Now may not be the time to clamp down on exec pay

Sep 30 2008 by Nic Paton Print This Article

American politicians, financiers and commentators might be fighting like cats in a bag to apportion blame for the collapse of the $700bn bail-out of the financial system, but what is clear is that executive compensation has been one of the key stumbling blocks in the failure by Congress to reach agreement.

Public anger over what is perceived to be Main Street bailing out Wall Street for its own excess and hubris, and the sense that Treasury Secretary Henry Paulson's $700bn plan was simply allowing bankers to walk away with bulging pockets intact, was a key catalyst behind the decision by predominantly Republican lawmakers to block the legislation.

This is despite the fact that, under the failed bill, firms would have been prohibited from offering multi-million dollar "golden parachute" severance packages to newly hired executives.

Such companies would also not have been allowed tax deductions for executive compensation over $500,000 and would have been penalised for giving golden parachutes to fired executives.

Whatever new legislation finally emerges from the all-party wrangling what is clear is that it is likely to contain a substantial element on executive compensation reform because legislators, in an election year, want to respond to (or at least be seen not to be ignoring) this deep public resentment.

But, according to some commentators, the fierce anger over executive compensation and the desire to "do something" about it, while understandable, is misguided.

Any move sharply to limit executive compensation could simply make it harder for U.S firms to attract and retain the very people they need to guide the economy through to safer waters, executive compensation firm WorldatWork has warned.

"It is not unreasonable for Congress to place restrictions on many aspects of business operations Ė including executive pay Ė for those companies requiring government assistance to remain viable," pointed out Don Lindner, executive compensation practice leader for WorldatWork.

But legislators and the general public would need to recognise that doing this could have unintended consequences.

"For example, putting limits on executive compensation could inhibit the ability of these companies to recruit and retain the executives needed to turn the company around," said Lindner.

"In order for executive pay programs to be most effective in driving performance, they need to be customized to the individual company, industry, business strategy, economic conditions, and other factors," he added.

"Thus, if done incorrectly in the legislation, arbitrary limits on executive pay could hinder a company's ability to effectively attract, motivate and retain executives during a time when quality leadership is needed the most.

"There are other safeguards, such as clawback provisions, to ensure that executives do not benefit at the expense of the company or its shareholders," he argued.

In fact, rather than a "one-size-fits-all" approach to limit executive compensation, it would be much better for legislators and corporations to be taking a more flexible approach.

One option might be to require any company receiving government assistance to implement best practices in the areas of corporate governance and compensation committee process, argued Lindner.

"These would provide the tools and mechanisms necessary for implementing effective pay practices," he pointed out.

A second option would be to create a mechanism for strict compliance enforcement in companies receiving government assistance.

This would ensure that companies complied with the letter and spirit of all rules and regulations already in place, he argued.