CEOs Are Paid Fortunes Just to Be Average | Bloomberg View

From Barry Ritholtz:

Verizon’s purchase of Yahoo! for $4.83 billion, while an interesting exercise in combining content, networks and mobile services, highlights the broken norms for paying executives of U.S. corporations…….Yahoo Chief Executive Officer Marissa Mayer will walk away with more than $200 million for doing little more than keeping the seat warm for the past four years.

Research has shown that external influences account for the majority of a given company’s share price. A rule of thumb is that the company itself is only responsible for about a third of its price movement. The market gets credit for about 40 percent, while the performance of the company’s industry drives another 30 percent.

There are of course exceptions. Apple’s incredible share run-up on the iPod, iPhone and iPad is hard to match.

….Share price isn’t a very precise way of compensating for value delivered. Indeed, share price may be one of the worst ways to judge an executive’s performance….

There should be ….. reform in corporate pay policies; executives who deliver returns that match the market or industry should be compensated like low-cost service providers. It’s long past due that this happens.

Barry raises an interesting point. Why not pay executives for outperformance, above the market, in the same way that fund managers are paid performance fees for outperforming the index?

But there is another issue related to stock options. Executives are betting with other people’s money. If the bet comes off and the stock outperforms, they cash in their share options. If the bet doesn’t come off, the shareholders suffer and the executives walk away scot-free. They will be more inclined to take risks if they have no skin in the game.

The investment bank I worked for in the nineties had a far more sensible approach. Executives were loaned large amounts at attractive interest rates for the purpose of buying shares in the company. When the stock price rose they became extremely wealthy. But if the price had fallen, they were accountable for the loan. It certainly made executives more risk-averse — they thought and acted like shareholders. Not a bad idea in the banking industry.

Source: CEOs Are Paid Fortunes Just to Be Average – Bloomberg View