The US Chamber of Commerce is full of shit for claiming that high CEO-to-worker pay ratios don't matter
It's a damned good time to be a CEO in America.
Despite the fact that the US economy is shrinking, median CEO pay rose for the fourth straight year, topping out at $10.5 million. Analysts attribute this to a shift in recent years in how corporate compensation is calculated, with boards rewarding CEOs for boosting a company's stock.
And why shouldn't they? Better to tie a CEO's pay to a company's success than to hand out exorbitant salaries merely to keep up with your rivals, right? That strategy of oneupsmanship was how CEO compensation had been handled for many years, Steve Silberstein of UC-Berkeley tells Pando. “Nobody wants to have a CEO that’s [paid] below average. So as one person’s pay goes up, everybody’s pay goes up. It’s kind of a club.”
The trouble is, despite record corporate profits and the lowest effective tax rates in decades, fewer and fewer of those earnings are being passed on to non-executive employees -- in fact, employer-paid compensation is at its lowest rate since 1948. This inequality is perhaps best symbolized in the minds of the public by America's out-of-control CEO-to-median-employee pay ratios. In 2012, CEOs made a whopping 273 times more on average than their workers. Compare that to the 1960s when CEOs only made about 20 times more.
On paper, these high-paid CEOs may "earn their keep," but if those profits are applied disproportionally to the highest earners, it hurts the purchasing power of the average consumer, "contributing to the slowest [economic] recovery on record" according to former US Secretary of Labor Robert Reich. Furthermore, many experts question the efficacy of incentive-based CEO compensation packages, while business school professors overwhelmingly agree that performance suffers the more a CEO is paid.
That's why CEO-to-employee-pay ratios have become such a hot-button issue for those troubled by increasing income equality, which, considering we live at a time when a 700-page book on the country's wealth gap can shoot to the top of Amazon's bestseller list, appears to be a concern shared by many Americans.
But when it comes to pay ratios, the US Chamber of Commerce – a pro-business lobbying group – has taken a vastly different attitude.
It recently released a report compiled by the Center for Capital Markets Competitiveness (which sounds like a fake think tank conjured by Stephen Colbert) not only calling pay ratios a poor metric for measuring CEO effectiveness and compensation fairness, but also claiming that the costs associated with calculating these ratios are "egregious":
The intent behind the pay ratio rule is inherently political as it is designed to 'shame' American businesses in order to placate certain special interest constituencies. It is hard to understand the economic or logical argument behind the rule, which will damage our economy by imposing unjustified high costs and burdens on businesses, investors, and end-users.The report was made in response to a provision of the Dodd-Frank Wall Street Reform and Consumer Protection Act that requires public corporations to calculate and disclose these ratios. The timing of the report also coincides with the arrival of CEO ratio mania in California, where a bill was recently introduced in the State Senate offering corporate income tax breaks to companies with CEO-to-worker pay ratios of 100 or less, while increasing the tax rate for companies with egregiously high ratios -- like Apple, which in 2011 had an enormously unbalanced ratio of 6,258 to 1.
Although that bill failed to achieve the two-thirds majority required by the California Senate to change the state's tax code, it did muster more "yea" votes than "nay," an accomplishment that shows lawmakers are willing to take this issue seriously.
Cost of compliance
Contrary to what the report says, the SEC estimated that it would only cost around $18,000 per company to calculate this ratio. So what are these "unjustified high costs and burdens" that the Chamber refers to?
The paper's researchers asked 118 companies to estimate how many hours it would take to calculate this ratio and, on average, the respondents came up with a figure of 952 hours per year amounting to a labor cost of $185,600 per company. That leads to $710.9 million in annual costs to the private sector, the report claims.
That's a pretty huge jump from the SEC's estimate of $18,000. So what explains the 1000 percent disparity between the SEC's figure and the Chamber of Commerce's?
"I don't know how they could come up with these astronomical figures," says Bartlett Naylor, a financial policy advocate at Public Citizen, a non-profit consumer rights think tank based in Washington, DC. "I can't believe that a pharmaceutical company that's going to give us drugs can't figure out how to pay their employees. Just put the employees in an Excel spreadsheet and hit 'Median.' It's an embarrassing concession that they can't do this in a few seconds."
In fairness, some companies have more complex personnel distributions than others. But the SEC also allows for statistical sampling in calculating these figures, meaning that companies don't have to count every last employee. And yes, corporations with employees around the world have a more daunting task ahead of them, but as Naylor notes, they still have to comply with local tax laws and thus have records of these wages. To make matters worse, the Chamber wasn't terribly transparent about the methodology used in the survey. Did they inform the respondents that they could use statistical sampling like the SEC allows? Which 118 companies did they survey? Even the Chamber admits these 118 companies comprise only 3.1% of all businesses covered by the rule.
I reached out to the U.S. Chamber of Commerce but they would not connect me with anyone to answer these questions. All I received was a press release that distilled the original report into glib talking points.
Of course the "egregious" costs involved is only one aspect of the pay ratio debate the Chamber took issue with. The other is that the lobby simply doesn't think CEO pay ratios are a valuable metric, regardless of how much it costs to calculate them:
Whether a CEO makes 20-, 200-, or 2,000-times as much as the median compensation of the firm’s employees provides no particular insight whether a CEO or the median employee is fairly compensated. In fact, such a statistic could present a fundamentally misleading portrait of CEO pay, particularly compared across industries.
This is the primary reason the report cites for why the metric is not significant: It doesn't make sense to compare the pay ratio of a company like McDonald's, which employs lots of entry-level cooks and cashiers, to a software company like Oracle with a staff full of skilled developers. That's a fair point. But Naylor argues that investors and boards of directors aren't dumb. They don't compare McDonald's to Oracle, they compare McDonald's to, say, Chipotle -- which, it just so happens, has such a high paid CEO that even its shareholders have raised concerns.
Chipotle serves as a valuable case study because it runs counter to the report's assumption that shareholders don't care about a CEO's pay ratio, which for Chipotle co-CEO Steve Ells is a formidable 778:1 relative to his median employee. So regardless of whether this metric really is designed merely to "shame" CEOs as the Chamber asserts, and even if the public really is too ill-informed to come to logical conclusions about fair compensation, the measurement still matters to shareholders, at least in this case.
Granted, the report's concerns about comparing ratios across industries are not without merit. For example, if California's proposal to tie the corporate income tax rate to CEO pay ratio had passed, would it have put an unfair burden on companies with many entry-level retail employees while giving an undue advantage to industries that employ more highly-paid employees? Perhaps. But the Chamber of Commerce's outsized estimations of how much it costs to calculate pay ratios, along with its flippant dismissal of the metric as a valuable piece of information to consumers and shareholders, fly in the face of the facts.
"This is an exercise the Chamber and companies have been playing for several years now to try to claim that no one is interested in this number," Naylor says. But the last few months have shown that shareholders, lawmakers, and consumers alike are indeed very interested in this number. And with income inequality and CEO pay at record highs, the Chamber's lame arguments to keep these ratios under wraps just won't cut it.
[illustration by Brad Jonas for Pando]