London School of Economics research: Senior executives’ pay clearly linked to corporate performance

Senior executives’ pay is clearly linked to the success of an organisation, according to research by the Centre for Economic Performance and the London School of Economics.

The study, Firm Performance and Wages: Evidence from Across the Corporate Hierarchy, found that when an organisation’s performance improves, so does pay, but it goes up much more for chief executive officers (CEOs) than it does for other members of staff.

If the organisation’s value increases by 10%, CEOs on average get an extra 3% in pay, while workers get only 0.2% more.

The research, which analysed data on firms that make up 90% of the value of the UK stock market, found that there are big differences in average pay.

CEOs earn around 40 times more than the average worker, but this multiple rises to around 80 when looking only at the very top companies – the FTSE 100.

The majority of pay for CEOs comes from bonuses and stock incentive plans, whereas 95% of workers’ pay comes from basic salary.

The authors of the report, Dr Brian Bell and Professor John Van Reenen, suggest that the onus must be on each and every board to explain to shareholders and the public how the pay growth of their CEO is tightly linked to the performance of the company. Those that fail this test must be held to account by shareholders.

Van Reenen said: “Our evidence shows a strong link between CEO pay and company performance. It’s not just upside because when the firm does badly, CEO pay also goes down.

“Poor performing firms are also much more likely to boot out their CEOs. But CEO pay cuts for failure are not as speedy as pay increases on the upside.”

Bell adds: “The problem is that these average effects of performance on pay cover both well-governed firms that use pay to incentivise their CEO and poorly performing firms that overpay for questionable talent.

“In addition, it is hard to claim that the majority of the pay gains for most CEOs over the last decade can be linked to performance given the relatively poor returns to shareholders over the period.”

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