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Is U.S. CEO Compensation Broken?

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  • John E. Core
  • Wayne R. Guay
  • Randall S. Thomas

Abstract

This article addresses four major concerns about the pay of U.S. CEOs: (1) failure to pay for performance; (2) excessive levels of pay; (3) failure to index options and other equity‐based pay, resulting in windfalls; and (4) too much unwinding of incentives. The authors' main message is that most if not all of these concerns are exaggerated by the popular tendency to focus on the annual income of CEOs (consisting of salary, bonus, and stock and option grants) while ignoring their existing holdings of company equity. Taking into account the effect of stock price changes on CEO wealth leads the authors to a number of interesting conclusions. First, the pay‐for‐performance relationship is strong and has grown significantly in recent years. Second, what may appear as above‐normal growth in annual pay levels may be necessary to compensate CEOs for the increased risk associated with their growing level of equity‐based incentives. Third, conventional (that is, unindexed) stock and options, when viewed as a combination of market risk and firm‐specific risk, may provide an optimal solution to two conflicting demands: shareholders' demand for executive rewards tied to company performance and executives' preference to diversify their wealth. Finally, there is little evidence of widespread CEO unwinding of incentives, and levels of CEO equity ownership in the U.S. remain impressively high.

Suggested Citation

  • John E. Core & Wayne R. Guay & Randall S. Thomas, 2005. "Is U.S. CEO Compensation Broken?," Journal of Applied Corporate Finance, Morgan Stanley, vol. 17(4), pages 97-104, September.
    • Handle: RePEc:bla:jacrfn:v:17:y:2005:i:4:p:97-104
    DOI: 10.1111/j.1745-6622.2005.00063.x
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    Cited by:

    1. Michael Mayberry, 2020. "Good for managers, bad for society? Causal evidence on the association between risk‐taking incentives and corporate social responsibility," Journal of Business Finance & Accounting, Wiley Blackwell, vol. 47(9-10), pages 1182-1214, October.
    2. Fortin, Steve & Subramaniam, Chandra & Wang, Xu (Frank) & Zhang, Sanjian (Bill), 2014. "Incentive alignment through performance-focused shareholder proposals on management compensation," Journal of Contemporary Accounting and Economics, Elsevier, vol. 10(2), pages 130-147.
    3. Tian, Gloria Y. & Yang, Fan, 2014. "CEO incentive compensation in U.S. financial institutions," International Review of Financial Analysis, Elsevier, vol. 34(C), pages 64-75.
    4. Fang Deng & Chunbo Zhou, 2022. "Sustainable Development of Corporate Governance in the Hospitality and Tourism Industry: The Evolution and the Future," Sustainability, MDPI, vol. 14(7), pages 1-19, April.
    5. James Angel & Douglas McCabe, 2008. "The Ethics of Managerial Compensation: The Case of Executive Stock Options," Journal of Business Ethics, Springer, vol. 78(1), pages 225-235, March.

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