives, no deficiency of greed and gluttony is witnessed but there is also an element of envy involved in it. Jensen, Murphy, and Wruck 2004 (cited in Bebchuk and Weisbach 2010) question the worthiness and reasonableness of the compensation provided to the top management and especially the Chief Executive as well as the Heads of different departments. He questions that whether the level of remuneration of executives, that has developed significantly in relation to rank and position in recent years, is an indication of the demand and supply in the market of labor for top management executives? Their further research was around the fact that does the management remuneration of recent times reflect the seeking of rent by influential managers and executives? Giving regard to the fact that the level of compensation obtained from the public, media, as well as the strategy drivers, gives a improved and enhanced perception of the features that affects all of these. hiring of costly management personnel There have also been arguments in favor of the hiring of the management of the top level where the organizations reach a downward trend and where there is an indication that the company may lose their share in the market if the current performance continues to evolve. Kaplan and Minton (1994) discover that these arrangements enhance due to poor performance of the company and where there is loss of earnings, and that this is more probable in organizations where there are major borrowings from banks, concentration of shareholders, and a corporate group membership. According to Kaplan and Minton (1994) these organizations tend to give away as heavy a compensation to the top management of an organization as possible in order to bring the performance of the organization on track. relationship of management compensation and firm’s performance Ivan E. Brick and Oded Palmon (2005) in their report on the comparison of the CEO Compensation and the performance of the firm conducted a detailed investigation in this regard and shareholders if the extensive compensation of directors is connected with a weak structure of corporate governance along with the unwarranted and unnecessary compensation of the Chief Executive Officer and poor and unsatisfactory performance of the firm. They collected data from different sources and companies in order to determine their relationship and reached a conclusion as per the results of their hypothesis that the compensation of CEO and director is positively connected even after making adjustments for numerous other aspects. The reasons that they pointed out were the complications associated with the firm and the aptitude and endeavor that is required to run, administer and direct these highly rated and complex organizations. Their research and investigation reached a point where they resulted that an increase of 10% in the remuneration of director causes a 0.59% reduction in the value of the equity while a 10% increment in the remuneration of the CEO results in a 1.09% reduction in value of equity of the firm. relationship of shareholders and management Jensen and Murphy (1990) in their comparison over the pay-performance carried out a research in this regard and highlighted the key issues in the relationship between the shareholders and the management personnel which are better explained by the agency theory. They presented that the disagreement between the shareholders of a publicly owned company and the senior management of the organization such as the Chief Executive Officer can be presented as the example to illustrate the issues of the principal-agent problem. Jenson and Murphy (1990) emphasizes that incase the shareholders have absolute idea about the activities of the top management, they may take the incentive to plan a agreement which puts forth the proper course of managerial actions to be taken. They also carried out an estimation of the pay and performance through the sensitivity analysis comparing the increase in the pay of the management with the increase in the wealth of the shareholders, as a result of the performance of the top management for the yield of the shareholders. reward for better performers With regard to an article on the website of Society of Human Resource Management, in order to obtain the notice and concentration of the staff members who have given better results to the management, they should be offered a capricious rate of remuneration ranging from around seven to eight percent In addition to the basis of pay, there must also be scheme which provides incentive to the better performers and those who have inched more than the usual workers of a given organization as the management cannot compensate all the management alike. The management must look at the fact that the remuneration given to the management personnel is a significant and considerable tool of communication in order to dispatch a message regarding the expectations of the organization regarding what they seek from their top management and their objective accomplishment rewards. Susan M. Heathfield (2010) in her article published in the about.com website establishes a thinking regarding the pay and remuneration of the executives which include the constituents such as development of a viewpoint and course in black and white regarding the salary and pay of the executives which is evaluated by the Board of Directors, the thinking of paying the remuneration must incorporate a system for combination of alike posts such as the head of departments of a given department, there must be a process for rewarding an executive with appreciation and any other way such as a stock option or a bonus that is given to the management etc. negative impact of the excessive management remuneration Some authors have highlighted the negative and harmful impacts of the excessive remuneration of the top level management. Eleanor Bloxham (2011), in his article published in the CNN Website’s column of Fortune and Money, mentions that “the remuneration of a Chief Executive Officer who works at a U.S. based organization has been in the focus for a very extended period.” He mentioned the article published by Peter Drucker in 1977 where Peter pointed out that Chief Executive Officer’s compensation must not be over an average 25 times compared to an average worker’s salary. He rationalized this statement with the support that a pay of an executive which is less than 20 times of the average worker’s salary was deemed suitable. determiner of the executive compensation Peter and Steven and Lydenberg (1993), in their book “Investing for good”, have argued that the excessive executive compensation is an issue which has raised questions control of shareholders as well as corporate governance. They have pointed out that the remuneration that the executives get and the perks they receive have a very little relationship with their corporate performance rather; this is mentioned as the “recommendation of the board members