Context Of Executive Remuneration Essay

Question:

Discuss about the Context Of Executive Remuneration.

Answer:

Introduction:

From last few years, executive remuneration was considered as highly controversial subject which not only attract the attention of the public, but also attract the attention of the regulators, media, etc. (Clarke & Branson, 2012). Curiosity related to pay packages of the executives is developing across the globe (Clark and Schor, 2008).

Interest of the public in context of corporate governance increases because of the high profile failures of organization, and some of these failures have devastating impact on the general public. Even though remunerations paid to the executives as a mechanism of corporate governance has been used for the purpose of solving agency problems, it itself becomes an issue related to the corporate governance.

This paper provides a brief description related to the executive remuneration’s components and theoretical perspectives. This paper discusses relationship between the compensation of executives and performance of the company. Further it discusses the causes because of which organization fails to align the remuneration of executives with the objectives of the company. Lastly, paper is concluded with brief conclusion which states key facts of the report.

Executive Remuneration:

Productivity commission of Australian government (2009) study stated that from the period of 1990s to 2007, there was strong growth in context of compensation paid to executives and also occurrence of large payments to the executives of the organization, even though performance of the company was poor, and this increases the concern of the community that remunerations paid to executives was not in control. Public & shareholders were also keen because of the questionable practices in financial institutions abroad.

Organizations pay compensation to the executives through different ways such as hourly workers or salaried professionals. Generally, payments made to executives were based on the profit earned by the organization. Generally, when company underperforms, executives of the organization receive fewer amounts related to their potential pays. On other side, if organization successfully meets its objectives and achieve higher profits then executives of the organization receive higher amount of profit (Rampling, 2015).

Corporate Governance and executive remuneration:

As stated above, executive compensation package is considered as hot topic of the debate, and number of researchers conducts research on the same. Connection between these two terms is very important and both ensure trust of the employees and good reputation of company.

This section of the report defines the relationship between agency theory and executive remuneration, and it also states the relationship between corporate performance and executive remuneration.

Agency theory & executive remuneration:

In large organization, problems related to agency generally exists, in which separation of ownership and control take place between three essential parties of the organization that are shareholders, the board of directors, and executives of the company. Shareholders of the organization are considered as owners of the company, board of directors of the organization are responsible to control the decision making process on shareholder’s behalf, and executives of the organization bear the responsibility to check day to day operations of the business.

Chances are present that managers of the organization use the assets of the company to enhance their own lifestyle. In other words, executives grab the advantages of control power for the purpose of satisfying their personal needs such as using expensive cars and personal trips at the cost of organization (Neokleous, n.d.). Therefore, principal-agent theory is considered as the keystone of the compensation paid to executive and corporate governance. Compensation paid to executive is paid in different forms such as basic salary, bonus, stock options, restricted share plans, etc.

Additionally, executive also get remunerations through loans and compensation schemes even after their retirement from the organization. At the time of retirement of CEO from the organization then he/she receives the performance shares owned. CEO also has option to sell and restricted stock accumulated, and this sis considered golden parachute.

All these issues are considered as serious ethical concerns, and it directly affects the performance of the company and profits of the shareholders. It is necessary for board of directors of the company to regulate the executive compensation as per the regulations and provisions prescribed by the government (Balasubarmaniam, 2013).

Executive Remuneration and Company Performance:

Generally, compensation packages of executives include some necessary requirements related to the company performance, and relationship between executive pay and performance of the company is regulated by the executives of the company. Numbers of researches are conducted for the purpose of determining whether there is actually a relationship between the company performance and executive pay. Studies further stated whether these researches are positive and negative and how these affects the economic aspects of the company, and its reliability in the current market. Usually, three types of performance measures are there and these measures are market-based, accounting-based and individual based measures (Modau, 2013).

Performance of the company is measured by using different sources such as “return on assets (ROA), market-to-book ratio, earnings per share (EPS) and return on capital employed (ROCE), shareholder return and individual director performance. However, any negative relationship between the performance of the company and executive pay are result of the agency issues, which means executives of the company take undue advantage of their positions and act in fraudulent manner for the purpose of achieving high executive compensations.

It must be noted that, unexpected failures of the company and financial scandals such as high compensation package to the executives of poorly performed companies, destroy the confidence of the shareholders and other investors in the organization.

Shareholders of the organization trust the board of directors of the company and believe that board takes informed and ethical decision while managing the company. Irrelevant compensation to the executives of the organization shakes the trust of the investors in the board and this harmful for the reputation of the organization. Therefore, it is necessary for the board of directors of the organization to frame proper mechanism for executives’ pay packages.

