EXECUTIVE EXCESS 1997: CEOs Gain from Massive Downsizing

EXECUTIVE EXCESS 1997
CEOs Gain from Massive Downsizing

Fourth Annual Executive Compensation Survey
May, 1997

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Executive Summary | Efforts to Close the Wage Gap | Corporate Self-Regulation | Government Policy | Investor Activism

Executive Summary

In 1996, 30 firms announced U.S. layoffs of between 2,800 and 48,640 workers. Our analysis of these leading job-cutters reveals that their top executives, for the most part, were handsomely rewarded for wielding the axe.

MAJOR FINDINGS:

1. Layoff Leaders Get Massive Compensation Hike
In 1996, the layoff leaders enjoyed an average increase in total direct compensation (including salary, bonus, and long-term compensation) of 67.3 percent--far above the average increase of 54 percent for executives at the top 365 U.S. firms. Most of the job-cutters' increased earnings came in the form of gains from stock options, reflecting the continued trend on Wall Street to reward downsizers. In salary and bonuses, the layoff leaders received a 22 percent raise, which placed them far ahead of the average U.S. worker, who earned only a 3 percent raise in wages in 1996.

2. Enormous Wage Gap at Job-Cutting Firms
Of the 12 top job-cutting companies for which data were available, the average gap between the top executive's salary and bonus (not including stock options) and the wage of the lowest-paid full-time worker was 178 to 1.

3. Efforts to Control Excessive Pay are Gaining Strength
A national coalition of community, labor, and business organizations is working to eliminate the massive loophole that presently allows corporations to deduct excessive salaries from their taxes. One proposed law, the Income Equity Act (H.R. 687), would prohibit corporate tax deductions on salary and bonuses that exceed 25 times the wage of a firm's lowest-paid full-time worker. This "CEO Subsidy" costs U.S. taxpayers billions. Capping the deduction for only the top two executives at the 365 U.S. firms surveyed in Business Week would generate over $514 million in increased revenue.

Executive Summary | Efforts to Close the Wage Gap | Corporate Self-Regulation | Government Policy | Investor Activism

Efforts to Close the Wage Gap

Corporate spokespersons are quick to argue that multi-million dollar compensation packages are good for business because they give top brass incentives to perform. Yet, at what point does the widening canyon between the rich and everybody else become so large that our social fabric starts to fray?

A growing number of business leaders are expressing alarm. Abraham Zaleznik, a retired Harvard Business School professor who heads or serves on compensation committees for four companies told The Wall Street Journal, "There is unease and disquiet and a sense of concern [about] when enough is enough. At some level, pay levels are obscene." (1)

It is interesting to note that other industrialized nations have significantly smaller income gaps between top and bottom, even though they are operating in the same global economy as the United States. Most European and Asian nations manage to hold pay ratios between top and average workers to less than 30 to one. (2)

This section describes an array of public and private policies that have been proposed to close the gap between top executives and those who work for them.

Executive Summary | Efforts to Close the Wage Gap | Corporate Self-Regulation | Government Policy | Investor Activism

Corporate Self-Regulation

Some U.S. companies do maintain a much smaller gap between workers and top executives. Since 1984, the Herman Miller Company, a Michigan-based office furniture maker, has limited top management salaries and bonuses to 20 times the average paycheck in the firm. The company's retired CEO Richard Rueh told The Wall Street Journal that "the way the CEO gets more compensation is if he can raise the average workers up. From a fairness standpoint, it seems like a good idea."

Herman Miller adopted a narrow pay ratio policy, says Board Chairman Max DePree, after consulting with Peter Drucker, possibly America's most distinguished management guru. A smaller compensation differential, Drucker advised, would strengthen the company's team culture and productivity.

