Babar Ali

Babar Ali
U. of Washington; Seattle University

My last piece on today’s public perception of CEO’s, Hunting CEO’s, generated a bit of heat. I sided against the public on several issues, but one that I feel needs clarification/justification is that of executive salaries. Are CEO’s getting paid too much or not enough?

My response to that is- they are being paid “appropriately.” By this I mean that the actual salaries and job benefits (security, options, perks, etc.) are what they should be. To determine this, you do not need any complex financial calculations or a team of economists crunching numbers and making pretty graphs. The fact that they are getting paid this amount is exactly the reason why the amount is correct. Confused? Allow me to explain…

We are a market economy, and by rule of supply and demand, the market will pay a premium for valued commodities (in this case, a human resource). It is not a situation of artificially inflated values where an otherwise common resource’s supply is kept artificially low to create demand (ahem- DeBeers diamonds?); this is what their true market values are. Why are they so much higher than in previous years? There are a few reasons for that.

For starters, our economy is growing, and it’s growing pretty fast. It is getting tougher and tougher to find talented and qualified (in the sense they have previously proven themselves) executives. If you compare just the census data from 2002 and 1997, you will see the remarkable growth businesses have faced. Sectors such as the Professional, scientific, & technical services, Information, and Health care & social assistance have grown by 45.8%, 44.1%, and 36.8% respectively. It would be unfair to expect this level of growth in the industries and companies while maintaining lower salaries for those responsible.

The base salaries of executives are almost always below $1 million (including Ford, Boeing, Google, etc.), with the majority of pay coming in the form on stock options, giving the executives incentive to perform, and perform well. When the general public reads headlines about some obscene amount of money an executive made, they get fixated on the dollar figure and often don’t bother with the details. For example, Allan Mulally, the new CEO of Ford, was featured on the cover of several national newspapers as having made $34 million in the first 4 months on the job. There was a considerable amount of outrage at this, as he had cut thousands of jobs and virtually guaranteed that Ford will incur losses until at least 2009. Details? His base salary was $900,000; the largest part of his salary was due to Ford compensating him for the $11 million+ stock options he forfeited when he left Boeing; then there was security, stock options, and corporate allowances that played in. Did his bank account actually see a deposit of $34 million? No. And it probably never will, as is the case with most executive salaries and benefits.

Scandals are have had an impact on executive salaries as well. As is with any commodity, people (in this case the Board of Directors) are willing to pay a certain premium for a candidate with exceptional moral standards and a squeaky clean background. Companies often pay a higher premium if they have recently gone through a scandal or fear being part of one. A corporation has a certain image to maintain, and the CEO is the face of the company. Is it alright to spend millions of dollars on PR, but then skim on the biggest spokespersons salary? I don’t believe so.

Universities are following the same trends. The recent contract of Vanderbilt University was making headlines when E. Gordon Gee signed on to make in excess of $1 million (and additional millions in perks and other compensations). The best part? He’s not even the highest paid Academic head! That distinction belongs to Donald E Ross, President of Lynn Univ in Boca Raton, Florida, whose annual pay package is worth $5,042,315. How is this justified? Well, simply put, it is because there is a demand for the best, and the best are a rarity. Simple economics comes into play and out comes a salary figure.

Although I personally disagree with academia drifting towards a higher salary (because I feel it to be partially a social service), I am in total agreement for executive salaries at for-profit corporations to be whatever the market may bear. In the end, the salary is appropriate because people are willing to pay it. Supply and Demand… as simple as two lines on a graph.

NOTE: Right after I wrote this, I was browsing Digg and came across this news item that may be of interest: Bush: Link Exec Salaries to Performance.

To follow the great ongoing discussion on this article, please check out this Newsvine post and thread.