Runaway Pay

Regulation could come down hard on excessive executive pay.

Outsized executive pay is attracting ever harsher criticism from stakeholders across Europe. The French government, which takes over the six-month presidency of the EU in July, is promising to tackle “scandalous” pay rises and bonus rewards, in the words of finance minister Christine Lagarde. She has hinted that EU-wide regulation may be necessary to limit pay that is not deemed sufficiently linked to company performance. Jean-Claude Juncker, prime minister of Luxembourg, told Lagarde and other euro-zone finance ministers at a meeting in May that recent rises in executive pay were a “social scourge,” urging his counterparts to consider new taxes on hefty bonuses. Even Jean-Claude Trichet, president of the European Central Bank, said that it was “legitimate to raise questions” about the size of some executive pay packages, warning that they could fuel higher inflation and, by extension, push up interest rates.

A sizeable share of executives themselves also think that current pay practices are out of whack. In CFO Europe’s latest Business Outlook Survey, 20% of senior finance executives in Europe said that “excessive” executive pay is an issue that may require greater regulatory oversight. (See “The Missing Link” at the end of this article.)

The Dutch government has done most to address the issue, following the multimillion-euro “golden parachutes” granted to the bosses of food group Numico and bank ABN Amro after their recent takeovers. In May, finance minister Wouter Bos introduced a legislative proposal on the “taxation of excessive remunerations.” Under the plan, now working its way through parliament, companies that award severance payments exceeding the annual salary of employees making more than €500,000 will, from 2009, face a 30% levy, as well as additional tax of 15%, from 2010, on contributions to those employees’ pension funds.

Can companies do a better job designing pay policies in order to avoid a more widespread regulatory crackdown? For Pascual Berrone, a professor at Spanish business school IESE and contributing author to Global Compensation: Foundations and Perspectives (Routledge, 2008), the answer involves broadening the performance measures tied to executive pay. The general public — and by extension, politicians — want companies to “do more than amass shareholder wealth,” Berrone says. “Diverse stakeholders’ goals should be part of corporate strategy and reflected in pay schemes.” Including environmental metrics or broader social measures in bonus schemes alongside traditional profit-based gauges, he says, will send the signal that a company is “more than just a money-making machine.” Although naturally, he adds, that should be a firm’s overarching goal.

Factoring squishier metrics into pay schemes may appear to be a tall order, but Berrone points out that executive compensation has always been “more of an art than a science.”

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