Short arms and deep pockets

For my last blog this week I’m going to be discussing CEO pay. CEO’s have always been paid a lot and I believe CEO’s should be paid a lot for several reasons – the job is tough and often short lived due to very difficult challenges and impatient Boards of Directors and because people in organizations need a highly paid position they can aspire to in order to help motivate them to want promotions. However I don’t agree that CEO’s should be guaranteed enormous compensation packages or astronomical pay regardless of the performance of the organisation. CEO’s are one of the first to say employee pay should be based on performance, claiming it’s the fairest way to pay employees. So why should CEOs, Chairman or anyone else be exempt? And how has the pay got so out of hand?

No rule as yet is in place in the UK but in 2010 the US passed the Dodd-Frank Act. This act means public companies are now legally obliged to publish the ratio which compares the pay of their CEOs to that of their median employees. This act should hopefully educate the general public on just how much CEO’s earn and give an understanding of which CEOs are focused on personal greed.

Ironically this push for CEO salaries to be public and more transparent could be to blame for benchmarking. When hiring a CEO every company wants the best and most of the time the best isn’t just waiting around to get picked he/she will already be a CEO somewhere else at a successful company. To poach a CEO you naturally have to offer them a better deal than anyone else in the industry and thus this Dodd-Frank Act has made this easier to do. Myself like others would want a considerably better package if it means leaving a good position and taking a risk with an unfamiliar company. This increase in pay every time a new CEO is hired and the fact that CEO’s on average are fired every three years; it takes a significantly short period of time for CEO’s packages to get at ridiculous levels. This doesn’t just happen with CEO’s it happens in the sports industry and this is the reason why footballer’s salaries have gotten out of control. To regulate this NFL set a wage cap, but would this work for CEO pay? I believe for it to work in England a salary cap of the same amount would need to be enforced globally. If it’s not, the best CEO’s in England will go chasing the money and move elsewhere, it’s just human nature!

What other things can be done to control CEO’s salary? Peter Drucker created the 20 to 1 ratio in 1984 basically stating that CEO pay should be no more than 20 times the average worker’s pay. Rick Wartzman in an article for business week stated “Widen the pay gap much beyond that, Drucker asserted and it makes it difficult to foster the kind of teamwork that most businesses require to succeed”. Following Ducker’s idea Starbucks CEO Schultz  in 2014 earned a total pay valued at $21.5 Million this would have to mean that the average Starbucks worker earns just over $1 million for 2014. A little over the going baristas rate don’t you think? Based on analysis results from 2014 only 4% of US companies would meet Drucker’s standard! And CEO’s at FTSE 100 Company earn 149 times more than the average worker; which is a pretty disgusting figure.

I’ll stop being so negative for a minute and I’ll just mention a couple of organisations which have actually started to consider Drucker’s theory. The CEO of Grant Thornton, Sacha Romanovitch has capped her pay at 20 times higher than her average worker. Although not as low TSB’s CEO Paul Pester salary is capped at 65:1. Yes companies that use this can be seen as a publicity stunt but the more companies that use this ratio can only be a good thing. Imagine all the money saved that could be used for CSR activities or used to increase all employee salaries.

These two examples are of companies where the average worker’s pay is relatively high but sometimes large pay gas could just show the nature of the industry. Companies like Primark are obviously going to have a higher ratio than accountants employing smaller numbers of highly skilled staff.

Another option to try and control this increase is to company CEO compensation to the value they bring to the corporation. To many this may seem the best way to pay CEOs there pay rises and bonuses would be set to how successful the company has been throughout the year. Helping CEO’s think more about how to use the company’s money and how it affects performance. However just to be devil's advocate not all value is directly reflected in financial impact and a company’s financials can fluctuate with the market in ways that simply does not reflect the quality of the CEOs leadership.

To finish even though I agree that CEO’s salaries should be high I don’t believe it is right that in the US the average CEOs earned $11.7 million in 2013 and the US president earner $400,000. Above I have given examples of how we can look at correcting this but not one of these policies will work alone. Multiple policies will need to be in place and it would need to be a global agreement. I know that the likely hood of this ever happening is extremely rare but what do we do? Sit and watch as the CEOs fill their deep pockets?

Thank you for reading  and as always feel free to leave any comments?

Idiots and Samurais

Watching the Olympus: 1.7 Billion Dollar Fraud documentary, I feel almost ashamed that I knew nothing about this scandal. Before discussing this case I’ll just give you a brief overview of this scandal. Woodford became president of Olympus in 2011. He was an unusual choice for Olympus as he didn’t speak Japanese and has often been reported that Woodward was an outsider, who would be easy to control. I bet Kikukawa and the board regretted the decision to put Woodward in power! As after only a few months Woodford became aware of accounting fraud when an anonymous employee leaked the story in an article for Facta. He wanted these claims to be investigated but the board dismissed these claims and wouldn’t let the issue go any further. The fraud in question started back in the 1980s and built up over the years to cover Olympus’s loses. Olympus realised the companies loses through acquiring three defunct companies for $700 million and another $680 million for ‘advisory fees’. In all Olympus hid $1.7 billion in loses. After much disagreement Woodward got dismissed from Olympus and the whole story came to light.

If you are reading this and thinking was Olympus’s fraud really that bad? There’s no personal hidden agenda and no personal enrichment from this. The perpetrators were motivated purely to save the company and the thousands of people working there. So I guess it was a victim less crime? I believe different; for one the shareholders were misled. I wouldn’t have wanted shares in the company when they dropped from the equivalent of over £15 to less than £3 when the scandal broke.

If I was a shareholder I would want to why wasn’t a fraud that started in the 1980’s caught earlier? Olympus pays for an external audit by an independent body so why did they not report this? Because of this I looked into who were Olympus’s auditors. It seems a mystery why one of the biggest accounting firms KPMG signed off on Olympus’s accounts in 2009. Even though they mentioned to Olympus that they disagreed with the way they accounted for the acquisition of Gyrus. After this Ernst & Young replaced KPMG as external auditors and yet the fraud was still never caught!!! So did the auditors follow the code of conduct? Did the auditors do their duty in good faith to ensure that the books gave a true and fair view of the state of affairs at the company? I believe they didn’t. If the auditors had worked more diligently and questioned the accuracy of accounting, the alarm bells would likely have woken up Japanese regulators years earlier.

I feel the main reason this scandal never broke until Woodward become whistleblower is the Japanese culture. After spending a year living in Asia I understand how proud the Japanese are of their culture but with corporate governance this seems to have turned into stubbornness. The Olympus fraud brought to light the lack of independent board members at many of the big Japanese companies. Only 3 out of 15 board members were independent when the scandal broke in 2011 and the main concern being these figures are high for Japanese companies! Woodward has said his self that the Japanese closed-rank corporate culture needs to change and I couldn’t agree more!

But I can’t just pick on the Japanese culture here; globally we never seem to learn. Olympus is another company with financial manipulation, management abuse, special purpose entities, conflicts of interest, and complicit auditors. From Olympus to Enron and now Volkswagen this abuse of power continuously occurs and as I mentioned in my first blog they consider themselves untouchable. And like many others I am fed up of these scandals.

As always thanks for reading and feel free to leave any comments