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Lowering CEO to average employee ratio


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I'm sure almost everyone is aware of the huge gains CEO pay has made versus the average employee. Depending on where you look, it's gone from less than 50x in the 1960s to roughly 250x as of 2010. It's gone down a little since the late 1990s.

 

What are some ways to correct this? Should we correct it?

 

I'm in the camp that we should correct it - to some extent to help rejuvenate the economy. I somehow doubt that the average CEO's job is 250x harder than the average person's job. Could we correct it through taxes? For instance, the top X% of a corporation couldn't make more than say, 100x the average (or median) employee of that company and get a tax deduction for employee salaries? I'm sure there are some loopholes to this though.

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A related topic, duration of CEO tenure would perhaps tell an ugly story. My gut and experience says this is perhaps a  few years at most. Would like to see how many CEO's lasted > 10 years. The contrast between public and private companies is night and day.

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Becoming one of these CEOs is akin to winning a lottery,  similar to having a hit record, or being a top tier athlete, or actor. 

 

That beng said, for anyone who aspires to this type of position, I know the stress load, and personal commitment is nothing like I have ever experienced in the working world.  Most of these people work continuously.  They never really get a vacation.  They need skin like leather.  I am not saying that they deserve to be paid 100 x or 200 x the average worker, but the degree of commitment of their life energy is so distant from the average worker. 

 

Its very much a social status thing as well, and not directly about the money.  Its bragging rights.  That being said I have no doubt the majority of Ceos toil away in relative obscurity, for more reasonable salaries.  Perhaps a better measure of CEO pay to average worker is taking a lower chunk of the biggest listed North American companies (say 500-1000 in the ranking) and comparing those CEOs salaries to the 'average' worker.

 

Its also a symptom of social darwinisn.  Quite frankly, it isn't going to change, until humanity undegoes some social maturing. 

 

Looking at it from a more personal perspective.  I have made enough money to live on.  So why do I bother with all this investing nonsense anymore?  When people ask me what I do, I try to be humble, but periodically I just tell it as it is: I am a very good investor, easily in the top 1%.  If thats not bragging rights then what is it?  I also think that our personalities (many board members here) drive us to be more than the 'average worker'.  We here, on this board, have more in common with the top tier CEO than the averaage worker. 

 

As to legislating it away, I am afraid that this is not going to happen.  Its undoable.  Every piece of legislation creates unintended consequences.  Wouldn't you love to own a piece of Koch Industries?

 

 

 

 

 

 

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Al,

 

I agree being a CEO (usually takes a lot of work). I just think so much of a company's results are based on luck that paying such a high multiple to the average employee is irrational. It's certainly a social thing though. Just like in sports, athletes want to be paid what's "fair." What tends to be "fair" though is based on what their competition is - other athletes/executives. There is research that shows that the more executives make the worse their companies do! I think the economy would function a lot better if the average ceo was more closely tied to the average employee.  Let's face it - people only spend so much and will invest the difference. That's great for asset prices, not so good for the economy though.

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Well, I vote against the compensation proposals of most companies where I hold shares.

 

However, like Buffett said, it's very hard to change anything. Boards are usually management friendly. Most shareholders vote party line or don't vote at all. In big companies big shareholders are index funds that vote party line or don't vote at all.

 

Government can't do a lot. There is already a salary limit of $1M (or is it $2M?) above which company faces some tax repercussions IIRC. This does not matter, since companies just make CEO salaries $1M and pay the rest as easy-to-get bonus.

 

BTW, like Uccmal said, it's very hard to legislate or even devise a scheme that cannot be subverted by smart CEO/board. And we already had VRX's Pearson who was taking no salary and just stock compensation - which is thought to be ideal by a lot of people - and look how this ended.

 

There is also the fact that some superstar CEOs are worth their pay (Buffett says he'd pay the multimillions to Jamie Dimon), though most are probably not worth it.

 

In general, we need humankind as a whole to step up in ethics (including altruism, generosity and more concern and support for others). And not only because of income inequality, but also because we might blow ourselves up if we can't temper our conflicts in the coming century or so. But it's very hard. Changing people's morality and attitudes is very slow. And our combative and egocentric nature reasserts itself given opportunity or conflict situations.

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Most CEOs are likely overpaid and there is something obscene about a company laying off thousands of workers and the CEO making a huge bonus.  I also think boards are complicit.  So, I don't think it necessarily operates as an efficient market.

