Chief Executive Officers Compensation - Essay Example

Supervisor Chief Executive Officer's Compensation. Some Puzzling Questions. By: October, 2007 Table of Contents 1.0 Introduction 1.1.1 Do you think the fact that most American CEOs are paid so much more than rank-and-file employees, suggests CEOs are overpaid Explain 1.1.2 Japanese CEOs generally received much lower levels of compensation than CEOs in the United States. Does this imply that US CEOs are overpaid 1.1.3 Is it obvious that, $10.57 per thousand is too low of an incentive pay for CEOs Explain 1.1.4 Does the observation that, the stock price increases when firms increase incentive pay for CEOs suggest that most CEOs do not receive enough incentive compensation Explain 1.1.5 Are there any reasons why overpaying CEOs might be in the shareholders interest 1.0 Introduction The field of human resource (HR) management is one of the many interesting area of research that has witnessed a paradigm shift within the last few decades1. Within this area of research, an increasing body of literature contains the argument that, high performance work practices, including comprehensive employee's recruitment, selection procedures, incentives compensation and performance management systems, and extensive employee's involvement and training can improve the knowledge, skills and abilities of firms2. Today, with the increasing researchers desires to demonstrate the importance of an effective human resource policy on organisation performance research has shifted from a micro level that previously dominated research interest to a more general, strategic macro level3. The term human resource management is not new. It has been widely used by scholars and managers to refer to the set of policies designed to maximize organizational integration, employee commitment, flexibility and quality of work4. In the sections that follow, I will attempt each of the questions as requested and there after I will provide a brief conclusion. 1.1 Do you think the fact that most American CEOs are paid so much more than rank-and-file employees, suggests CEOs are overpaid Explain In economic literature, the significance of information asymmetries, innovation and strategic behaviour has long been recognised. There exists a considerable literature on how incentives affect a variety of management problems and the methodology for analysis of incentive problems most notably the principal agent model (Turner and Muller 2006). CEOs are paid based on the job description given to them and since in America it is often believe that, they are the leaders they want others to emulate. In addition, it always costs more to hire a new person than keep the old one. Osborne, Hyman & Jack (2006:451) substantiate further that an effective human resource policy "is not only to find competent workers but also to motivate and effectively manage them, is recognised as important for the viability of the organisation". They argued that, problems emanating from conflict of interest are virtually general to all cooperative activities amongst individuals whether or not they occur in a hierarchical fashion as suggested by the principal agent analogy Because principal and agents are utility maximisers, there is every reason to believe that the agent will not always act in the best interest of the principal (Jensen 2003:86). This attempts to draw out contractual problems that can arise as a result of agents acting opportunistically when their interest departs from those of their principal (Jensen 2003). Thus, agency theory provides us with the rational for an effective human resource management policy. Thus, if American CEOs are paid more than their Japanese counterpart, it is just their own way to handle the opportunistic behaviour of the agent. Hyman & Jack stated that Corporations in the States save twice that much every year from an even more outrageous loophole, what executive excess 2008 dubs the "unlimited tax deductibility of executive pay." Top companies can essentially deduct whatever they pay their executives off their corporate income taxes, so long as they define that pay as a performance-based incentive. This thus might not be considered as an excess but as a way to evade taxes and consequently reduced cost aught to have been paid to tax officials and payment to the CEO. To conclude, the more corporations pay their top execs, in effect, the less they pay in taxes 1.2 Japanese CEOs generally received much lower levels of compensation than CEOs in the United States. Does this imply that US CEOs are overpaid Statistics have proven that Chief Executive Officers in America are paid more than their counterpart in other parts of the world. When this issue is related to the issue of pay without performance, one will turn to believe that they are overpaid. On the other hand, According to Thomas Paine's "Common Sense" in an earlier era, "Pay without Performance" is a terse manifesto for our age of manager's capitalism--a crystal clear and dispassionate, but ultimately devastating, analysis of how our deeply flawed system of corporate governance has led to grossly excessive executive compensation. Because Americans are the champions of this system, then their executive are considered over paid. Another important factor can be drawn from agency theory. The interest of the principal and the agents requires a fair play where neither the principal nor the agents are worst off. The standard principal agent framework on one hand, (Schwochan & Dalaney 2000:2) leads to a prediction that participation may negatively influence a firm's performance. While the primary challenge within agency theory on the other hand is for firm's owners to create an incentive system that leads the firm's workers to act in the owner's interest in daily management activities. In a study of Monitoring hired managers at small, closely held commercial banks, Spong, et al,(2000) concluded that, without incentive to maximise the value of the owners investment, the hired manager may act to enhance their own utility by consuming extra perquisites (Expense preference), pursuing personal prestige and power (empire building), rejecting positive net present value projects that have particularly bad outcomes in some state of nature (risk aversion) or simply expending low amount of effort. 