Tuesday, January 3, 2012

How do CEOs get so much money?

The Canadian Centre for Policy Alternatives has released a new report on income inequality in Canada:  Canada's CEO Elite 100.

For those readers who don't know, the CCPA is a left-wing think tank.  On its website, it calls itself a "non-partisan research institute", but there's a clear left-wing skew, probably about equivalent to the Fraser Institute's right-wing skew.

I don't say that to be pejorative.  I read articles of the FI and of the CCPA, and glean important and interesting information from both.  But it's always important to consider the source of information when evaluating its reliability.  There's an abundance of garbage on the internet these days, and a lot of it even appears to be well-sourced.  When in doubt, check the source data.  Both the FI and the CCPA tend to be pretty good with their facts, but they still have their biases.

This report is the kind of thing we've seen a lot of lately.  It's the fuel of the Occupy movement, seeing that CEOs - the same people who drove a market crash - are making absolutely mind-boggling amounts of money. But, when we're talking about publicly-traded corporations, the argument goes that salary decisions for executives are ultimately accountable to the shareholders - if the shareholders didn't think the CEO was worth a boatload of money, they wouldn't pay it.

Now, that all seems fictional.  There's something unsatisfying about the explanation, when we're talking about such astronomical dollar figures, and the CCPA report captures a part of the reason.  CEO salaries are set within a closed system, by people within the system, and the only point of reference is to what other CEOs are getting paid.  "Joe is the CEO for this other company, and is getting x million, and he's doing a much worse job than our CEO."  If one company's Board of Directors actually decided to reduce executive compensation to a more reasonable level (which is unlikely because the high-pay system benefits these same individuals), the CCPA argues, it would put that company to a competitive disadvantage.

But it goes deeper than that.

Here's how it works:  The shareholders hold an annual general meeting to elect a Board of Directors, and the Directors hire the CEO and set his compensation.  So, in theory, if the shareholders aren't happy with executive compensation, they need to hold the Board of Directors accountable.  But when you start looking at how the AGM works, that doesn't look so easy.

The usual nomination process is that the CEO distributes a "proxy circular" to all shareholders, which nominates the Directors.  The only way for another person to get on the ballot is to have a dissident proxy circular distributed, and these are rare and expensive.  Goodmans LLP released this report last April which examined the success rate of dissident proxy circulars, and reported that their success rate was actually quite high, based on a review of all 44 of the dissident proxy circulars which had been undertaken in 2008 and 2009.  That's right, all 44 of them, across the country, in a 2 year period.  So their success rates may not be terrible, but they are extraordinarily rare.  Why?

Because you need an immense level of investment in the corporation in the first place to justify going to the expense and challenge of trying to fight the Board of Directors.  Given significant levels of voter apathy, that immense investment will, in and of itself, give the dissident proxy a fighting chance - Goodman's noted that much greater success rates were achieved on dissident proxies launched by shareholders owning more than 10% of the company.

The vast majority of investors vote with their feet.  That is how our stock market works.  There isn't widespread shareholder involvement in the operations of the company.  If you don't like how a company is doing, overall, you sell.  If there's a broad consensus that the company isn't doing well, the stock price will drop.  Then, after lots of people have already lost huge amounts of money on the company, you might see hostile takeovers, or single companies obtaining a large enough portion of the shares to replace some or all of the Board of Directors, but because these takeovers are always by other corporate entities, their directing minds are never going to have executive pay reform on their minds as a priority.


This blog is not intended to and does not provide legal advice to any person in respect of any particular legal issue, and does not create a solicitor-client relationship with any readers, but rather provides general legal information. If you have a legal issue or possible legal issue, contact a lawyer.

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