Executive

Compensation as
an Agency
Problem
 Executive Compensation

 It's not just about money, but a whole lot

more

 Company's leaders have the power to

determine

their own paychecks

What is Agency
Problem?
 The Connection Between Influence and
Compensation
Absence of Large Concentration of Anti-takeover
Board Weakness Outside Shareholder Institutional Shareholder Arrangements

 Larger Boards  Rigorous Monitoring  Intensive scrutiny of CEO and  Antitakeover Provisions
board actions
 CEO-Appointed Outside  Reduced Managerial  Above-Market Compensation
Directors Influence  Lower Executive
 Increased CEO Excess
Compensation
 CEO Duality  Lower CEO Compensation Compensation
 Performance-Sensitive
 Share Ownership of  "Luck-Based" Pay  Shareholdings Reduction
Compensation
Compensation  Impact on Compensation  Misalignment with
Committee Structure Shareholder Interests
 Compensation Consultants

Are they really providing valuable insights and expertise to optimize

executive compensation packages?
 Compensation Consultants
Are they really providing valuable insights and expertise to optimize
executive compensation packages?

 Masking Excessive Pay

 Alignment with CEO Interests
 Consulting Firm Relationships
 Data Manipulation
 Peer Group Comparisons
 Rationalizing Compensation to Shareholders
 Justification Strategies
 Stealth Compensation
Tactics of Obscuring Compensation: Board Weakness
 Tax Burden Transfer
a. Pension plans  Lack of Transparency
 Lack of Specific Monetary
b. Deferred compensation Value
 Unreported Implicit
c. Post-retirement privileges
Compensation
d. Consulting agreements  SEC Mandate
 Loan Forgiveness
Gratuitous Goodbye Payments
Ex-CEO Given $40-Million
Exit Deal by Mattel

 Influence of the CEO over the Board

 Reluctance to Remove the CEO

 Managerial Influence

 Impact on Future CEOs

Jill Barad
former CEO of toy maker Mattel Inc.
 Things We Have Found

The Limitations of Optimal The Managerial Power Power and Camouflage at

Contracting Approach Work
The Limitations Of Optimal Contracting In
Corporate Governance Include:

● Managers and directors may not automatically seek to maximize shareholder value,
leading to an agency problem.
● Directors often have incentives to favor CEOs due to the desire for reappointment,
prestige, and business connections.
● Board elections typically occur by slate, making challenges to management's choices
rare.
● Directors' influence over the nomination process is influenced by the CEO, encouraging
them to support the CEO's pay arrangements.
● Directors usually have nominal equity interests in the firm, reducing their personal
motivation to challenge CEO compensation.
● Market forces, including the market for corporate control, have limitations in
constraining executive compensation, allowing for significant deviations from optimal
contracting.
● Negotiations with outside CEO candidates also fall short of the ideal arm's length
model due to various factors that influence directors' decisions.
Key points of the Managerial Power Approach
include:

● Executives have the power to negotiate compensation arrangements that may be more
favorable to them than what could be obtained through arm's length bargaining.
● Outrage costs, the potential harm to reputation, and shareholders' reactions influence the
approval of compensation arrangements.
● Executives may use camouflage to obscure rent extraction, leading to inefficient
compensation structures.
● Transparency and disclosure in executive compensation matter, as outsiders'
perceptions affect the design of compensation arrangements.
● Increases in executive pay during the 1990s were influenced by factors like the use of
equity-based compensation, rising stock markets, and weakened outrage constraints
during market booms.
Key points of Power and Camouflage at Work
include:
• The managerial power approach predicts that executive pay is higher and less sensitive to performance in firms where
managers have more power, as evidenced by factors like a weak board, lack of large outside shareholders, and fewer
institutional shareholders.
• Compensation consultants, while providing valuable input, often have incentives to favor CEOs, leading to justifications for
high executive pay rather than optimization.
• Stealth compensation practices, including pension plans, deferred compensation, post-retirement perks, and loans, make
executive pay less transparent and can obscure the extent to which it's decoupled from performance.
• Gratuitous goodbye payments to departing CEOs often go beyond contractual severance arrangements, reflecting the
influence of managers and the relationships between CEOs and the board.

"Power and Camouflage at Work" describes how executive compensation practices are influenced by the power of managers and includes
practices such as the relationship between power and pay, the use of compensation consultants, stealth compensation, and gratuitous goodbye
payments to departing executives..