Imagine a single year of your working life valued at, say, $19 million. For most of us, that sounds like a pretty darn good year, to say the very least. Now consider the fact that that figure represents a down year in the CEO pay landscape.
Image source: Pixabay.
That's right: CEO pay in the U.S. generally seems to go nowhere but up, but last year the overall median compensation for chief executive officers appears to have actually fallen. However, this bizarre version of "tough times" highlights the reality disconnects in our marketplace that result in striking income inequality.
Some stats are in
According to executive compensation data provider Equilar and as reported in The New York Times, the average CEO's annual pay package added up to $19.3 million in 2015. That represents a 15% drop from the $22.6 million that CEOs pulled in on average in 2014.
According to the Equilar data, Expedia's (EXPE 0.58%) Dara Khosrowshahi topped the list with compensation valued at a whopping $94.6 million. However, maybe the red-letter event here is that even though Khosrowshahi came close, for the first time since 2012, none of the companies Equilar looked at handed out compensation valued at more than $100 million.
The Wall Street Journal reported on CEO pay stats as well. While the WSJ analysis also showed a decrease in pay, this decrease was less pronounced among the companies it surveyed. According to its findings, median CEO pay fell 4.6% to $11 million in 2015.
Either way, these sources agree the trend was down in 2015 -- but clearly, even a lackluster compensation year for many CEOs still represents mind-boggling big money. There's still plenty of work yet to be done to get CEO pay moving in a more rational direction -- particularly since shareholders are sometimes getting slammed when the performance simply isn't there to justify the compensation.
The money equals merit myth
This CEO pay stumble goes hand-in-hand with the stock market slowing its pace as well. In 2015, the S&P 500's median shareholder return was 1.4% (including dividends), versus 18% the previous year.
The market's lackluster year helped suppress many chief executives' pay since their total compensation usually includes stock and options. While using those levers to encourage performance makes sense in theory, they can also create an incentive to focus too much on short-term share price rather than on long-term business health and value creation. Focusing too much on earnings per share tempts leaders to make the short-term numbers immediately at all costs.
Of course, CEO pay really should be connected with some kind of performance measure, though -- believe it or not -- some companies' executive compensation policies aren't really connected to any solid concept of performance at all.
Regardless of all the work that needs to be done to encourage performance and long-term mindsets, there's a basic disconnect in the conventional wisdom that simply handing someone massive pay seals the deal in terms of encouraging them to do the kind of exemplary job that merits bonanzas. "Money equals merit" is by no means a foregone conclusion. We can see it in individual stocks, and there's research to back that up, too.
Overconfidence, underperformance
In 2014, academics from from the University of Cambridge, Purdue University, and the University of Utah released a study that lends more support to the idea that big money doesn't automatically motivate big performance.
According to the authors, "We find that Chief Executive Officer (CEO) pay is negatively related to future stock returns for periods up to three years after sorting on pay. For example, firms that pay their CEOs in the top 10% of excess pay earn negative abnormal returns over the next three years of approximately -8%."
This effect was particularly linked to chief executives with higher tenure and elevated incentive pay (notably options) compared to their peers. The researchers believe that overconfidence linked to high pay actually hobbles such CEOs' management performance.
To investors who ponder the market's machinations and its relationship to psychology, that revelation may not come as a big shock. Overconfidence is one of the behavioral weaknesses that can drive poor investment decisions, too.
Big cogs in the CEO cash machine
Much of the blame for the skyrocketing trajectory of CEO pay falls on the shoulders of boards of directors, particularly those who serve on compensation committees. They could use some serious pressure to shift their thinking toward shareholder interests, as opposed to management-centric compensation moves.
That brings us to the fact that shareholders have to care and decide to shake up the whole scene. This includes individual investors with shareholder votes, but there's one type of shareholder that particularly needs to make a stand because their footprints are significant. Big institutional investors hold the kind of influence and voting power that could really help in say-on-pay and director votes, in addition to ongoing engagement with companies with particularly egregious pay policies.
Speaking of which, BlackRock (BLK -0.50%) -- the world's largest investor, representing more than $4 trillion in assets under management -- was recently subject to a shareholder resolution related to its say-on-pay voting policies. BlackRock has chosen inaction on about 97% of its say-on-pay votes instead of voting more frequently to reject high CEO pay.
The resolution, put forth by the Stephen M. Silberstein Revocable Trust, asked for a report on BlackRock's policies and guidelines on its voting practices, as well as an evaluation of options for aligning its voting practices with its stated principles of linking pay with performance.
Unfortunately for those who would like to see BlackRock make a significant stand, its shareholders ended up resoundingly rejecting the proposal.
Still, it was notable that someone went to bat to try to push a massive, highly influential investment force like BlackRock to put its significant shareholder vote "currency" where its mouth is and raised the profile on the concept. Hopefully next year, proposals like Stephen Silberstein's will make a bigger impression on those who care about a rational, reasonable marketplace -- and awards based on business performance, not mere titles.
A financial irony
It's ironic that so many investors let astronomical CEO pay slide. After all, shareholders are part owners of the companies whose stocks they hold, and CEOs are in fact paid with shareholder money. For folks so concerned with financial concepts, it's odd that so many accept insanely high CEO paychecks as a normal cost of doing business.
And when the performance isn't even there, those expenditures can be even costlier than we think. Compared to the value added -- and considering how these individuals' work tends to be valued exponentially higher than that of most average, hardworking Americans -- in so many cases, the numbers just don't add up.
Check back at Fool.com for Alyce Lomax's columns on environmental, social, and governance issues.
