For CEO Pay, a Single Number Never Tells
the Whole Story
Eli Lilly & Co. Chief Executive
John Lechleiter received compensation of $20.9 million last year, up 45%
from a year earlier, according to the formula the drug maker was required to
use in its proxy statement. But Lilly thinks it is fairer to value the CEO's
pay at $15.9 million, up 10%.
Executive pay is a hot topic, but the players
can't agree how to keep score.
Pay controversies are sure to flare again in
coming weeks, as hundreds of companies file their annual proxy statements.
The math will look different, after the Securities and Exchange Commission
changed its rules for calculating compensation for the second time in four
years. Most experts say the changes are an improvement, but they might sow
Moreover, a growing number of companies, like
Lilly, are presenting their own pay formulas alongside the SEC-mandated
figures. The "summary compensation table" in
Walt Disney Co.'s proxy says Chief Executive
Robert Iger received total compensation of $29 million for the year
ended Sept. 30, 2009. A few pages away, the same document says Mr. Iger
received "total annual compensation" of $21.6 million.
To keep track of the numbers, "You need to be
part accountant, part attorney and part archeologist," quips Brian Foley, a
compensation consultant in White Plains, N.Y.
Executives are paid in varying amounts of
salary, bonus, perks, stock, stock options and pension benefits. But most
people tracking executive compensation—including directors, consultants,
regulators and executives themselves—want to reduce each package to a single
That is hard when some payments are made in
cash, while others are in stock, the value of which won't be known for
years. For retirement benefits, the value might not be known for decades.
Mr. Foley notes that
Goldman Sachs Group CEO
Lloyd Blankfein and General Motors Co. CEO
Edward E. Whitacre Jr. each received 2009 pay packages the companies
value at roughly $9 million. Both were paid largely or exclusive in stock.
But Mr. Blankfein's pay was deemed a reward for Goldman's strong profit last
year, while Mr. Whitacre's was considered salary—in part to avoid
restrictions on bonuses at companies receiving government aid. Either man's
2009 pay package ultimately could be worth $2 million, or $20 million,
depending on future moves of Goldman and GM stock.
Even if the total pay for two CEOs looks
alike, "you can pretty much bet they are not the same," Mr. Foley says.
Equity grants account for as much as to
two-thirds of CEO pay, says University of Southern California business
professor Kevin Murphy.
Valuing those equity grants has long
bedeviled regulators. Until this year, the SEC required companies to
calculate an executive's pay based on a formula that reflected all of the
executive's outstanding stock grants, including those made in prior years.
Most pay experts considered that number meaningless, because it didn't
demonstrate how the company intended to reward the executive for the latest
The new rules count the value of the stock,
or options, on the day they are granted, applying a widely used formula in
the case of options. The changes are "an improvement on a flawed system,"
says Tim Bartl, senior vice president and general counsel of the Center on
Executive Compensation, a business-backed research group.
Whatever the details, these approaches all
attempt to put a value on compensation around the time it is paid, or
granted. Mr. Murphy calls this "expected pay." But some analysts prefer to
ignore stock grants and examine an executive's gains on previously granted
stock. Mr. Murphy calls this "realized pay." (Even realized pay isn't
necessarily money an executive puts in his pocket, because corporate
officials in many cases don't immediately sell stock that has vested.)
The two approaches often yield different
results. When Mr. Murphy calculated the 10 biggest 2008 paydays for
executives under both systems, only five CEOs appeared on both lists.
Richard C. Adkerson, CEO of mining company
Freeport McMoran Copper & Gold Inc., topped the expected pay list at
$120 million, including a $66 million grant of restricted stock and a
potential bonus valued at $43 million. (Mr. Adkerson declined any bonus,
according to Freeport's proxy statement.)
On the realized-pay list, Mr. Adkerson ranked
16th, at $48.8 million. He was far outpaced by
Occidental Petroleum Corp. CEO
Ray Irani, who reaped $222 million, primarily by exercising stock
Mr. Murphy says the SEC's rules have changed
repeatedly, often in response to a recent scandal. The agency required more
disclosure about executive perks in the 1980s, after 1970s-era bribery
revelations. The 1990s brought more details about stock options, after
headlines about "mega-grants" that turned into $100 million paydays. More
recently, the SEC added disclosures about pensions and post-retirement perks
after the controversy around former New York Stock Exchange Chairman Richard
The SEC says it changed the
compensation-reporting rules in December "to better enable shareholders to
evaluate" executives. The commission says grant values better reflect how
directors intend to compensate executives.
Rules also can prompt changes in pay
practices, often in unintended ways. A 1993 law that prohibited employers
from deducting more than $1 million of an executive's annual salary prompted
many companies to hand out more-easily deductible executive bonuses on a
routine basis. Mr. Murphy calls these "sham" bonus plans that allow
executives to be paid more than Congress intended.
Companies that list alternative pay formulas
say they want to help investors by giving them more information. At Lilly,
Dr. Lechleiter's 2009 compensation reflected an extra stock award, as the
company shifted to a two-year bonus system from an annual system. The
company also wanted to highlight how lower interest rates inflated the value
of Dr. Lechleiter's pension. The $15.9 million total "we feel is more
reflective of the compensation opportunity available" to the CEO, a Lilly
Disney says in its proxy that its additional
calculations are "intended to provide additional information that the
Company believes is useful in analyzing compensation decisions." A spokesman
declines additional comment.
The SEC says it supports companies offering
additional information, but not in ways that could confuse investors.
Any effort to reduce complex pay formulas to
a single number likely is doomed, Mr. Foley says. Regulators "would love to
have this be plug and play," he says, "but it is never going to be that
Scott Thurm at
General Motors Co. Chief Executive Edward J. Whitacre Jr. will be paid $9
million, mostly in stock, in 2010. This column incorrectly says Mr.
Whitacre's 2009 salary was $9 million. VF Corp. CEO Eric Wiseman received
"expected pay" of $8.8 million in 2008. A chart that appears with the column
misstated his expected pay as $60.1 million.
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