Causes for organizations failure to align the executive remuneration:

System which regulates the pay of executives must not be isolated from rest operations of the organization, but it must be an integral part of the business model of the organization. Compensation paid to executives must attempt to provide motivation to the executives of the organization, as well as to the other staff members also. In other words, main purpose of executive pay system is to provide long term benefits to both executives and business. Additionally, these systems must be fair in nature and related to the actual effort and success of the organization.

There is no universal method which provides the way through which remuneration package of he executives can be mapped with the value and efforts of the organization. Various researches stated that human resources and their judgments play most important role, and there efforts can be considered as quantitative measurements for the purpose of designing proper risk adjusted pay systems. The first and most important step for establishing the reliability is to seek proper balance between the fixed and variable elements of any plan. Following are causes because of which organizations fails to align the executive remuneration with the objectives of the company:

Organization does not provide recorded salaries and bonuses to their employees: as stated above, from the period of 1990s to 2007, there was strong growth in context of compensation paid to executives and also occurrence of large payments to the executives of the organization, even though performance of the company was poor. Executives of the organization do not receive the amount which is actually recorded in the books, but they are receiving much higher amount than this. Executive of the organization fails to fulfill their responsibility towards the organization, shareholders, and other stakeholders. This is considered as biggest reason (SAPP, 2006).

An annual change in the compensation packages does not show any changes in the performance of the company: generally, executives charge their remuneration as per the performance of the company, which means if company performs good then executives charge high amount as compensation, and if company performs bad then executive charge les amount. In other words, performance of the company decided the remuneration of the executives. However, in some situations executives of the organization get more pay even though company does not perform well, and this is considered as another big reason because of which company fails to align the objectives with the executive pay system.

Failure to disclose executive remunerations in annual reports: there are number of annual reports of different organizations in which information related to the executive’s pay are hidden in plain view (CIMA, 2010). Generally, management hides the actual figures and policies related to compensation plan behind the thick layer of legal jargon. For dealing with all these issues, it is necessary that government and organization ensure effective reporting, especially at this time when issue related to the executive pay package is the center topic of debate. Through effective reporting, stakeholders of the organization shareholders get accurate information for the purpose of making resource allocation decisions. Regulators make strict provisions in this regard and demand more disclosures.

Therefore, it can be said that remuneration package of the executives is considered as most important element of the success of any organization. It not only shapes the behavior of top executives of the organization but also determine the types of executives and their role required by the organization. Because of the pressure of public and regulatory bodies, directors of the organization reward the CEO with high financial gain for good performance, and similarly they impose penalty on the CEO for bad performance.

Conclusion:

After considering the above facts, it can be said that proper governance in the executive packages play important role and it is necessary for the management to frame proper regulations and guidance for this purpose. There is no universal method which provides the way through which remuneration package of he executives can relate with the value and efforts of the organization. Organizations pay compensation to the executives through different ways such as hourly workers or salaried professionals. Generally, payments made to executives were based on the profit earned by the organization. Executives use these methods in negative manner for the purpose of getting undue advantage of these methods.

It must be noted that, when company underperforms, executives of the organization receive fewer amounts related to their potential pays, but in some cases executive charge high salaries even though performance of the company is bad.

Various researches stated that human resources and their judgments play most important role in this context. In other words, Board of directors of the company play most important role in monitoring the packages paid to executives.

References:

Balasubarmaniam, N. (2013). Corporate Governance Issues in Executive Compensation: The Indian experience (2008–2012). Available at: Accessed on 13th March 2018.

CIMA, (2010). Executive remuneration schemes and their alignment with business sustainability. Available at: Accessed on 13th March 2018.

Clark, A. and Schor, E. (2008) Your Company is bankrupt, you keep $480m. Is that fair?,Available at: Accessed on 13th March 2018.

Clarke, T. and Branson, D. (2012) The SAGE Handbook of Corporate Governance, London: SAGE.

Modau, M. (2013). Relationship between CEO remuneration and financial performance of an organization. Available at: Accessed on 13th March 2018.

Neokleous, C. Executive Remuneration as a Corporate Governance Problem. Available at: Accessed on 13th March 2018.

Rampling, P. (2015). CEO and executive director remuneration practice and corporate financial performance: a comparison of practices in the USA, UK and Australia. Available at: Accessed on 13th March 2018.

Sapp, S. (2006). The Impact of Corporate Governance on Executive Compensation. Available at: Accessed on 13th March 2018.

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