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CEOs Get Off the Ropes On Executive Pay
By Alan Murray
The Wall Street Journal
Wednesday, July 5, 2006

Tired of being beat up over executive pay, big business is starting to push back -- a bit.

Today, the Business Roundtable, a lobbying group of chief executives of 160 of the largest companies in the U.S., is releasing a study showing the pay of CEOs, while still lush compared to that of a Starbucks barista, isn't as outrageous as some press reports suggest.

The study, authored by compensation consultant Frederic W. Cook, is based on the 350 large public companies in the Mercer Human Resources Consulting database.  And it finds that the median pay of CEOs -- which Mr. Cook argues is a better measure than average pay -- was $6.8 million last year, down slightly from its peak of $7 million in 2004.  Those numbers include salary, bonus and the estimated value of options at the time they were issued, using the Black-Scholes method.

That's a lot of money.  But it's "only" 179 times the pay of the average American worker -- not 475 times, a number of vague origins that has popped up in some media reports, including in this newspaper.  (The Journal later issued a correction.)

Moreover, the study shows growth in CEO pay over the past decade has roughly tracked growth in shareholder returns.  Median CEO compensation has grown 9.6% a year since 1995 -- compared with 9.9% growth in median annual shareholder returns.  That, Mr. Cook argues, shows that these CEOs, as a group, are getting pay raises commensurate with performance.

There is still plenty in Mr. Cook's numbers for critics of executive pay to find fault with.  The ratio of CEO pay to the average worker has more than doubled since 1994, and it remains far higher than in other countries.  Moreover, Mr. Cook's measurement of the median is little affected by the outliers who earn eight- or nine-digit pay packages that have no apparent relationship to performance for shareholders.

Still, Mr. Cook argues, the numbers put the issue in context.  "The media has been flooded with a multitude of distorted, misleading and oftentimes erroneous statistics to portray U.S. CEOs and board governance in a negative light," he contends.

The real villains in this story, as big business sees it, aren't just media, but an unholy alliance of labor unions and their allies at public-pension funds such as Calpers and at organizations like Institutional Shareholder Services and Glass, Lewis & Co., which advise institutional investors how to vote their proxies.  Together, these groups are waging what some CEOs see as a battle for control of public corporations.  And while they aren't yet winning that battle, they are certainly gaining ground.  In recent votes at Countrywide Financial Corp. and Home Depot Inc., union-backed pay resolutions won the support of 43% and 40% of voting shareholders, respectively.  They lost ... but by margins too close for CEO comfort.

Business Roundtable President John Castellani argues the pay proposals are just the latest front in a campaign by this cabal to change the way corporations are run.  He imagines a push in the not-too-distant future for shareholder votes on major investments, on acquisitions, on CEOs themselves, or on hot-button environmental and social issues like global warming.

"There are more and more ideas about how the corporate model should be changed," he says.  "You run the risk of a governing board being unable to make bold decisions that are unpopular with any of these constituencies but in the best interests of the company."

Such a system is certainly more democratic, allowing more voices to have a say in corporate governance.  But it's questionable, Mr. Castellani says, whether such a system will "be better for wealth creation and job creation than the one we have now."

Part of this, of course, may be an effort by big-company CEOs to protect their cushy pay packages.  But it's also true that the American corporate model, which produced remarkable wealth and prosperity in the 20th century, has undergone profound change in the first years of the 21st.  CEOs, while still earning fat pay, have seen their power and authority diminished.  Pension funds, regulators, state attorneys general, hedge funds, nongovernmental organizations and a host of others have demanded, and often gotten, a bigger say in corporate affairs.  Boards of directors are beginning to look more like legislative bodies, responding to the demands of disparate constituencies.

Meanwhile, in one of the great paradoxes of modern business, the same pension funds that push for ever more transparency and involvement in running public companies also are putting ever more money into private-equity funds, where an alternative model is developing.  These funds allow the companies they own to operate largely outside of public view.  They offer investors little say in governing the companies.  And they often provide top executives with far more lavish pay packages than public companies -- provided they perform.  Oversight of the companies comes not from a board of "independent" directors, but from a group of intensely involved investors, who have a lot riding on the outcome.

Which of these models of the corporation will prevail in coming decades?  The fact that public-pension funds, while championing more shareholder democracy for public companies on the one hand, are hedging their bets by investing more in private companies on the other, suggests that's at least an open question.

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