Yahoo is trying to sell off the only part of the company that requires actual management (the “core Internet business”; the rest of the company just holds shares in Asian companies that have their own managers). See this New York Times article, for example. The public company’s board of directors decided that the services of Marissa Mayer were worth $365 million (see this posting). Yet there is no mention of any of the potential buyers of Yahoo expressing a desire to retain Marissa Mayer in the acquired “core business” or a willingness to pay her a specific amount. “Yahoo makes it easier to give Marissa Mayer a huge payday” says that the current Yahoo board would pay Mayer $37 million on her way out, but what would she be worth on her way into the acquirer’s enterprise?
If the answer is “nowhere near $365 million” then can we say that Yahoo’s CEO compensation process, which is typical for U.S. public companies, doesn’t reflect any kind of market? There is a real estate market. A huge apartment complex doesn’t typically go from being worth $365 million to being worth nothing. There is a market for gold, which is volatile, but not to the extent that a $365 million chest of gold could be worth next to nothing.
Related:
- “Economic Recovery Plan for the U.S.” (2009), in which I suggest that it is time for “corporate governance that relieves investors from worry that profits will be siphoned off by management”
- Microsoft is 2000 times less effective than Google; Yahoo Board seems to be insane (2008 posting on Yahoo’s rejection of a Microsoft offer of $31/share in 2008; the stock this week was worth about $37, primarily thanks to the efforts of employees of companies in Asia whose shares Yahoo holds)
Everyone talks about CEO compensation like it ought to be some kind of leveraged derivative based on the performance of the enterprise (relative to what is the question)
Presumably, Marissa was hired to right the ship, and that didn’t really happen. It was a risky proposition, and Yahoo went out into the market and hired the candidate they thought was best. Some of her pay reflects the follow on stigma and damage to reputation of such a risky job. If she had turned Yahoo around, they surely would’ve paid more to retain her, or she could move on to better opportunities. Instead she’ll likely not get a chance like that again, but can buy an island somewhere and live very well. People in her position probably aren’t satisfied with that. Sounds great to an average person, but not bigtime CEO’s.
Whomever buys Yahoo will have their own agenda and ideas about what parts of the business have value, about what is and isn’t possible. If they wanted to maintain the exact same business and trajectory as the current Yahoo, they would probably pay Marissa to stay on. But they won’t, because they’re not going to buy Yahoo to maintain the status quo. So, they’ll hire someone new that fits the new business model, or manage it under their umbrella.
To use your apartment analogy, Yahoo was a grand old building sliding off he cliff. No engineer wanted to touch it. An engineer took the job, knowing it was a long shot, and exchanged higher pay for the likely blemish to their reputation. After years of trying, the building continues to slide down the cliff. The buyer isn’t interested in buying something only to have it keep sliding down the cliff at the current rate–if they were, they’d keep the same engineer. Maybe they have their own engineer and think they can stop the slide. What’s more likely, is they see different value in the property, the furnishings, land, brand, etc. and so they won’t need an engineer at all, but a salvage expert.
While CEOs make multiples of the amount their companies are worth, employees also borrow multiples of their company’s total valuations for their mortgages. Employees just can’t get a cash position out of it like their bosses. Also, her husband no doubt has had to put in a lot more than $365 million to win someone who looks like that.
Most public corporations have been captured by their top management, who install pliable boards who will allow them to receive most of the upside potential of the company as compensation. The compensation committee can compare their insanely overpaid CEO with everyone else’s insanely overpaid CEO and decide that they are paying a “market” rate. Since every other bidder for Yahoo already has its own top management, why would they want to give that kind of money to Mayer? If there is $365 million in management compensation to be spent, they want it for themselves.
“Everyone talks about CEO compensation like it ought to be some kind of leveraged derivative based on the performance of the enterprise (relative to what is the question)”
Relative to corporate profits? How about a menial base pay of, say, $1mil a year, and a bonus structure that pays back based on a percentage of profits?
