Financial Information and degradation

Providing the data provided by Lehman brothers is accurate, it shows that from 2005 to 2006, the total net income increased by $185 million, while the pay for Richard Fuld for that year was $106 million including bonuses. Conversely, it can be disputed whether this increase in profits was a result of his management, or other factors not directly influenced by them.

Last month, Lehman Brothers filed from bankruptcy protection it is appeared that the series of bad decisions had led to a downturn in the company. To make things worse, $20 million had been paid to each of the three departing executives. Despite the sequence of events, the executives continually argue that the collapse was due to other external factors that been beyond control by them such as short-selling, rumours and degradation of their credit rating.

The supply curve (S1) of CEO's may be inelastic, due to the level of skill required to manage a company. As a result, if a price cap is put in place (below the free market equilibrium), this will result in a fall in the number of CEO's that are willing to be supplied for work – Q3 to Q1. However they may also be elastic depending on whether they have the mobility to work internationally if they encompass the necessary communication skills (such as good English), so they may make the choice to migrate to markets where this pay ceiling does not exist. It would then additionally weaken attempts to attract CEO's from elsewhere as they would too rather move to markets where they are not limited to the amount of pay they would earn.

However, the salary caps are likely to completely ineffective if a limit is not imposed on bonuses. Companies easily have the ability to bypass any salary caps by paying the difference in bonuses. Bonus contracts are likely to be performance related and as such, well executed ones may force CEO's to work harder for the business in order to maintain their level of pay. A typical example of this would be Stuart Rose (CEO of Marks and Spencer). His total pay for last year was ï2,032,000 including 1,050,000 in bonuses for 2006-2007. However, this year he has earned 1,375,000 in total pay, but zero in bonuses for 2007-2008.

At 70,000 as a basic salary, this contributes to the argument that their pay should be surely capped as this basic pay is in fact a rise from the previous year (from ï75,000) despite Marks and Spencer publishing a fall in sales by 19% compared to the previous year. No bonus is a good start of pay reductions, but a pay cap should happen in order to further strengthen this. Stuart Rose did argue that this was due to a tightening in consumer spending, leading to heavy price cutting to remove excess stock.

Stuart Rose's position may be further backed up by the publication of profits of firms within a similar industry. BHS announced that their profits have fallen 34% based on sales of the previous year. Based on a direct comparison, it may be further argued that the CEO of Marks and Spencer has in fact saved the company from loosing further profits – again, something difficult to prove.

Pay caps can also be disadvantageous to the firm in the event that they cause de-motivation. Some of the world's top Chief Executive Officers may choose to immediately move to firms promising to provide greater benefits (such as Cars, Houses) and greater bonuses. As a direct result of this, the firm may lose out on the additional profit that would have been created by their CEO. For example, if the CEO has created a constant increase of 100 million in profit, it may seem only fair to pay a small portion of this to their CEO.

Currently, high executive pay has beaconed further debate with the Banking industry. It has emerged that a �50bn rescue package is expected to cause part nationalisation of all banks, but yet Gordon Brown refused to comment on whether or not a pay cap would be put in place. It would be disloyal to the tax payer if these pay caps are not put in place. However, as I have discussed above, these attempts may be unsuccessful if all parts of executive payments are not capped.

Sources:

  • Lehman News Article: https://www.aljazeera.com/news/americas/2008/10/20081062278398207.html