Getting the ratios right

The pub test – now there’s a great Australian institution, that metaphorical test that unearths the thoughts and opinions of ordinary folk when it comes to judging the behaviour of groups or individuals.

It’s usually spot on, and no more so than in the perceptions of CEOs and their salaries, where those in the front bar will tell you – as they did recently in the case of Australia Post’s outgoing CEO, Ahmed Fahour – that there’s a yawning gap between public expectation and reality.

Indeed, a raft of respected research suggests that huge CEO salaries can have a detrimental effect on the organisation.

There’s research that tells us when the imbalance between what CEOs earn compared with the average salary of those who work for them reaches a certain ‘tipping point’, loyalty is weakened, the talent pool diluted and the company’s performance compromised.

There’s also research suggesting that the more CEOs are paid, the worse the company does over the next three years as far as stock and even accounting performances go.

Take the recent study by Michael Cooper of the University of Utah’s David Eccles School of Business who, in collaboration with academics from Purdue and Cambridge universities, found that companies run by CEOs in the top 10 per cent of the scale had the worst performance, returning 10 per cent less to their shareholders than their industry peers.

The results are ascribed to a number of factors, key among the view that perceived inequity in CEO pay triggers increased turnover in management – and the loss of these seasoned staffers has a high corporate cost as it robs the organisation of valuable internal experience newcomers will take time to acquire.

And, of course, there’s the overconfidence factor, which suggests that CEOs who get paid enormous amounts tend to think less critically about their decisions. They simply assume they’re right, the result being investing too much and investing in bad projects that don’t deliver investor returns.

Another finding with governance ramifications is that the longer CEOs are at the helm, the greater the chance their companies’ poor performance is. The argument here is that these entrenched CEOs are able to influence the appointment of more allies to their boards, and that these board members are more likely to go with the flow, live with the bosses’ bad decisions.

While the Michael Cooper research doesn’t offer solutions to these negative findings – it does note that some financial experts have suggested claw-back provisions whereby CEOs lose a percentage of their compensation when the company does poorly – perhaps it’s time to think about a salary cap.

Perhaps it’s time we have a maximum allowable ratio between the CEO’s salary and that of the average employees.

I’d suggest addressing internal inequity is a start as my experience is that employees really do care about this issue. A smaller gap makes for greater workplace harmony and, as a result, better performance throughout the workplace…and better returns for shareholders.

Trust the old pub test to be right on the money – again!

Until next time,


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