Moving towards pay transparency

What is the right salary? What are the factors determining salary levels? Questions such as these, which don’t lend themselves to easy answers, have perennially bothered both management teams and employees.

In principle, the work to be done as well as the skill-sets and experience of the person hired to do it should determine the compensation. Gender, location, profitability of the organization, the company’s compensation policy, and industry standards are considered to be the other important determinants of compensation packages.

These factors however fail to explain the salary levels of executives in India. Contrary to what most people may expect, the highest paid chief executive officers (CEOs) in India are not necessarily those of the largest companies in terms of sales, profits or market capitalization. The CEOs of Reliance Industries or Tata Motors or Hindalco are not among the top earners. The CEOs of Divi’s Labs, Sun TV and Jindal Steel and Power are.

Owner-managed companies rather than professionally managed ones or multinational firms pay the highest salaries. Data shows “owner CEO’s”—those who decide their own salary—get paid more than a professional CEO for doing the same job. It does not stop here. When the owner is the senior-most employee of a company and a professional is his No. 2, the gap between the two salaries is unrealistically wide. Finally, when multiple members of families are on the board, the earnings of the controlling family are an outsized percentage of the company’s wage bill.

The absence of adequate disclosure norms means Indian companies are not obliged to clearly state the criteria they use to devise compensation packages. Arbitrariness follows. As a result the difference between the average employee pay and the CEO’s salary remains worryingly high, with the median CEO earning 85 times as much as the average employee (among 30 Sensex companies). A large part of the executive pay is variable and is linked with profitability. Yet, the benchmarks used to determine the variable payments are seldom disclosed.

Contrast this with the discussion on the pay and bonus of Microsoft CEO Steve Ballmer in filings made by the company. There is merit in quoting extensively from the filings (http://bit.ly/130unHK): “For fiscal year 2012, the compensation committee recommended…an incentive plan award of $620,000, which was 91% of his target award (note in the previous year he was paid only half his potential bonus). The award was based on his performance self-assessment and other relevant information considered…including: Ballmer’s performance against his individual commitments; the operating income performance of the company relative to 25 large technology companies (a group that includes most of our technology peers); success in substantially completing development of Windows 8 and the new Office suite; successful launch of SQL server 2012 and system centre 2012 contributing to 12% growth in server and tools business revenue; integration of Skype. This was offset by “the 3% decline in revenue for the Windows and Windows live division (1% after adjusting for the impact of the Windows upgrade offer); slower than planned progress in the online services division; the Windows division failure to provide a browser choice screen on certain Windows PCs in Europe as required by its 2009 commitment with the European Commission.” And all this while acknowledging that “…the principal leader of Microsoft, Ballmer focuses on building our long-term success, and, as a significant shareholder, his personal wealth is tied directly to Microsoft’s... While the committee and the board believe Ballmer is underpaid for his role and performance...they have accepted Ballmer does not participate in the equity component of the incentive plan. His award under the incentive plan is payable entirely in cash, and is correspondingly smaller than those made to the other(s)…”

There are a few things worth noting. One is the granularity of the disclosures. Second, even while acknowledging that Ballmer is underpaid, the company does not pay the full bonus, which is linked to defined parameters. Third, acknowledging that since Ballmer is a significant shareholder in the company his wealth is linked to the value of Microsoft, the statement makes a case for paying him a lower compensation than to others.

For us, moving away from a skewed salary regime will be difficult but desirable. And as regulating pay cannot be the answer, we need to move to a more transparent regime. The remuneration committee needs to share details about the fixed component and monetized value of perks and provide comparisons with peers. They need to state upfront the benchmarks against which the performance-linked incentives will be paid. Breaching a predefined threshold should mean the interested party not getting to vote on the resolution. On their part, owners need to be sensitive to the fact that their wealth is inexorably tied to the stock performance. Creaming a bit off the top will not materially affect their fortunes.

Amit Tandon is managing director at Institutional Investor Advisory Services India.