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"Say on Pay" Proposals

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Leonard Rosenthal, whose comments are presented below, is a Professor of Finance at Bentley College and is recognized for his research that relates securities valuation to corporate governance, investor relations and regulatory variables.

For links to the referenced draft of Professor Gordon's paper and other comments, see

Professor Rosenthal had also offered comments on Professor Gordon's initial July 2008 draft addressing "Say on Pay" issues.



Comments of

Leonard Rosenthal

February 11, 2009


I would like to start off by saying that Professor Gordon’s article provides a well thought out and comprehensive discussion of the issues involved with “say on pay”. This is especially useful as it appears that “say on pay” is going to become a fact of life in the U.S., while not all the issues surrounding it have been analyzed sufficiently. In particular, I too am deeply concerned about the possibility that a few proxy advisory firms will have an outsized say on its implementation along with the use of a cookie cutter format that will not provide the intended benefits. I also share his concern that the SEC or state courts may also render “say on pay” proposals to a form that is not in the best interest of shareholders. What follows are specific comments as they relate to Gordon’s paper:

In Section 1B. Professor Gordon points out that some of the goals of executive compensation “are not in a stable relationship with one another.” While the point is well taken in general, I see no disconnect between the need to provide incentives for future service and to retain and attract managerial talent. Indeed, these two are complementary.

Professor Gordon makes a very good point in discussing how the failure to reprice deep out of the money options may lead to very aggressive risk taking that is contrary to the shareholders’ interests.

On the matter of CEOs not being able to hedge their equity holdings, I see no problem as some firms (Exxon, for example) now explicitly prohibit this. However, I would like to see firms prohibiting senior executive from margining their holdings. In the last several months, we have seen several CEOs and others having to dump large amounts of their shares on the market. I am less concerned with the direct market impact of these activities than the way in which worrying about margin calls distracts these officers from effectively running the firm in the interests of the shareholders.

Professor Gordon states that “Stock price measures may imperfectly measure the value of such investments (involving real options), particularly given that the firm may resist disclosure to hold on to competitive rents.” I agree with his general point with respect to not using stock price as the sole metric of performance. Clearly, some accounting measures should be used, subject to being aware of how those measures can be gamed.

In the next paragraph, reference is rightly made to the problem of the time frame over which to measure performance. However, incentive pay can never be a function of increasing returns alone. One must consider risk-adjusted returns, or the CEO will surely have the incentive to swing for the fences.

I think that Professor Gordon’s points on compensation consultants are well taken. In the same section, the idea of “categorizing the shareholder role in compensation setting” in terms of a 2x2x2x2 matrix strikes me as a good way to look at the issue.

One of Professor Gordon’s significant contributions is his discussion of what we can learn from the U.K. experience. As the nature of shareholders and their role with their firms has been different than that in the U.S, we (U.S.) shareholders have to be careful about using the U.K. story as prescription for our own. Of course, there are things about human nature which are pretty much universal, so there are certainly lessons to be learned. Thus, the adoption of a “best practices” model can indeed lead to the herding of compensation practices. We have plenty of evidence from the social sciences that humans herd, so what we want in compensation practices is for firms to be willing to experiment, not use the one size fits all approach. Professor Gordon rightly emphasizes this point again when he says that the U.K. system with its de facto requirement to consult with the two major proxy advisors “leads to stasis rather than innovation.”

Professor Gordon is rightly concerned to point out that “say on pay” should not be subject to the whims of the SEC or on different state corporate laws. Therefore, a good point is made that we have to be careful about a how a legislatively mandated “say on pay” can have negative consequences depending on how the legislation is crafted, not to mention the laws of unintended consequences.

Professor Gordon recommends that any mandatory “say on pay’ be limited to the 500 largest firm by free float of market cap. I would like to see more justification for the free float criterion, but more importantly, I would like to be able add more firms, perhaps another 500 of the largest, after observing a few years (three) of how the system works.

In summary, Professor Gordon’s paper clearly lays out the issues associated with “say on pay,” and provides a useful roadmap for the important discussion that needs to take place before its regulations are defined and implemented.


Leonard Rosenthal, Ph.D.

Professor of Finance

Bentley College

Waltham, MA 02452




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