 

That being said:  (1) I don't know of a simple solution; (2) I don't think it is one of the bigger problems facing the country; and (3) I generally think the government screws things up when it gets involved.

 

If CEO pay was rationalized somewhat, who would benefit?  I doubt the laid-off workers.  If they are uneconomic, they are uneconomic.  Perhaps the shareholders and consumer, but I doubt there would be a huge effect.  More about perceptions of fairness than anything else.

 

If there was a simple, coherent, not particularly coercive proposal on the table for encouraging CEO pay to be restrained more, I would be for it.  I have not looked into it, but I am not aware of any such proposal.  It is not something I would be particularly keen to focus my time and energy on if I were in charge.

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I think by and large CEOs do deserve their pay. The average S&P500 CEO made $12.4mm in total compensation for 2015 while the average enterprise value (according to my back of the envelope calc) is $45 billion. These are like the Lebron James of CEOs too. Minor changes in strategy on a $45B company can create or destroy tremendous value. $12.4mm actually seems quite low

 

I think comparing CEOs to lottery winners is really unjust. People have good and bad luck over their life, it's what you do with the luck that matters. Most CEOs have worked incredibly hard and deserve their pay by virtue of the value they bring to the table. Fairness is not equality, fairness is getting what you deserve.

 

Why does the relative standing of CEOs/employees matter to anyone? The idea of a CEO/employee ratio is purely to look at their relative standings. Life is not zero sum. The fact that the CEO gets paid more doesn't mean employees get paid less. Sometimes you see the argument that a company makes a given number of dollars, and if the CEO gets a lot, employees must get less. In reality, how much money a company makes isn't some preset amount. It depends on the strategic and operational prowess of the CEO.

 

Because I understand that life isn't zero sum, when I look at a CEO who makes a lot of money my reaction is to say 'wow good for him'. That's what goodwill among people looks like. I think historically the reaction of most Americans toward the successful was, that's great now I'm going to be successful too. Now we are approaching the point where someone sees a CEO that  has made a lot of money and their reaction is along the lines of 'that's unfair (by which they mean unequal) he must have done something wrong'.

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Don,

 

That's where you and I disagree. I don't think they deserve their pay. When research indicates that highly paid CEOs underperform, how is that deserved?

 

And yes, if CEOs make more, employees have to get paid less. If employees are paid less, the economy suffers.  The more a CEO makes, the less profitable a company is - all else equal. So, why is it as fair for them to make 50x vs 250x the average employee? Do the current CEOs work 5x harder than their predecessors?

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My thoughts are in line with Al, Jurgis and Stevie.

 

I think best way to address is is via some sort of change that make it truly market driven. Paid in stock, for performance over long term (say 10 year) and only for outperformance over sector/industry. Having a long vesting period with large holding requirements relative to net worth.

 

Just as the 1990s change in tax code to make CEO pay above $1 million taxable and performance based pay (stock options) tax deductible likely contributed to the pay rise, I think something that acts in the opposite way would be right approach.

 

I really wish Buffett had come up with a compensation plan for his own that reflects shareholder alignment and value created instead of taking just $100k annually. Of all he has the business acumen, knowledge of human behavior and the intellectual firepower to come up with something elegant. Not every CEO can afford to take only $100K given the effort involved.

 

Vinod

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IIUC compensations of Berkshire unit leaders are nothing interesting/special. So I guess Buffett doesn't work on having interesting compensation plans for his sub-CEOs. Apart from Todd and Ted.

 

Or am I missing some interesting stuff there? (I might, since I don't follow the buyout agreements of some BRK subs in detail).

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Don,

 

That's where you and I disagree. I don't think they deserve their pay. When research indicates that highly paid CEOs underperform, how is that deserved?

 

And yes, if CEOs make more, employees have to get paid less. If employees are paid less, the economy suffers.  The more a CEO makes, the less profitable a company is - all else equal. So, why is it as fair for them to make 50x vs 250x the average employee? Do the current CEOs work 5x harder than their predecessors?

 

I tried to explain why this is not the right way to think about the issue. All else is not equal. If you hire a new CEO and pay him $30mm more than the last CEO, and the new CEO implements a strategy at the $45B EV company that expands the EV by 1%, then the CEO AND the company have made more money. It's not zero sum.

