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Wall Street Journal, October  6, 2008 article


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CAREERS   |   OCTOBER 6, 2008

Bailout's Bid to Limit Executive Pay Will Be Tough to Realize

The $700 billion financial-rescue law attempts to curb executive pay by barring incentives for "unnecessary and excessive risks," among other steps. That will be easier said than done, say pay experts.

It's "a very noble thought, but administering it will be very difficult," says Paul Hodgson, senior research associate at governance tracker Corporate Library and a frequent critic of executive-pay excesses.

[Bailout's Bid to Limit Executive Pay Will Be Tough to Realize] Getty Images

Merrill Lynch chief Stan O'Neal made $150 million before leaving in the wake of a write-down.



The excessive-risk language applies to financial firms in which the government takes a "meaningful" debt or equity stake under the terms of the bailout. Other provisions limit corporate-tax deductions on executive compensation at some firms, bar "golden parachutes" for some executives, and allow companies to recover compensation based on inaccurate results. Congress approved the bill last week, and President George W. Bush signed it into law Friday.

The excessive-risk provision is aimed at what some consider a contributor to the Wall Street meltdown: pay plans that gave executives outsize rewards for taking big risks. Those led to big paydays for some executives, despite big losses at their firms. In five years as Merrill Lynch & Co.'s chief executive officer, Stan O'Neal made $150 million in salary, bonuses and the value of equity at the time of grants, according to data-tracker Equilar Inc., before leaving in October 2007 in the wake of an $8.4 billion write-down.

Few dispute Wall Street firms took too much risk, but there is little consensus on the role of pay packages in encouraging that behavior -- or how to prevent it from happening again. Some experts say that banks such as Wells Fargo & Co. avoided the worst of the mortgage mess, even though their compensation plans were similar to those at banks that suffered big losses.

Pay experts say the vague language of the new law will make it hard to implement. The provision doesn't specify how to determine what "unnecessary and excessive" risk is, says Mr. Hodgson. That could give Treasury Department officials a lot of leeway.

Still, pay experts say the provision is sparking debates on the link between pay and risk, and how to tweak incentives to limit risky bets. Some of those ideas run counter to long-held tenets of good compensation plans, such as tying pay closely to financial results or stock price.

"This provision establishes a beachhead and starts a discussion on how you'd achieve these results," says Mark Borges, a principal at pay consultancy Compensia Inc. Mr. Borges and others say they are discussing a range of ideas with corporate directors, including requiring executives to hold stock for longer periods and delaying the payment of annual bonuses.

Alan Johnson, managing director of pay consultancy Johnson Associates Inc., blames unrealistic performance targets for much of the risky behavior. He says executives of some financial firms he advised had to produce a return on equity of 20% to earn their full annual bonuses. A more realistic goal might have been around 15%, he says.

Mr. Johnson thinks firms in which the government takes a stake might weaken the ties between executives' compensation and financial results -- the opposite of what most companies now seek.

Ira Kay, head of compensation consulting at Watson Wyatt, contends that linking pay to performance, particularly through granting stock, is still the best way to avoid excessive risk-taking. The problem on Wall Street, he says, may have been overly large cash bonuses that made the stock seem like "gravy."

Others suggest tying more pay to long-term results. Richard Ferlauto, head of corporate governance and pension investment at the American Federation of State, County and Municipal Employees, suggests companies delay paying annual bonuses for a few years -- until they are sure that good results will last. Consultants say some companies tried such deferred-bonus plans in the 1990s, but later abandoned them because they were hard to administer.

Mr. Ferlauto also wants more companies to require top executives to hold a significant amount of stock until they leave, forcing them to think longer term.

That idea, too, has been tried, with mixed success. Citigroup Inc. requires senior executives to hold until they leave 75% of the shares they are awarded; but Citigroup engaged in much of the same risk-taking behavior as rivals.

"I am not saying it's a cure-all," admits Mr. Ferlauto. He's now asking companies to make top officers hold some stock until at least two years after they depart.

Write to Phred Dvorak at and Joann S. Lublin at


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