It's tough at the top.

Published: 8th May 2012

The subject of executive pay is often (and increasing more so) an emotive issues.  However, one of the reasons for the lack of transparency and sometimes apparently excessive executive pay in the UK’s top companies is that too many remuneration committees are filled with current and former FTSE executives, a think tank has argued in recent research.

As reported by ‘People Management’ over 46 per cent of places on FTSE 100 remuneration committee positions are taken by people who have served as executives in other blue-chip firms, found the report by the High Pay Centre (formerly the High Pay Commission) and one third of FTSE 100 companies have a current executive on their remuneration committee.
Issues of good governance raise concerns because it has been suggested that even if there is no direct conflict of interest, current or former executives may have a more favourable view than others on the rewards an executive deserves, with the effect of pushing up executive pay generally.  Even the Prime Minister, David Cameron waded in to the subject in January when, in launching the government’s consultation on executive pay, he criticised the “back-scratching” of chairmen sitting on each other’s remuneration committees, which he said created a “circular process of rewards being pushed up across the board”.

The High Pay Centre’s report specifically mentioned that “When non-executives largely come from a very specific employment background this will affect their decisions about remuneration, or indeed takeovers, strategic direction or board appraisals,” and that “Their decisions will be coloured by their experience. While current chief executives have no direct financial interest in the pay of the chief executive of the company on whose remuneration committee they sit, they may have an indirect financial interest as a result of the benchmarking practice that is commonplace among companies,”

The report cited household goods firm Reckitt Benckiser, whose former CEO earned over £200 million in six years, as an example since its remuneration committee is made up wholly of former executives. Indeed, these is a real risk that committees can fall into the trap of “group-think” with a set of like-minded individuals making decisions that a more representative set of people would not see as reasonable, the report said.

Even among directors who not have not worked as executives, most have a background in business or financial intermediation, with only 10 per cent of directors falling into neither category. Of these 37  corporate outsiders, 20 have worked in the civil service or in politics.

The report also said that the process of benchmarking was in itself part of the reason for spiralling executive pay, as remuneration committees were unwilling to give executives a below-average performance rating.

“Even without the threat of flight from the executive, most boards seek to pay above the median for salary and increasingly make awards in the upper quartile of the pay scale for performance related awards,” said the report. “It takes a very brave remuneration committee to seek to pay its executives below the median. It is seen as the equivalent of admitting they are mediocre or not up to the job.”

The government’s current consultation proposing a tighter process of binding shareholder votes to rein in executive rewards that are seen as excessive. One proposal is that 75 per cent of shareholders would have to vote in favour of reward packages for them to go ahead.  But the counter ‘demand and supply’ argument where corporates need to pay the best to get the best to remain take competitive advantage looks set to rumble of for some time to come.