Why CEOs Aren't Overpaid
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Testifying before Congress, Steven Kaplan said CEOs are not overpaid, good CEOs may actually be underpaid, and the proposed bill requiring an annual shareholder vote on executive salaries effectively duplicates existing rules.
Despite the staggering salaries of public company CEOs, most are actually paid according to market value and performance, and some may actually be underpaid, said Kaplan, Neubauer Family Professor of Entrepreneurship and Finance. Congress’s “Say on Pay” bill, which would require a shareholder vote on executive compensation each year, is not needed and might actually harm the economy, Kaplan told the U.S. House Committee on Financial Services in March.
Critics claim CEOs overpay themselves, and that boards are too generous with salaries and don’t set them based on performance. “I believe they’re largely wrong,” Kaplan said. “While CEO pay practices are not perfect, they are nowhere near broken. The typical CEO is arguably not overpaid.”
While the scrutiny regarding CEO pay has intensified in the last 15 years, the U.S. economy has performed exceptionally well, Kaplan said. While some abuses have occurred, he said typical CEO salaries have increased in line with or even to lesser extents than those of hedge fund, private equity, and venture capital investors; professional baseball, basketball, and football players; and top-level attorneys.
“While CEOs earn a lot, they are not unique,” Kaplan said. “High CEO pay appears to be part of—not the cause of—the increase in economic inequality that we have seen recently. The pay of the other groups has been driven by market forces, and this seems likely to be true for CEOs as well.”
Kaplan and Joshua Rauh, assistant professor of finance, studied actual CEO pay for a particular year and found firms with CEOs whose earnings were in the top 10 percent earned stock returns 90 percent greater than firms in the same industries during the previous five years. Meanwhile, firms with CEOs whose earnings were in the bottom 10 percent underperformed their industries by almost 40 percent over the previous five years, they found. “There can be no doubt that the typical CEO in the U.S. is paid for performance,” Kaplan said.
The boom in private equity suggests that good CEOs are actually underpaid, Kaplan said. “It seems unlikely that CEOs who choose to go private and work for private equity investors would do so if they were so overpaid as public company CEOs,” he said. “It is also worth pointing out that in hiring the CEOs at higher pay, the private equity investors cannot have felt the CEOs were overpaid.”
Kaplan compared current rules requiring detailed disclosure of top salaries to ordering companies to walk through X-ray machines at an airport. “When shareholders believe a company has CEO pay problems—that is, the X-ray identifies a potential problem—shareholders can generate a shareholder vote or adverse publicity for that company,” he said.
The “Say on Pay” bill would require even companies without problems to face a shareholder vote. This would impose unnecessary costs and potentially reduce executives’ interest—especially among successful executives—in serving as public company CEOs, Kaplan said. “That is not good for U.S. companies, it is not good for U.S. workers, and it is not good for the U.S. economy,” he said.