 

Of course any given person can not deserve their pay. If your point is merely that some companies have made bad hires, then I think everyone would agree. But you're saying that CEOs as a class of people don't deserve their pay. I posted some numbers about the value they're responsible for because my standard of what is deserved or not is based on how much value you create- or don't. The only numbers I've seen anyone else post are numbers about relative earnings which indicates to me that their standard of evaluation for whether something is deserved is how much money other people are making. I don't see any justification for that. In fact, I think it's unjust because someone who creates tremendous value is looked down upon by such a standard, when in reality CEOs by and large practice the virtues of hard work, building successful relationships, and have achieved success in their careers. It's something we should aspire to achieve ourselves.

 

It also creates resentment between people when their focus is on how everyone else is doing. This thread is not about why employees are not making enough money, this thread is about the gap between employees and CEOs. Some people are swimming extremely well, some people are doing OK, and some people are drowning. Instead of focusing on how to maximize everyone's swimming ability, the focus is on making everyone's swimming abilities more equal. Why? And the proposals put forth are all proposals to shackle the people who are swimming well which is a perfectly valid way of closing the swimming gap. IMO the focus on the gap is toxic.

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It also creates resentment between people when their focus is on how everyone else is doing. This thread is not about why employees are not making enough money, this thread is about the gap between employees and CEOs. Some people are swimming extremely well, some people are doing OK, and some people are drowning. Instead of focusing on how to maximize everyone's swimming ability, the focus is on making everyone's swimming abilities more equal. Why? And the proposals put forth are all proposals to shackle the people who are swimming well which is a perfectly valid way of closing the swimming gap. IMO the focus on the gap is toxic.

 

This comparison is not correct. Unlike swimming which is unlimited sum game (if you teach everyone to swim really really well, there is no limit or restrictions how well they can do apart of human capacity to swim), salaries are limited by the revenues of the businesses. Even if you taught everyone to be Buffett or Jamie Dimon or John Malone - which is admirable and I would be very happy if this happened - some people would still have to serve Big Macs, some would have to assemble cars, and some would still be CEOs. And unfortunately, even if you are trained to be Buffett, you will not get paid CEO salary while serving Big Macs.

 

Tech startup model with options is the only model that somewhat pays low level workers big bucks. But this is not gonna happen in other industries.

 

So the problem exists even if you trained and educated the workers as much as you can.

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It also creates resentment between people when their focus is on how everyone else is doing. This thread is not about why employees are not making enough money, this thread is about the gap between employees and CEOs. Some people are swimming extremely well, some people are doing OK, and some people are drowning. Instead of focusing on how to maximize everyone's swimming ability, the focus is on making everyone's swimming abilities more equal. Why? And the proposals put forth are all proposals to shackle the people who are swimming well which is a perfectly valid way of closing the swimming gap. IMO the focus on the gap is toxic.

 

This comparison is not correct. Unlike swimming which is unlimited sum game (if you teach everyone to swim really really well, there is no limit or restrictions how well they can do apart of human capacity to swim), salaries are limited by the revenues of the businesses. Even if you taught everyone to be Buffett or Jamie Dimon or John Malone - which is admirable and I would be very happy if this happened - some people would still have to serve Big Macs, some would have to assemble cars, and some would still be CEOs. And unfortunately, even if you are trained to be Buffett, you will not get paid CEO salary while serving Big Macs.

 

Tech startup model with options is the only model that somewhat pays low level workers big bucks. But this is not gonna happen in other industries.

 

So the problem exists even if you trained and educated the workers as much as you can.

 

The comparison is correct. Salaries are definitely limited by the revenues of the business at any given time. This is just a reflection of the fact that the money you make is limited by the value you create. No one is going to pay you more value than you offer to them. That's proof that value being created is finite at any given time, not that value creation is zero sum. Higher employee productivity can increase the revenue of the business (that was my point re the CEO example above). CEOs create tremendous value, and we need to get employees to a position where they too are creating tremendous value. If you also look big picture you can see that the swimming example is spot on because value creation is NOT zero sum. Now someone below the poverty line in America can afford a TV and air conditioning even though the average pay of a CEO relative to that employee may have increased (or not... I don't know and it's inconsequential) relative to a time when someone below the poverty line would have starved. How can that be if one person's salary comes at the expense of everyone else's? This is how progress occurs. Everyone learns to swim better.

