After years of watching corporate CEOs make off with millions while their companies founder, the Securities and Exchange Commission took its first steps Tuesday to do something about it. Under proposed new rules, companies would have to disclose, in a single place, just how much their CEOs make -- instead of burying that information in the footnotes of the blizzard of filings made every year.
If the rules are approved, there will likely be more headlines about overpaid CEOs. But the new regulations will do little, by themselves, to curb lavish pay for lackluster performance.
On Tuesday, the five-member SEC panel voted unanimously at a public meeting to propose the plan, which would make the biggest changes in rules governing disclosure of executives’ compensation since 1992. The proposal will be opened to a 60-day public comment period and could be formally adopted by the SEC sometime in the spring. But the rules are still subject to changes and delays as the commission hears from opponents of the proposal.
Under the new rules, companies would be required to list all forms of compensation in one table and include pay that currently isn’t disclosed -- from millions of dollars in “deferred compensation” to lavish pensions and perks, like use of the corporate jet for personal travel.
“Right now, executive pay is like a scavenger hunt," said Nell Minow, editor and founder of The Corporate Library, which tracks executive pay. "You have to get little pieces of data here and little pieces of data there.”
The proposed rules follow years of backlash from shareholders, politicians and unions over egregious examples of CEO compensation that seem to have little to do with the performance of the company or its stock. Chief executives at large U.S. companies were paid $5.7 million on average in 2004, up 30 percent from 2003, according to the Corporate Library. During that period, the Standard and Poor's 500 stock index was up just 9 percent. Rank and file workers have seen their paychecks rise by about 3 percent.
As the gap has widened between what employees and their top bosses take home, investors may wonder whether “payment for performance has been replaced by payment for pulse," said SEC Commissioner Roel Campos at Tuesday's hearing on the new rules.
The proposal marks the first time the government has updated regulation of CEO pay in more than a decade. In the early 1990s, the IRS under the Clinton administration moved to cap the deduction a company could take for “performance-based” cash compensation at $1 million per executive.
But because “there’s a whole industry of lawyers and consultants that will find ways of paying people beyond disclosure boundaries, the rules regularly need to be updated,” said David Yermack, a New York University finance professor who has studied CEO pay packages.
To get around disclosure rules, CEO pay packages now include bigger pensions and so-called “deferred compensation.” Here's how it works: Instead of exceeding the million-dollar pay ceiling by taking home millions more, a CEO “lends” the additional money back to the company in return for a guaranteed return on that "loan." Under certain circumstances, the terms of those deals, which can include paybacks at above-market interest rates, don’t need to be disclosed. Outsized pension benefits, which can include lifetime access to the corporate skybox or an annual clothing allowance, also fall outside the disclosure rules.
Capping corporate perks
The new SEC rules would also lower the limit on undisclosed corporate perks for CEOs in still office -- capping them at $10,000 a year, down from $50,000. Those goodies include catered lunches, club memberships, company cars and chauffeurs, private use of company-owned resorts, better health care than the rest of the company’s workers, and, of course, the use of the corporate jet for personal travel.
Yermack says it’s not at all clear that CEOs who are lavished with big paychecks and generous perks do any better than those who are paid more modestly. In one study he found that companies that allow personal use of corporate aircraft tend to underperform the stock market by about 4 percent a year over the 10 years he looked at the data. So disclosure of outsized pay, by itself, will do little to strengthen the link between CEO pay and performance.
One obvious goal of the rules is to give shareholders a better idea of just how their money is being spent. But full disclosure by all CEOs could also give pause to the the corporate boards of directors that approve CEO pay packages.
“I think the board is really the intended audience of most of this,” said Yermack. “Most boards are very much ignorant of what market practices are, and they rely on consultants who give self-serving presentations,” said Yermack.
Still, the rules will do little to limit the kinds of cozy relationships between CEOs and their boards that have given rise to some of the most controversial pay packages. For that, say experts in corporate government, the SEC needs new rules on how corporate directors are chosen.
There’s also little in the proposed rules to empower shareholders to take action when they believe a CEO is overpaid. The vast majority of corporate directors run unopposed, largely because of the huge expense in mounting a proxy battle to unseat an incumbent board. Rare examples of investor revolt are usually funded by large shareholders like disgruntled institutional money managers or corporate “raiders.” These investors look for companies that they believe are so badly mismanaged they can earn back their investment by ousting management and getting the company back on track.
And don’t expect to see a flurry of CEO pay packages disclosed any time soon. The proposals are just that: the SEC is just beginning a review process that will take months before a vote is taken. If, as expected, the full disclosure will be required in annual proxy statements, those filing won’t happen until March of next year at the earliest. But it remains to be seen how much opposition develops and how hard opponents fight to block the rules.
“These things have a way of getting delayed,” said Yermack. “And if these proposals are controversial enough, they may have to be rethought and the vote could be postponed -- it may take a couple of years.“
Yermack noted that another controversial issue surrounding compensation -- the move to classify stock options as a company expense -- has been debated for 20 years without resolution.