Perhaps Congress was playing with numbers when it picked the median over the average as the mandated metric in the latest Dodd-Frank Wall Street reform proposal. Was it done by accident or on purpose? The rule set by the 2010 law may go into effect soon. The U.S. Securities and Exchange Commission (SEC) requirement for a report of the ratio of CEO pay to the median pay of other employees has advanced and is closer to final approval.
Those who support this goofy ratio make silly statementsthat often stand unopposed by experts who seem afraid to object. Transparency is frequently cited as a justification, but CEO pay is already exposed in proxy disclosures at all public companies and thus is easily viewed by investors, employees and the public. If shareholders or investors cared about the normal pay of others, they could request it themselves, but almost never have. This ratio does not clarify anything but it could create confusion.
A relative ratio means nothing without context and is more confusing or misleading than absolute numbers. For example, if the base pay of every non-executive was doubled, the company would probably lose money, become a worse investment and risk failure, despite the "better" pay ratio. Grossly inflating the payroll cost for most employees would increase expenses, reduce profits, make product/service prices soar due to the higher overhead burden, hurt market share and might bankrupt the firm: but the ratio would look great. In fact, the CEO's pay could probably be doubled, too, making it even more "competitively excessive" and potentially unreasonable, without changing the ratio from the old status quo level. A ridiculously high CEO pay figure could now be "justified" by increasing the base payroll median figure to equally ridiculous scales far beyond competitively justified levels! The ratio approach can create perverse results that contradict every sensible objective of its supporters.
More technically significant is the absolutely astounding choice of the MEDIAN as the key comparative input figure for the required pay ratio computation. While the average pay of other employees is quite simple to gather, summarize and report, the median is the middle figure in a rank-ordered sequence; it is much more difficult to identify when you have multiple units in different locations and foreign lands. Summaries become almost impossible, because you have to stack up every individual employee pay number in one massive combined list that must be sorted in order to find the precise center observation. No explanation for the requirement of median versus average has ever been voiced, despite many protests about that unnecessarily onerous and potentially administratively expensive edict. Basing the ratio on the median accomplishes nothing except confuse viewers, increase the reporting cost and make it punitively difficult to identify.
The whole pay ratio routine seems to be a sideshow farce for sound-bite manipulation that will cost a bundle to report while serving no valid positive purpose. But, of course, I could be wrong. Already, it appears that the government is diluting (if not totally changing) the regulatory requirement by permitting estimated medians to be constructed from sample observations. It is noteworthy that news of this significant development was not found in an American media report but came from a European source.
Now I’m getting even more confused! Maybe they are not just playing with numbers but playing with our minds. When regulations are written into law and then disregarded, how can one be sure what to do? An image of bending over to grab your ankles comes to mind…
E. James (Jim) Brennan is Senior Associate of ERI Economic Research Institute, the premier publisher of interactive pay and living-cost surveys. After over 40 years in HR corporate and consulting roles throughout the U.S. and Canada, he’s pretty much been there done that (articles, books, speeches, seminars, radio/TV, advisory posts, in-trial expert witness stuff, etc.), serves on the Advisory Board of the Compensation and Benefits Review and will express his opinion on almost anything.
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