 

Concern with the gap between people is fundamentally different than concern with maximizing opportunity for people. Someone with a 'gap mentality' sees fixed revenues and a zero sum world. The CEO's success is a threat to you, and cutting down the most successful people in society is a valid method of reducing the gap. Someone with a 'maximization mentality' sees the opportunity for higher employee productivity across the company. The CEO's success is something to be celebrated. I'm not saying everyone should necessarily aspire to be a CEO specifically, but everyone should aspire to their highest level of success in whatever job they choose and aspire to practice the virtues which gets you there.

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I think the people over-value the contribution of CEOs.

 

If you hire a new CEO and pay him $30mm more than the last CEO, and the new CEO implements a strategy at the $45B EV company that expands the EV by 1%, then the CEO AND the company have made more money. It's not zero sum.

 

Right, because the success of this strategy is 100% dependent on the CEO. Dude probably just outsourced some labor.

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I'm not saying everyone should necessarily aspire to be a CEO specifically, but everyone should aspire to their highest level of success in whatever job they choose and aspire to practice the virtues which gets you there.

 

If people aspire "to their highest level of success in whatever job they choose", for most of them they will not get paid as much as CEO and likely will get paid way lower. Even worse, the productivity gains by workers are likely not increase their salaries, but will rather increase the salary of the CEO, since any revenue and profit gains will be attributed to the great CEO "leadership". Do you really believe that someone who doesn't aspire to be a manager (CEO) and aspires to be a great line worker, will get a proportional benefit for their productivity gains? Mostly not.

 

Regarding CEOs creating tremendous value - most CEOs don't. I've seen enough crappy struggling or going down organizations that pay enormous bucks to the CEOs. Of course, CEOs and boards can rationalize anything "oh, we are going down, but we'd be going down even faster if not for tremendous sacrifice of our CEO who earns multimegabucks for it". Most companies don't measure CEO productivity and contributions - not that this is easy to do for CEOs. Edit: and BTW most of the compensation plan formulas are not real measurements of CEO productivity or contributions.

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Don,

 

Why do executives executives get paid 5x-10x (relative to the average employee) more than the folks who had the same roles in prior decades? I really think luck is a bigger factor than what people give it credit.

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Don,

 

Why do executives executives get paid 5x-10x (relative to the average employee) more than the folks who had the same roles in prior decades? I really think luck is a bigger factor than what people give it credit.

 

I think one of the reasons they are paid more is the technology. With private jets, smart phone, big data, etc, etc. A CEO can run a much bigger and more complex company than decades ago. It's like these mega sports stars, I don't think Lebron James is better thank MJ. However, with today's technology, he can sell to a much bigger audience and realize more value for himself. In today's world, it's more than ever winner-takes-all.

 

It's not that those CEOs create more value. They are just in the right position to take more value created by other factors, such as technology.

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It also creates resentment between people when their focus is on how everyone else is doing. This thread is not about why employees are not making enough money, this thread is about the gap between employees and CEOs. Some people are swimming extremely well, some people are doing OK, and some people are drowning. Instead of focusing on how to maximize everyone's swimming ability, the focus is on making everyone's swimming abilities more equal. Why? And the proposals put forth are all proposals to shackle the people who are swimming well which is a perfectly valid way of closing the swimming gap. IMO the focus on the gap is toxic.

 

This comparison is not correct. Unlike swimming which is unlimited sum game (if you teach everyone to swim really really well, there is no limit or restrictions how well they can do apart of human capacity to swim), salaries are limited by the revenues of the businesses. Even if you taught everyone to be Buffett or Jamie Dimon or John Malone - which is admirable and I would be very happy if this happened - some people would still have to serve Big Macs, some would have to assemble cars, and some would still be CEOs. And unfortunately, even if you are trained to be Buffett, you will not get paid CEO salary while serving Big Macs.

 

Tech startup model with options is the only model that somewhat pays low level workers big bucks. But this is not gonna happen in other industries.

 

So the problem exists even if you trained and educated the workers as much as you can.

 

The comparison is correct. Salaries are definitely limited by the revenues of the business at any given time. This is just a reflection of the fact that the money you make is limited by the value you create. No one is going to pay you more value than you offer to them. That's proof that value being created is finite at any given time, not that value creation is zero sum. Higher employee productivity can increase the revenue of the business (that was my point re the CEO example above). CEOs create tremendous value, and we need to get employees to a position where they too are creating tremendous value. If you also look big picture you can see that the swimming example is spot on because value creation is NOT zero sum. Now someone below the poverty line in America can afford a TV and air conditioning even though the average pay of a CEO relative to that employee may have increased (or not... I don't know and it's inconsequential) relative to a time when someone below the poverty line would have starved. How can that be if one person's salary comes at the expense of everyone else's? This is how progress occurs. Everyone learns to swim better.

