Capping chief's pay as key to good choices
Capping and regulating CEO payments, including performance bonuses, could help make companies more profitable in the long term, experts say.
According to new modelling, reliance on performance bonuses – which are often $7-10 million per year for top Australian CEOs – can lead executives to pursue poor strategies, including being too focused on short term gains.
The recent study also showed that if bonuses are restricted, CEOs and boards will have an incentive to work together more closely.
This closer relationship can enable the CEO to pursue strategies that are more profitable in the long run.
The research was undertaken by Dr Peter Cebon at the University of Melbourne and Dr Benjamin Hermalin from the University of California, Berkeley.
“We’ve seen CEO salaries skyrocket in the last 30 years. That is based on an assumption that these high incentives will create the most profitable environment for a company’s growth,” said Dr Cebon.
“In this research we’ve challenged that assumption and have found that relying on performance pay for CEOs doesn’t necessarily lead to higher profits.
“Strategies driven by bonus payments can get in the way of long-term growth,” he said.
The peer-reviewed study found that if CEO payments were regulated, organisations could perform more effectively and be increasingly profitable.
“Bonus payments based on results can create an inappropriately simple relationship between executives and boards,” Dr Cebon said.
“It encourages boards to hide behind measurable goals, rather than developing a deep understanding of what executives are doing, and why.
“This discourages CEOs from pursuing strategies where the results are harder to measure, such as building organizational capabilities, or pursuing high value, high risk innovations. Those strategies are often much more valuable in the long-run,” he said.
Regulating executive payment and bonus incentives would facilitate greater cooperation between the CEO and the company board.
The study was supported, in part, by the Australian Research Council.