Does pay lift CEO's performance?

Executive pay: Maybe it’s way out of line, maybe it’s perfectly justified. And maybe…

Georgia (Jun 11, 2010)

Executive pay: Maybe it’s way out of line, maybe it’s perfectly justified. And maybe it’s not even doing what it’s supposed to do.
Compensation for the top business leaders in Georgia and elsewhere is annual fodder for long-standing arguments: Are mega-salaries linked to past performance? Do huge incentives encourage chief executives to ever-greater brilliance? And how many zeroes are too many?
The best-paid CEO in Georgia in 2009 had a guaranteed paycheck worth $1.2 million and incentive compensation including bonuses and stock options worth nearly $13 million.
The amounts earned in that second category provoke critics who wonder whether executives are rewarded less because of their performance than by fortuitous timing, that they reap unearned windfalls when the stock market is soaring or the economy is surging.
While that critique has some truth, it is too simple, said Paul Lapides, director of the Corporate Governance Center at Kennesaw State’s Coles College of Business. He estimates that one-third of stock performance can be attributed to the executive team, while roughly one-third is industry trend and the rest is the economy.

Despite that, he thinks top executives have the impact, expertise and drive to deserve top pay.

“There are a lot of problems with compensation,” Lapides said. “The system is not perfect. But it is better than the others.”
Ironically, the virtues that make executives valuable could be cited to argue for fewer incentives, Lapides said. “If you are a senior executive, the odds are you don’t need a whole lot of motivation. You couldn’t get to be senior executive if you weren’t driven.”
Big bonuses, in that sense, might almost be seen as an insult to executives, as if money is all that matters to them, argues Dan Ariely, professor of behavioral economics at Duke University’s Fuqua School of Business and author of the new book, “The Upside of Irrationality.” And the impact of such large payouts may not be what the companies imagine, he said.
Studies suggest that small incentives have little effect on performance, while modest incentives generally get people to improve, Ariely said. But mega-bonuses are different. Most top executives are already working hard, he said. “A very high payment can actually backfire. If I pay you to be more thoughtful, creative, imaginative — what can you do? The brain is not a muscle.”
It’s virtually impossible to tell whether incentives may move a CEO to do better than he would have done anyway — just as it isn’t clear that he might do worse. But that giant piñata of bonus cash dangling above a CEO’s head can be a distraction, he said, and put the focus on the wrong thing.
Asked Ariely: “Do you want your surgeon during an operation thinking of his yacht as an incentive?”


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