Australian board directors have almost no hope of designing acceptable CEO pay

  • The base pay of newly appointed CEOs in Australia tends to be lower than those they replace.
  • However, this trend down appears to have done little to alter perceptions of income inequality.
  • And bonuses still swell the final take home pay of senior executives.

Newly appointed Australian CEOs across the ASX100 are being paid around 16% less than their predecessors and almost half of incumbent CEOs received no fixed pay increase in last financial FY17.

Nevertheless, such decisions are failing to alter perceptions of business efforts to address concerns about income inequality, with the debate on CEO pay moving from hot to volcanic this week.

The Australian Council of Trade Unions is holding a series of rallies as part of their Change the Rules campaign aimed at drawing attention to “exorbitant CEO pay”.

Earlier this month Labor also announced that, if elected, it would legislate to require publicly listed companies to report the ratio of CEO pay to that of the median worker, in line with recent moves made by the UK and the US governments.

And over the last few months we’ve seen some of the largest shareholder “No” votes against remuneration reports occur.

Unfortunately the answer is far more complex than just pay CEOs less or pay no bonus to a CEO if a company is experiencing challenging times. What is being challenged is the fundamental purpose of executive pay.

Are incentives necessary at all? If so, is the purpose of incentives to reward an Executive for doing the best they can in the circumstances, minimising the “pain” for shareholders in challenging economic times, shepherding an organisation in the midst of a disrupted industry? Or should incentives simply reward for share price performance such that executives and shareholders share in collective financial success?

These distinct purposes should lead to very different reward structures and different reward outcomes. It is critical that Boards have clarity around the purpose of their exec rem model before they make significant changes.

In the current stakeholder environment, Boards have almost no hope of designing a reward structure that gets the “tick of approval” from everyone.

Influential stakeholders in the remuneration debate are many and varied and views amongst these stakeholders have never been more at odds.

For example, proxy advisors and investors typically don’t support the use of non-financial measures, whereas regulators are demanding a greater link between pay and risk and culture measures.

Similarly, the use of board discretion can often be seen as an indicator of a flawed incentive arrangement by proxies, and yet financial services Royal Commissioner Kenneth Hayne has exposed the danger of pay arrangements that simply reward via a formulaic outcome.

When the numbers are so big, the views so divergent and passionately held, it is difficult to have a calm, sensible debate, but there are a number of considerations for Boards to better align reward structures and outcomes to community expectations.

Firstly, Boards need to do better at articulating the purpose of incentives and be consistent in how this translates into remuneration structure and outcomes.

Secondly, Boards need to develop their own view of what is “fair” and proactively communicate their definition of fairness and how this is considered in determining pay outcomes.

For example, is it fair that an executive appointed to turn around the most troubled, complex organisation should take home less than a CEO leading an already high performing company? How does a Board ensure male and female executives are being paid consistently and fairly?

A number of organisations in the UK have gone about this by developing “fairness principles” for pay, and then publicly holding themselves to account (e.g. to achieve gender pay equality, to always pay at or above the minimum wage).

Thirdly, the various stakeholders in the remuneration debate need to be prepared to come together to tackle this issue constructively and without self-interest.

Such initiatives as The Purposeful Company Taskforce – a consortium of FTSE companies, investment houses, business schools, consultancies and policy makers convened by the UK Government in 2015 – are a great example of this in moving the pay debate forward.

One thing is certain; we need to move away from a one-size-fits-all approach that has dominated the executive pay landscape in Australia in recent years.

Ironically, a board who wished to remove executive incentives altogether would likely face huge pushback from investors and shareholders.

And finally, we need to trust that boards are taking their responsibility in relation to executive pay very seriously.

Having them constantly anticipate and react to shifting views of stakeholders, forcing a redesign after one bad year, and redirecting time away from strategic discussions to manage the reputational damage that results, is very disruptive and will likely increase damaging short-termism.

Nevertheless, it’s clear that the public wants businesses to do more to tackle income inequality.

Deliberate consideration and better articulation of Executive pay purpose, transparency and increased communication on fairness, and a collective commitment by the relevant stakeholders to address concerns around executive pay is the only way corporate Australia, and Boards will build the trust necessary to truly tackle this issue.

* Emma Grogan, is Partner, People and Organisation, at PwC Australia.

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