Fisher Investments Editorial Staff
Politics, Capitalism, Market Risks

Let’s All Say on Pay

By, 04/26/2011

Story Highlights:

  • “Say on pay” is a provision of the Dodd-Frank bill that requires shareholders to have a non-binding vote on executive compensation.
  • The premise behind it was executive compensation can encourage excessive risk taking.
  • Big CEO pay certainly was controversial in 2008 and after, though there’s no evidence executive compensation was a material driver of the credit crisis.

Well, it appears regulators have finally hit on a way to prevent future market crises. Just kidding. What happened was “say on pay,” a provision of Dodd-Frank, is starting to be evident in 2011 proxy statements for some publicly traded firms.

“Say on pay” states shareholders must be able to vote or otherwise comment on executive compensation every three years at minimum (though many firms have committed to an annual vote). It’s non-binding, which means the board can listen to them or not. Naturally, there has always been a binding version of say on pay—investors could choose to not buy a stock or sell it if they thought executive compensation was troublesome.

The idea behind say-on-pay was, according to legislators behind Dodd-Frank, executive pay was structured in ways that encouraged excessive risk-taking. And/or, if a company hit a trouble spot, top executives still got healthy bonuses and/or exited with a sizable golden parachute. There’s no designated compensation framework. What’s surfacing is firms are lowering guaranteed pay and tying bonuses (frequently of stock) to a variety of benchmarks that must be hit over some period. What’s more, some firms are instituting more aggressive “clawback” provisions. The idea is to force executives to have more skin in the game.

We’re all for more skin in the game. But at the same time, we rather doubt say on pay would have prevented 2008, nor will it prevent the next round of steep market volatility. Did some CEOs take on too much risk? Absolutely, individual ones did. However, there’s no evidence big CEO paydays contributed materially to the credit crisis. Though there is plenty of evidence big CEO paydays seriously annoyed people who watched stock values plummet. While say on pay could salve some hurt feelings, our guess is that impact is more sentiment-driven and fleeting (if discernable at all).

One risk is it could encourage CEOs to think shorter term. We have no doubt CEOs, even the great ones, are motivated by money. (You want them to be. Profit-motive is one of the great engines of Capitalism.) It would be great if every firm with $100,000 in sales could grow to $100 billion in sales. Or more! But to get from here to there can mean making tough decisions that hurt in the near-term because you believe the long-term payoff will be worth it. If you give shareholders an annual say in remuneration, we could see how that might encourage less long-term, calculated risk-taking in order for some nearer-term stability. Is that the right thing for the business? Maybe. Maybe not.

There’s something bewitching about the idea that crafting the right set of rules can prevent or seriously dampen any future volatility. This kind of thinking is misguided at best, but at worst can blind us to real future problems. The fact is, no matter how much CEO pay irks, even the bindingest of say on pay doesn’t prevent a future credit crisis, bear market, or recession. And no matter how much shareholders do say on pay, we’re confident during the next bear market and recession (which we don’t foresee in 2011), folks will harrumph once again CEOs are overpaid.

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*The content contained in this article represents only the opinions and viewpoints of the Fisher Investments editorial staff.

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