Anglo Saxon Model and Executive Compensation Rise - Literature review Example

Anglo Saxon Model and Executive Compensation Rise: Literature review The issue of executive compensation and corporate governance has been the center of attention for as long as companies have existed. Most research on this issue focuses on the principal agent relationship as the determinant of executive pay. The theory posits that the company will come up with a compensation scheme efficient enough to attract, retain and motivate the CEOs (Canyon 2006). In a research on the impact of corporate governance on executive compensation, Lin (2010) found that the firm size, performance, board size, ratio of independent director positively affects the remuneration given to the executives. Firth et al (2007) in an analysis of Chinese firms found that the company’s profits have a great influence on the executive pay. Canyon (2006) in a review of the compensation pay in the US firms found that between 1993 and 2003, the level of pay has increased. This increases, they attribute to the availability of stock options for CEOs, a characteristic of the Anglo Saxon model. Kaplan (2012) shows that CEOs pay in the US increased over the 1993-2000 period reaching a peak in 2000 for S&p 500 CEOs. The same results were found for non S&p 500 CEOs. However, public company CEOs has seen their pay reduce since the 2000s (Kaplan 2012). The High Pay Center annual survey of the FTSE100 CEO pay (2016) found that there was a considerable increase in their pay in 2015 and concluded that there was no in reducing the pay. The survey found that the average pay ratio of the CEO pay to their employees was 147:1. In 2016, the Business Energy and Industrial strategy (BEIS) green paper identified the increase in the UK CEO compensation as an issue and therefore made recommendations to reduce the rise. Marriage and Williams (2017) report in the financial times show that investors have supported recent government initiatives to reduce compensation pay. This shows that the compensation rates had been high enough to warrant government intervention as well as have the backing of investors. In 2010, the US implemented the Dodd Frank legislation that required that all public listed companies to have shareholder vote on matters concerning executive compensation, the infamous say-on-pay. The BDO survey on Board compensation (2011) showed that there was in increase in the executive pay resulting from the regulatory issues arising from legislation such as the Dodd Frank Act. As further evidence of the increase in CEOs pay in the US, that applies the Anglo-American model, there was increased lawsuits pretesting against the high pay rise. There has been an increase in the adoption of the say-on-pay regulations that allows that the shareholders vote for the compensation packages that ought to be paid to the CEO upon appointment. This mechanism has recently proved to be flawed and instead of curbing the pay increase, the status quo has been maintained. Australia, which also applies the Anglo Saxon model, has also face protest from the public on the increase in the executive compensation packages: Australia has reportedly the third highest paid CEOs after the US and UK. The situation has not been unique in Anglo Saxon model as the German counterparts have in the recent past repotted an increase in CEO compensation levels (Fabbri and Dalia 2012; Neate 2015) Anglo Saxon corporate governance structure: Introduction The corporate governance structure of a company has its foundations on the agency theory developed by Jensen and Meckling (1976). The logic is that corporate governance is meant to solve the agency conflicts that occur between the managers, shareholders and owners of the company. The agency problem in this model is usually between shareholders and managers (Yurtoglu and Haid n.d) The Anglo American model primarily focuses on the presence of the board of directors and shareholders as those that control the company while the management takes the second authority. Managers are monitored by external investors and market based mechanisms for discipline (Castro et al n.d). Theoretically, the external factors are meant to work better monitor the activities of the managers and promote the interest of the shareholders first. These schemes include executive compensation schemes such as stock options, performance- base pay or dismissal based on performance. Further, the model has the backing of the board of directors and regulations. The board usually comprises both executive and non-executive directors while ownership is divided between individual shareholders and institutional shareholders .The efficiency of control of the shareholders, in the Anglo American model, in reducing agency problems in institutions need to check. Further, the success of the model and its efficiency largely depends on the ability of the board of directors to supervise and monitor the activities of the executive directors. The regulations governing the Anglo Us based corporations include disclosure requirements. US companies, especially publicly listed corporations, are required by law to provide their proxy statement in their annual reports. The statements must include: the financial data; capital structure of the company; information on the members of the board of directors; compensation of all executive directors; shareholders with