Editor's Note: Today's post comes to us courtesy of guest contributor Jacque Vilet.
In a post I wrote a few months ago entitled Deja Vu All Over Again, the focus was on the weak link between CEO pay and performance.
In most of the analyses, stock price was the criteria used to gauge CEO performance. It was found that regardless of whether the stock price rose or fell, the CEO’s pay increased --- therefore no positive correlation.
Stock incentives came into prominence during the 70’s when Boards realized that by requiring CEOs to invest a large portion of their personal wealth in stock, they could ensure that those CEOs had the same objective as the shareholders – maximizing stock price. Not a bad idea. Therefore, stock incentives became the largest component of a CEO’s compensation package, and the link to stock price seemed to work well. Over time, however, executive comp experts found poor correlation between pay and performance/stock price.
My question is this: Do CEOs really have much impact on stock price today?
Think back to the 70’s and what the world was like then. Compared to today, most people would probably agree that the business world was much less complex. The term “globalization” was virtually unknown, there was little impact from economic disasters outside the U.S. and ---- Al Gore had not invented the internet yet! Similar to the simplicity of the banking industry as portrayed in the movie “It’s a Wonderful Life”.
Now fast-forward to today. Think about the difference ----globalization, economic upheavals with worldwide impact and high tech involved in every aspect of our lives.
OK, so what does all that have to do with executive comp and performance/stock price?
Most people don't know it, but close to 70% of the stock trades in the U.S. are no longer being made by human beings. They're being made by computers, capable of buying and selling thousands of different securities in the time it takes you to blink an eye.
It's known as "high frequency trading," and has nothing to do with 'investing' in the classical sense of the term. These computers operate on highly secret instructions programmed into them by math wizards, who may or may not know anything about the value of the companies that are being traded and frankly don’t care.
They anticipate which direction individual stocks are likely to move in the next fraction of a second based on current market conditions and statistical analysis of past performance. They trade at blinding speed, in milliseconds, which means they capture opportunities that exist for only fractions of a second. Some analysts call them the “new insiders” of Wall Street.
My point? With computers running the market that don’t care about company financials, market penetration, profit, leadership, new products, acquisitions ---- is it conceivable that a CEO still has a big impact on his/her company’s stock anymore? How can the Board assess a CEO’s true contribution when a company’s stock price can go up/down regardless of how good/poor the CEO’s performance? Could it be that using stock to gauge CEO performance may have outlived its relevance?
Stock incentives --- regardless of how they are designed --- have made many CEOs wealthy for years, and they would be a very difficult vehicle to give up. But if CEOs have little control over stock price, is it really a fair metric of performance?
What do you think? Is the issue raised here worthy of serious consideration? Is it an over-reaction? Do you still see Jimmy Stewart whistling as he walks down the street?
Jacque Vilet, President of Vilet International has over 20 years’ experience in International Human Resources with major multinationals such as Intel, National Semiconductor and Seagate Technology. She has worked with both local nationals and expatriates and has been an expat twice during her career. Jacque holds the CCP, GPHR and SWP (Human Capital Institute). She is a member of WorldatWork, Society of Human Resources Management and the Human Capital Institute. She is co-chair of the Global HR professional emphasis group for the Dallas chapter of SHRM. She is a regular contributor to HCI, HR.com and IHR Forum.
Image courtesy of rentageektt.com
Nope, stock price is not a particularly useful metric of CEO performance. But shareholders still fire CEOs when their earnings fall out of line.
Stock options are more effective, in my opinion, as retention devices (raising disengagement costs) than as incentives: while the captain may control the wheel, he or she can't control the winds. Stock options were justified in The Day as creating an identity of interest, which they do; but they are not as good a scorecard as long-term return on equity or total shareholder return. To use your own example, Bailey Building and Loan stock price probably bottomed out in 1946, but it turned out to be a great investment over the long term.
Posted by: E. James (Jim) Brennan | 07/29/2011 at 09:09 AM
Great article Jacque.
My take is this. CEOs and other C-Suite executives have no impact on stock price and a total impact on stock price. Kind of like the head coach of a football team. They are not directly responsible for the actions taken on the field, but somehow good coaches have better winning records than bad coaches.
People will sometimes list the "great" coaches who have only been able to compile lifetime .500 (or less) winning records. The fact is that GREAT coaches win.
The same is true for CEOs. While they no longer have the direct impact on stock price that CEOs had in the past, GREAT CEOS somehow provide ways for shareholders to make money (which is mainly done by buying and selling stock) and poor CEOs to not provide profits for investors. Therefore there must be a linkage between good CEOs and stock price.
As the market becomes the major force in large stock price movements, more emphasis is being put on performance goals that look at relative stock prices (actually relative Total Shareholder Return) or, even better, metrics that look at the things that should DRIVE the long-term value of the company (and therefore the long-term increase of stock price).
I discussed Equity Compensation's Golden Decade in a prior Comp Cafe posting (http://www.compensationcafe.com/2011/02/stock-option-moving-sale.html). You can clearly see how stock price from 1988-1999 was likely a worse indicator of performance that it is now. There is very little support for the continuous upward improvement as shown during the Golden Decade.
Posted by: Dan Walter | 07/30/2011 at 07:32 AM
Hi Dan ---- I hope you are right. I would like to see analysis on how these performance measures do impact CEO performance and therefore stock price.
I still feel that today the world is more complex with many variables that did not exist 30 years ago and that this impacts the CEO's ability to influence stock price.
Any CEO.
This issue has been bugging me for a long time. I think the metric should change to something like Jim suggests. Of course that would break the link between shareholder and CEO interest.
Sigh ---- any more info you can provide me I would be grateful!
Posted by: Jacque Vilet | 07/30/2011 at 01:49 PM