1.3 Is it obvious that, $10.57 per thousand is too low of an incentive pay for CEOs Explain In the United States it has long been argued that, what is considered as fair in other countries can be considered as unfair in the States. The most important change in corporate structure in the States has been the shift of authority from stockholders and their directors to management (www.paywithoutperformance.com). From management authority comes control of management compensation. Thus, in most situations, management, mostly champion by executives turn to be generous, even lavish, and with no necessary relation to performance, is the reality of modern economic life (Poole 2006). A $10.57 per thousand can be considered fair for the CEOs, how ever this will depend upon subsequent performance and packages being offered elsewhere. This will also depends on the rules governing conflict of interest and duty, the rule against profiting and also on methods developed to relieve a director from liability. This will be fair if effective human resource compliance programs are integrated into your business strategies and given more than just lip service. Compliance has to start at the top and trickle down to all levels, so everyone in the company knows that the workplace must be kept safe and discrimination won't be tolerated 1.4 Does the observation that, the stock price increases when firms increase incentive pay for CEOs suggest that most CEOs do not receive enough incentive compensation Explain CEO Pay Study reveals a strong, positive correlation between changes in pay and corporate performance (Kay and Graskamp, 2001). The market value of the 2 800 companies traded on the New York Stock Exchange increased 24 percent in 1998, a time when CEO compensation plans were increasingly tied to company performance. This is also true for share ownership where research found that those companies with high levels of share ownership consistently outperform those without (Corporate Leadership Council, 2001a). Milkovich and Rabin (1991) argue that executive compensation is more complex than meets the eye and that a strategic perspective on compensation requires research that looks beyond how much executives earn. This dichotomy of attraction, motivation and retention of good executives versus tough corporate governance and media 2 spotlights, places remuneration decision-makers in a difficult p position (Merchant, 1989). A company's ability to understand the 'drivers' of remuneration policy and CEO pay is therefore a critical component in determining its present and future success in good remuneration governance. Remuneration committees and boards of directors are searching for answers and lean heavily on independent consultants for advice (King, 2002). Generally speaking, consultants use comparative information to guide remuneration committees and boards of directors. There is little or no empirical research done that could guide remuneration policy decision-making. The information content of executive pay increase as reflected in the stock is not an indication CEOs is underpaid. 1.5 Are there any reasons why overpaying CEOs might be in the shareholders interest An important factor can be drawn from agency theory. Aligning the interest of the principal and the agents requires a fair play where neither the principal nor the agents are worst off. The standard principal agent framework on one hand, (Schwochan & Dalaney 2000:2) leads to a prediction that participation may negatively influence a firm's performance. While the primary challenge within agency theory on the other hand is for firm's owners to create an incentive system that leads the firm's workers to act in the owner's interest in daily management activities. Paying the CEOs in this way might be one way to counter their selfish interest. In a study of Monitoring hired managers at small, closely held commercial banks, Spong, et al,(2000) concluded that, without incentive to maximise the value of the owners investment, the hired manager may act to enhance their own utility by consuming extra perquisites (Expense preference), pursuing personal prestige and power (empire building), rejecting positive net present value projects that have particularly bad outcomes in some state of nature (risk aversion) or simply expending low amount of effort. In contrast to some previous studies of large actively traded corporation, Spong K, et al., (2000) found no evidence that non-managerial insiders, or blocks of outside owners, can effectively monitor the hired manager. These contrasting results suggest that exposure to market discipline helps dissipate owner-manager agency problems at publicly traded firms (Spong et al. 2000). 2.0 Conclusion This paper has looked at the contemporary issues inhuman resource management pertaining to chief executive officer's compensation. Through a discussion of three set of theories, and examination of current literature, I provide useful recommendations to the issues raised in the case study. I can conclude that today an effective human resource policy has become a necessity in every organisation. This is so because of the recent shift in focus for competitive strategies and advantages based from different dimension. One argument for the introduction of a legal system of individualized employment contracts was that it might support the development of highly productive and competitive employment systems based on high trust, high performance and employee empowerment References Doty H. D., & Delery, E. H (1996). 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