Included with the Dodd Frank bill is a provision (Section 953(b)) that requires public companies to include in their annual proxy filings, disclosure of the median compensation of all employees and the ratio of the CEO’s compensation to that median. This will of course launch more media stories about the inequity of executive pay than Paris’ theft of Helen of Troy launched Greek ships. But aside from the sheer sport of it all, one has to wonder what practical purpose this rule will serve.
This so-called “Pay Disparity” disclosure was a political fish tossed to elements of organized labor, who for years have quoted a similar statistic (using workplace average employee compensation and average S&P 500 CEO pay) as evidence of the unfairness of executive pay. Currently, implementation of this disclose is delayed pending the SEC’s publication of suitable rules for computing median employee compensation (expected in the first half of 2012). The rules are taking a long time to develop because of the overwhelming complexity of the calculations. Does employee compensation include all benefits – a very significant component of a median employee’s pay? How do we handle foreign employees or contract workers? The list of questions goes on and on.
And once we have a number, what does it mean? Comparisons will vary widely even when you control for industry code and size. Is Goldman Sachs a good guy because they largely employ highly paid bankers and traders while Bank America is a bad guy because the ratio is higher due to the fact that they also employ highly paid bankers and traders but also has thousands of tellers that staff their retail branches.
Assume for the sake of argument that all comparison and calculation issues were resolved. What would the envisioned comparison prove – a high executive pay ratio could be a function of executive largesse or it could be a function of a company refusing to outsource its low wage jobs to China. If the ratio became an important point of comparison, it would create an unintended incentive for executives to invest in either outsourcing or capital/labor substitution to reduce the number of low waged entry level jobs in favor of far fewer skilled jobs. Don’t you love the “Law of Unintended Consequences”?
I was recently attending an executive compensation disclosure conference where this provision was discussed. The panelists wisely noted that whether it makes any sense or not, the provision is law and absent a moment of sanity in Washington it will eventually be implemented and we must deal with it. The question was asked of the audience – “How can we put this number in any kind of meaningful context that will help our shareholders understand it.” Since the conference structure didn’t allow audience participation, the question was probably designed to spur us to think of novel approaches and I think I have the answer.
Meet Fred Jones. He is a machinist in Dothan, Alabama and is the median paid employee at XYZ Mega Industries. I propose that we disclose Fred’s name, picture and a brief bio in the proxy (okay, maybe not the picture). Then we can include a discussion of the Company’s pay strategy for employees like Fred. This discussion should describe all of his pay elements, how much overtime he gets, the details of his benefit package, any severance he would be entitled to upon a layoff and the relevant peer companies we used to benchmark his pay and how it stacks up versus those comparisons, just like we do for the CEO. Maybe even throw in a discussion of his last performance appraisal so that we can relate his pay to performance in a fancy graph.
This would certainly provide context. Of course, the downside is that the proxy might begin to make War and Peace look like a novella.
I score this one an UGLY.