 

Concern with the gap between people is fundamentally different than concern with maximizing opportunity for people. Someone with a 'gap mentality' sees fixed revenues and a zero sum world. The CEO's success is a threat to you, and cutting down the most successful people in society is a valid method of reducing the gap. Someone with a 'maximization mentality' sees the opportunity for higher employee productivity across the company. The CEO's success is something to be celebrated. I'm not saying everyone should necessarily aspire to be a CEO specifically, but everyone should aspire to their highest level of success in whatever job they choose and aspire to practice the virtues which gets you there.

 

Thanks for taking the effort to formulate this so eloquently. I couldn't agree more. This is the essence of it and if people are not convinced by it, nothing will convince them (either because they are unable to comprehend or because they have a drastically conflicting world view from ours).

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Don,

 

Why do executives executives get paid 5x-10x (relative to the average employee) more than the folks who had the same roles in prior decades? I really think luck is a bigger factor than what people give it credit.

 

Do COO's, CFO's and other senior executives get paid 5 to 10x more than they used to?  Maybe not but I bet it has grown much more than the average worker.  Is that misallocation, or wise allocation?   

 

There seems to be truth in what both sides are saying.  In some industries luck has more to do with it.  Some oil execs made a fortune cause oil prices skyrocketed.  That was luck and should not have been a major component of their compensation.  In tech some destroy massive wealth and still make as much as the CEO who generates billions for a company.  Yet at the same time it is not like you can cap CEO pay and solve problems without creating others.  It is probably not enough to move average pay up more than a few percentage points, if that.

 

The goal should be appropriate levels of compensation throughout the organization based on contribution to profitability.  Some companies may end up with a lower ratio but others won't.  It is up to wise management and boards to implement this. 

 

 

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Most people don't get paid what they "deserve," they get paid what they have the leverage to negotiate.

 

The average worker's salary has been pressured by globalization, automation, and an increasing labor force (through early 2000's). CEO earnings have historically been tied to size of the firm (revenue, market cap), which outside of economic depressions usually rise monotonically in aggregate.

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Most people don't get paid what they "deserve," they get paid what they have the leverage to negotiate.

 

The average worker's salary has been pressured by globalization, automation, and an increasing labor force (through early 2000's). CEO earnings have historically been tied to size of the firm (revenue, market cap), which outside of economic depressions usually rise monotonically in aggregate.

 

Yep.

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Longer term if automation goes ballistic, society may have to figure out how to compensate people who don't work.

 

Short/medium term unless trends outlined by vox change, the situation likely will continue. Things might change if/when labor force decreases because of low population growth. Things may change if/when global income rises to developed country levels - but this is slow and doubtful.

 

Personally, I want to live in society that doesn't have huge social inequality, since IMO this raises crime rate and risk of social disturbances. I doubt that I can influence the situation much though.

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I think the people over-value the contribution of CEOs.

 

If you hire a new CEO and pay him $30mm more than the last CEO, and the new CEO implements a strategy at the $45B EV company that expands the EV by 1%, then the CEO AND the company have made more money. It's not zero sum.

 

Right, because the success of this strategy is 100% dependent on the CEO. Dude probably just outsourced some labor.

 

But often times companies do depend 100% on the CEO. The MSFT CEO was 100% responsible for making the decision to buy Nokia which turned out to be a $10B writeoff. Here the CEO's decision cost the company $10B. Suppose you know someone will make the best decision regarding whether to buy Nokia. Suppose that person has a 60% chance of making the right decision. Whereas Ballmer has a 50% chance of making the right decision.  Then roughly looking at it the CEO will make a $1B difference (10% of $10B). So how much will shareholders be will to pay for the CEO? Certainly more than 250x the average employee salary.

 

Look at it another way, are you going to deny Yahoo shareholders the right to pay $50M or whatever obscene amount for Marissa Meyer? To the shareholders, she was the savior. In hindsight of course they were dead wrong.

 

Shareholders in large companies feel CEOs deserve their pay for the most part. The issue is more one of deceit. CEO's break the law, run up short term sales to the detriment of long term shareholder value. We need a way to be able to claw back what they got if it is found later to be undeserved.

 

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