"People have to think about the common good," notes Herman Miller's DePree. "Our CEO and senior officers make good competitive salaries when the performance is there." (3)

The Salem, MA-based Harbor Sweets Candy Company employs 140 workers at peak season and maintains a pay ratio of less than ten to one. CEO Ben Strohecker believes that Corporate America's widening pay gap is "folly" and "counterproductive." (4)

Executive Summary | Efforts to Close the Wage Gap | Corporate Self-Regulation | Government Policy | Investor Activism

Government Policy

Explosive CEO salaries not only tear at the foundation of the social contract between corporations and labor but actually cost taxpayers millions of dollars in lost tax revenue. Should government do anything to encourage more companies to take the Herman Miller and Harbor Sweets approach to compensation?

1. Capping Deductible Pay

Most corporate leaders reject any government regulation of CEO pay as interference in the free market. Actually, government is already involved in CEO pay--through the U.S. corporate tax code. The tax code currently allows businesses to deduct only "a reasonable allowance for salaries or other compensation." But there is a catch. The tax code does not define "reasonable." So companies can--and do--routinely deduct the entirety of executive pay packages that grotesquely exceed the salaries of other employees.

In 1993, Congress attempted to cap the deductibility of executive pay to a maximum of $1 million. But the law applied only to the five highest-paid executives in public firms and only capped non-performance based salaries. In response to this massive loophole, many corporations passed resolutions making all compensation performance-based and shifted much of their top executive pay from base salary to stock options and bonuses linked to performance.

The result? Ordinary taxpayers continue to provide Corporate America with a generous "CEO Subsidy." Corporations are paying less in taxes than they should, and regular taxpayers are picking up the slack.

What can be done about it? One fair-minded proposal comes from Minnesota Congressman Martin Sabo, who recently filed legislation that clearly defines a reasonable deduction. Representative Sabo's Income Equity Act (H.R. 687) would deny corporations tax deductions for executive compensation that exceeds 25 times the pay of a firm's lowest-paid full-time worker. A Senate version will be introduced later in the year.

If enacted, such a law could generate many billions of dollars in increased federal revenues. Using 1996 data, IPS and United for a Fair Economy calculated that the 365 U.S. firms listed in the Business Week salary survey would pay an extra $514 million in increased income taxes if the deduction was reformed in a way that capped the deductibility of the salary and bonus of just their top two executives. (5)

If Representative Sabo's bill passed, no longer would ordinary taxpayers subsidize gargantuan executive salaries. Corporations seeking to reduce their tax liability would either have to reduce top salaries or lift pay at the bottom. "The polarization of income is bad for business and bad for the social fabric of society," says Representative Sabo. "Our hope is that the Income Equity Act will send a message that those who work on the factory floor are as important to a company's success as those who work in the executive suite."

2. Raise the Federal Minimum Wage

The U.S. minimum wage is still not a living wage. Though the minimum wage was raised in 1996, it still lags far behind the wages required to lift a family out of poverty.

Several new minimum wage proposals have been introduced in Congress. The proposal that comes closest to closing the wage gap is that of Massachusetts Congressman John Olver. Representative Olver's bill (H.R. 685) would raise the minimum wage fifty cents each year starting in 1998 until it hit $6.50 an hour in the year 2000.

3. Local Living Wage and Corporate Accountability Ordinances

At the state and local level, living wage and corporate accountability campaigns have emerged as a new way to raise the wages of low-income workers. Living wage ordinances require companies that receive public tax subsidies, abatements, and contracts to pay a living wage to their workers. A living wage is calculated as the amount it would take to lift a family of four over the poverty line (currently around $7.50 an hour).

Some campaigns are beginning to look beyond simply lifting the wage floor to tackling the widening gap between top and bottom workers. Some variations of living wage and wage ratio ordinances include:

A state version of the Income Equity Act that limits the amount of salary expenses corporations can deduct on their state taxes to that of 25 times the minimum wage. These proposals are being debated in Massachusetts and Rhode Island.

Ordinances that flatly deny public subsidies, abatements, and contracts to any private company that has an excessive ratio between top and bottom workers (e.g., over 150 to 1).

A two-tier corporate tax rate that builds in criteria to reward responsible firms with lower taxes. A lower tax rate would apply to firms that retain jobs in the community, maintain a relatively small ratio between highest and lowest paid workers, pay a living wage and are generally good corporate citizens. Such an ordinance has been introduced in the Connecticut state legislature.

