As Standard Life’s investment boss calls for pay curbs, are big investors right to target chief executive pay?

The Square Mile - London's Financial District
Standard Life thinks investors must do more, or else the government will step in (Source: Getty)

Alex Edmans, professor of finance at London Business School and a member of the steering group of The Purposeful Company, says Yes.

Shareholders bear both the direct cost of executive pay and its indirect effects on other stakeholders, since stakeholder value ultimately affects shareholder value. Thus it is they, not one-size-fits-all regulation or other stakeholders, who should crack down on pay.

But they must target the right dimensions. While the level of pay receives the most media attention, evidence shows that the structure of pay – linking it to long-term value not short-term profit – is far more relevant. Complex, opaque bonuses and long-term incentive plans should be scrapped and replaced by simple, transparent long-dated equity.

While reducing executives’ share of the pie will win most headlines, restructuring pay to incentivise growing the pie will create much more social value. Moreover, where pay is an issue, it is merely one symptom of broader governance problems. Investors should crack down on not only pay, but governance and short-termism more generally.

Tim Worstall, senior fellow of the Adam Smith Institute, says No.

Standard Life might want to be careful in complaining about executive pay. It is, after all, less than a year since 22 per cent of its shareholders voted against the chief executive’s pay package. But the idea that it would try to crack down because it’d been cracked down upon before is daft.

We should look at what research tells us. The most interesting is from Hyeog Ug Kwon, who convincingly shows that Japanese chief executives are paid more than Anglo-American counterparts, and without significant bonuses for hitting performance targets. Kwon also shows that shareholder returns of Japanese firms are significantly below Anglo-American firms, where chief executives get bucketloads if they perform.

The conclusion is that vast salaries for not doing much probably isn’t a good idea. But a percentage point or two as a bonus for overperformance makes sense. And as long as pay is convincingly linked to performance, then shareholders should be dancing at having to pay out only 1 or 2 per cent of what the labours of others have made them.

City A.M.'s opinion pages are a place for thought-provoking views and debate. These views are not necessarily shared by City A.M.

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