more than 5% ownership; the auditing firms. The shareholders under the US model have voting rights on matters that affect the corporation such as: remunerations, dividend payments, mergers and acquisitions. Under this model, the preferred means of financing is usually the equity financing. This has seen an increase in the number of shareholders within the companies that apply this model. However, the shift has since moved from the individual ownership to institutional investors, something that has become problematic in the effectiveness of the model. Of concern to any corporate governance structure model is the issue of the executive pay as a result of the agency problem: executive using the company’s funds and resources to finance their own lavish lifestyles. The current debate is that this model, instead of curbing managerial, has increased the incentives for the executives to increase their compensation. Advantages of the Anglo Saxon model The US model was first introduced to provide a corporate governance model ha would reduce the agency costs that arise in corporations. The model has a clear separation of the management of the company and the ownership of the corporations, based on free market economies assumptions. Tis arises from the equity financing where the owners (investors) give capital to the company while does not take liability for the decision of the corporations. The model however ensures that the rights and interest of the shareholders are protected: the say on pay legislation further increases the influence the shareholders have in management. This is beneficial as to reduce the agency conflict of managers taking advantage of the shareholders. The legal requirements under the US model include disclosures requirements: there is more disclosure on compensation as required by the Securities and Exchange Commission (SEC). This increases transparency of the corporations’ activities and their performance. The board and its composition has been beneficial to corporations: the board is one tier which increases the effectiveness of the board The presence of outsiders(non-executive members), who are usually experts in their fields, in the board in strategy decisions ensures all factors such as risk management are considered in the decision making. The functions of the board ensure that the management does not apply strategy without the approval of the board. Disadvantages of the Anglo Saxon model The chairperson of the board also doubles up as the CEO and the result is a concentration of power allowing the CEO to abuse the position. The presence of non-executive members in the board only works theoretically: in reality the outsiders are subject to the decisions of the executive directors. The Anglo Saxon model propagates the protection of shareholders and their interests. However the increase in the number of institutional investors has increased their influence of the decision making process. This further increases the agency costs of controlling the managers since these investors are likely to promote their own interest in place of the minority shareholders. The separation of ownership from control has resulted in managerial entrenchment where mangers award themselves with excessive perks. This is what has increased the debates over the CEO compensation levels in the US. Even the say-on-pay requirement has not been able to tame the situation. In 2016, the Anglo American CEO was granted a pay award that 42% of the shareholder was against (Biesheuvel 2016). REFERENCES Biesheuvel T April 2016 Anglo American shareholders revolt against 3.4m pay of chief executive Mark Cutifani after bad year [online] available from: www.independent.co.uk/news/business/news/anglo-american -shareholders-revolt-against-34m-pay-of-chief-executive-mark-cutifani-after-bad-year-a6995981.html [23/4/2017] Canyon M 2006 Executive compensation and incentives Academy of Management Perspectives February pp25- 44 Fabbri F and Dalia M 2012 what explains the Rise in CEO Pay in Germany? A Panel Data Analysis for 1977-2009 Munich Discussion Paper No. 2012-12 Firth M, Fung P and Rui O how ownership and corporate governance influence chief executive pay in china listed firm’s journal of business research vol 60(7) pp 776-785 Garcia-Castro R, Arino M, Rodriguez M and Ayuso S two approaches to Corporate Governance [online] available from: www.ieseinsight.com/doc.aspx?id=866 [23/4/2017] High Pay Center 2015 State of Pay: high pay center briefing on executive pay [online] available from: https://highpaycenter.org/files/The_State_of_Pay_2015.pdf [23/4/2017] Kaplan S September 2012 executive compensation and corporate governance in the US: perceptions, facts and challenges NBER WORKING PAPER SERIES working paper 18395 Lin L 2010 corporate governance and executive compensation [online] available from: en.cnki.com.cn.Article_en/CJFDTOTAL-ZLGL201001014.HTM journal of strategic management [23/4/2017] Marriage M and Williams A February 2017 Investors back UK drive to curb executive pay levels [online] available from: www.ft.com/Executive_pay [23/4/2017] Neate R January 2015 German executive pay overtakes Britain’s for first time the Guardian [online] available from: https://www.theguardian.com/business/2015/jan/05/german-executive-pay-overtakes-britain-first-time [23/4/2017] Yurtoglu B AND Haid A n.d ownership structure and executive compensation- The Case of Germany Read More