Executive Summary | Efforts to Close the Wage Gap | Corporate Self-Regulation | Government Policy | Investor Activism

Investor Activism

1. Shareholder Resolutions

Shareholder resolutions have become the major way that investors are able to express their growing dissatisfaction with bloated executive pay packages.

According to the Investor Responsibility Research Center, in 1995, there were 40 shareholder resolutions addressing executive compensation. In 1996, the number jumped to 63. As of April there have already been over 112 shareholder resolutions introduced on the issue in 1997. (6)

U.S. Trust Company of Boston and the Women's Division of the United Methodist Church are sponsoring a 1997 shareholder resolution at AT&T that asks the AT&T Board to consider placing a cap on executive pay and freezing compensation levels during downsizings. This was prompted when AT&T CEO Robert E. Allen received $10 million in options after announcing a restructuring plan to cut over 40,000 jobs.

Investors in TIAA-CREF, the world's largest private pension fund, introduced and unsuccessfully pushed a resolution in 1996 that would have prohibited the firm from investing in companies that pay their top executives more than 150 times the median annual wage in the nation.

This year has already seen the introduction of a shareholder proposal by the International Brotherhood of Teamsters seeking to eliminate a form of deferred compensation for General Electric's chairman and CEO John F. Welch. The proposal calls for placing a $1 million limit on base salaries for GE's five top executives unless shareholders approve performance criteria. "This is important to preserve and promote shareholder prerogative over how much we compensate top executives," said Bart Naylor, Director of Corporate Affairs for the Teamsters.

2. Socially Responsible Investing

Excessive executive pay is becoming a concern among some socially responsible investors. Several socially responsible investment firms that have focused on corporate environmental, human rights, and fair labor practices are now designing criteria to avoid investing in firms with excessive pay ratios.

Nikki Daruwala, a Social Research Analyst at the Washington, DC-based Calvert Group, a socially responsible investment organization, said, "[Executive compensation] is one of the main economic justice issues of our time. We are trying to play on our strength as a socially responsible investor to move companies forward to do better."

Conclusion

The pay gap issue will not go away until effective action is taken. Unfortunately, corporations have shown for the most part that they are unwilling or unable to regulate themselves. The American public, for its part, feels that both corporate downsizing and executive salaries are excessive. Recent polling by the Preamble Center for Public Policy in Washington, DC revealed that 70 percent of the population believes that recent trends in corporate behavior--downsizing, outsourcing, CEO pay, etc.--are motivated by greed rather than the quest for competitiveness. By the same 70 percent margin, those same Americans favored government action to promote more responsible corporate behavior. (7) Americans want to ensure that the rising tide lifts all the boats, not just the yachts.

Notes

1. "A Report On Executive Pay, "Wall Street Journal, April 10, 1997, p. R1.
2. Graef Crystal, In Search of Excess: The Overcompensation of American Executives (New York: W.W. Norton, 1991).
3. "Corporate Governance Background Report F: Executive and Director Compensation 1994," Investor Responsibility Research Center, p. F-47.
4. Interview by Chuck Collins, April 10, 1997.
5. Institute for Policy Studies, with assistance from Ralph Estes, of American University. Methodology: $11,440 (typical lowest wage for workers) X 25 =$286,000 (amount above which corporations could not claim a deduction under the proposed law). $2.3 million (average executive salary and bonus for top two executives at the 365 companies included in the Business Week survey) - $286,000 = $2,014,000 (unallowable corporate deduction) X 35 percent (maximum corporate tax rate) = $704,900 (taxpayer savings per executive) X 365 companies X 2 executives = $514,577,000 in total taxpayer savings.
6. "An Embarrassment of Riches?" Business Week, April 21, 1997, p. 64.
7. Guy Molyneux, Peter D. Hart Research, and Ethel Klein, EDK Associates for the Preamble Center for Public Policy, "Corporate Irresponsibility: There Ought To Be Some Laws," July 29, 1996, pp. 2-3.

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