Book Review: AN INTRODUCTION TO EXECUTIVE COMPENSATION

Abstract

This book examines the different components of executive pay packages such as basic salary, stock grants, stock options and also factors that determine the fulfilment of the agreement during and after the executive’s time in office. With data gathered from SEC filings, business publications (e.g. Forbes, The Wall Street Journal, Fortune, Business Week) and a data base (i.e. ExecuCom from Standard & Poors, which contains information on the remuneration of the top management of 1500 firms in the USA), the author provides a detailed analysis of the design of executive compensation. In more than 60 statistical tables, 20 exhibits of extract of real life contractual pay agreements, and numerous graphs and figures, he provides a comparative analysis of the usage, magnitude, and dollar value of the different components of executive pay packages. The life cycle of an executive compensation agreement begins when a firm launches a search for an individual to fill the top post and, in theory, ends when the executive actually receives money in his or her bank account. Most executives get rewarded but some may never see the pay check. This occurs when performance and targets have not been met. But many get rewarded even when performance is poor and sometimes, leaving shareholders vehemently vociferous. To explain these contradictions, the author reviews some of the theories that underpin the mechanics of modern finance and economics. These include, for example, the risk–reward characteristics of each individual CEO, owner–manager conflict, which is captured in the agency theory and the class hegemony and figure head theories, which partly explain the mythology of CEOs today. He explores the notion of incentive and the extent to which it can contribute to productivity or add value to shareholders as propounded by the tournament theory. The author shows how these theories interplay in the design of an executive compensation package with several illustrations of their mutually reinforcing effects and also of their contradictory outcome. The design and outcome of executive pay contracts also depends on many factors. Some such as statutory regulations and tax are outside of the firm control. Others such as ownership structure, financial and accounting results are endogenous to the firm. The design process can also be influenced by informal institutions (e.g. shareholder activists) and changing laws and economics environments. Within the firm, formal bodies such as compensation committees may provide additional input. They influence the design process by highlighting the opinion of major stakeholders and also, as they seek to strike a balance between objective criteria (e.g. benchmarking to peer review) and subjective considerations (i.e. the relations between CEOs and individual members of the firm’s Board). Analysing executive compensation can be complicated by the fact that new issues emerge as current ones are addressed through regulation and or improved corporate governance. Perhaps, for this reason, some important issues are inevitably not given the in-depth attention they