and the friends of the Chief Executive Officer” Annette Holler (2009) has pointed out at the immense pressure which has been built on the managers as well as the people hiring the executives to provide compensation incentives which are value based and along with that they also question the running of the business activities which include the business expansion and the divestment of the activities of the company. This can always aid in the better corporate management. Professor Freek Vermeulen (2008), in his article published on a blog, comments that numerous researches have been carried out to prove that the remuneration and the pay of a CEO is coupled to the company’s performance and is determined by the level of the company’s performance but conversely the researches have not been able to convey much substantiation and support that CEO compensation is based on company’s performance. He did admit that a few researches have exposed slight constructive evidence of relationship between the performance and pay of the executives but that evidence doesn’t completely provide support of it. recommendations for better governance The Financial Stability forum, in their principles for the better and sound practices of executive compensation have pointed out few steps and methods to determine the executive remuneration which can be in line with the responsibility and the requirements of the level of skills such as alignment of executive remuneration with the sensible risk taking, governance over the remuneration and especially an oversight by the supervisory and appointment by stakeholders which are the shareholders of the company. disclosure of the management remuneration The new corporate governance techniques as well as the rules, regulations and the governing bodies have come up with the emphasis on the disclosure of the remuneration of the management remuneration which can always keep the shareholders informed as to how much the top management is getting for the work that they are performing for the company that adds to the worth of the shareholders. Donald E. Kieso and Jerry J. Weygandt (2009) in their book written on the matter of reporting requirements and corporate governance have highlighted this issue where there is a great need for the disclosure of the management remuneration to inform the shareholders as well as the potential investors regarding the cost which they are bearing in return for the dividend or profits which they are earning. This not only leads to better corporate governance but also aids in the involvement of the shareholders in the matters of business, even to the extent of their presence on the annual general meeting where they get a chance to voice their concerns and authorize the management for further actions and steps in the company’s support. conclusion After going through the literature, it can be said that there are various views regarding the granting of remuneration to the executives and the top management. Some authors, such as Bebchuk, have this idea that it is essential to substantially raise the pay scale of the top management according to the level of services that the executives are providing so that their work and efforts can be kept in line with the requirements of their posts and positions in the organization. Some authors have argued that the level of pay must reflect the size of the organization such that it is not de motivating for the executive that a similar person in a different organization gets better remuneration compared to him. Few literatures also gave this impression that the remuneration should be based on the performance and more incentives should be given to the top management and the executives to improve their performances so that the shareholders get rewarded and in return the management can always have their fitting share. Writers such as Jensen, Murphy, and Wruck raised questions regarding the worthiness of the top management that some people just because they have previously belonged to some esteemed organizations get a greater pay when they switchover to another organization on the basis that the management believes that they will help the organization foster and progress in a better manner. However, their remuneration does not reflect the services they are offering in a manner that executives in other organizations don’t get such a healthy remuneration. (Excessive Executive Pay: What's the Solution? 2009) In the end, it reminds of the saying that "what gets measured gets managed," as these measurements can be the essence as to the need in order to aid the organization as well as their board of directors to reestablish the apparently inflexible and high return as well as the connected issues of management have persistent the companies and their board for decades. (Bloxham 2011) Works cited Bebchuk, Lucial. 2005, "The Growth of Executive Pay." Oxford Review of Economic Policy, Bloxham, Eleanor. CNN Money. Accessed April 3, 2011. (accessed August 31, 2011). —. "How can we address excessive CEO pay." Fortune and Money, Accessed April 2011. Jerry J. Weygandt, Terry D. Warfield Donald E. Kieso 2009, "Intermediate Accounting." page 1515-1516. Excessive Executive Pay: What's the Solution? 2009. (accessed August 31, 2011). Forum, Financial Stability. Principles for Sound Compensation Practices. Informative Report, New York: F I N A N C I A L S T A B I L I T Y F O R U M, 2008. Fried, L. A. Bebchuk and J. 2003, "Executive Compensation as an Agency Problem." Journal of Economic. Heathfield, Susan M. Salary 2010 Compensation Trends. (accessed August 28, 2011). Holler, Annette 2009, Enhancement of Performance Measurement. Holmstrom, B. "Moral Hazard and Observability." The Bell Journal of Economics, 1979: 74–91. Ivan E. Brick, Oded Palmon 2005, "CEO Compensation, Director Compensation, and Firm Performance." JCF Special Issue on Corporate Governance Jensen, Michael C., and Kevin J. Murphy 1990, "Performance Pay and Top-Management Incentives." The Journal of Political Economy Management. 2000. (accessed August 22, 2011). Minton, S. Kaplan and B. 1994, "Appointments of Outsiders." Journal of Financial Economics: pages 225-227. Peter D. Kinder, Steven D. Lydenberg, Amy L. Domini 1993, Investing for good: making money while being socially responsible. New York: HaperCollins. Preston, Rob 2007, "Down To Business: Is Executive Pay Excessive?" Information Week. Rauh, S. N. Kaplan and J 2009, "What Contributes to the Rise in the Highest Incomes." Review of Financial Studies. SHRM. (accessed August 26, 2011). Vermeulen, Professor Freek 2008, "Too hot to handle: Explaining excessive top management remuneration." Business Exposed. Vishny, A. Shleifer and R 2008, "Large Shareholders and Corporate Control." Journal of Political Economy. Weisbach, Lucian A. Bebchuk and Michael S. 2010, "The State of Corporate Governance Research." Review of Financial Studies. Zabojnik, K. J. Murphy and J. 2007, "Managerial Capital and the Market for CEOs.". Read More