I dunno, I don’t have any experience in the matter. We more regular folk (CEO of a company with 1 employee here) may find it hard to understand paying hundreds of millions to someone to run a failed business. Is the incentive that the successful CEO’s are invited to cocktail parties and the failures are shunned to wallow in self-pity wrapped in golden parachute?
Successful CEO’s (“success” = not being dismissed) are able to attach to themselves the value and prestige of the corporation, which may be $billions, and thus behave like Larry Ellison who actually does own his company. At the end of the run, they just retire on 100 foot yachts and First Class tickets instead of 300 footers and G650’s. It’s a tough transition but most get through it given enough therapy, comfort women or medication.
Perhaps we should go back to never mentioning CEO salaries in public, since it seems there is a strong Wobegon effect about this issue.
I would think the best way to align CEO incentives with the company would be for the CEO to have a modest salary but also to acquire stock in the company at the date of ascension, perhaps aided by a loan, and then to hold this until tenure is finished, with a controlled sale over a year or so. (Add suitable language to prevent derivatives etc.)
Granted, it might in such a world be difficult to find someone suitable to lead the typical dog like Yahoo.
Interestingly, it was precisely this idea, introduced by Jensen and Meckling back in 1976 — to resolve the principal-agent problem by giving the CEO a strong personal incentive to drive up the stock price, typically in the form of generous stock options — that appears to have led to skyrocketing executive compensation. In “Fixing the Game”, Roger L. Martin (former dean of the University of Toronto’s business school) suggests that executive compensation should be tied to business objectives like market share or profitability, rather than the stock price. The company’s shares may rise in value because the sector as a whole is doing well, rather than because of the CEO’s performance; or for some unrelated reason, in the case of Yahoo’s ownership of Alibaba. Martin also describes widespread techniques that executives use to make sure they hit their earnings targets, based largely on accounting techniques.
A more radical idea, by Saez and Piketty, is to restore very high marginal tax rates at the top. In the US and Britain, they were over 70% as recently as the 1970s. Facing this marginal tax rate, CEOs didn’t have much incentive to try to use their position to extract huge compensation packages. But after Reagan and Thatcher lowered top marginal tax rates by 40%, CEO incentives changed dramatically. (Saez and Piketty notes that this doesn’t seem to have improved economic growth much, compared to the non-English-speaking countries.)
Saez and Piketty’s idea is that high marginal tax rates wouldn’t collect a lot of revenue; instead, they would reduce CEO incentives to extract high rents from shareholders (I think Philip calls it “looting”).
Right, it seems a bit familiar, doesn’t it? Options appear to have their own problems, partly from magically capturing gains at a low price, but partly too, I would say, simply because they have been roughed up and optimized by compensation committees for a long time now. Banks use restricted stock nowadays, don’t they? They are probably at the forefront of how to convert shareholder wealth into executive compensation.
(By contrast, options to engineers in startups seem nowadays to be more of a sleight of hand to reduce total compensation and induce lock-in at a low realized cost.)
As far as I’m aware, high marginal tax rates on income will just lead to a lot of highly-paid struggling to get around them. Corporate tax inversions will just be the beginning. In its most naive days, Sweden saw a lot of family fortunes and dito companies decamping, up to and including IKEA. So I would recommend against it.
From the psychological standpoint, I will refer you to my first comment. It’s received wisdom from somewhere else, but I think it makes sense. In short, de-emphasize the competitive element of salary packages.
I agree that publicizing competition has perverse effects; people compare themselves to the highest person on the list, and so the average compensation gets driven up.
Roger Martin makes an interesting analogy between businesses and the NFL. In the NFL, there’s a very strict separation between players and gambling: players are required to focus solely on winning games, not beating the point spread. In business, it’s the other way around: by tying executive compensation to the stock price, whether through options or RSUs, executives win big by raising expectations (analogous to beating the point spread) and thus moving the stock price, rather than by improving actual business performance. I think of Martin’s argument whenever I see full-page corporate ads in the Economist, aimed at investors rather than customers.