As economic mobility, housing and educational affordability, and the wealth gap have greatly widened in the past few decades, so has CEO-to-worker pay by unforeseen staggering amounts.
Logically, it makes sense that a CEO would earn more than the rest who work for them. Yet to the point where it takes the average employee 10 years to earn 1 year of an executiveâs pay package is beyond demoralizing.
How much does a CEO really do anyway?
Sure they have to know what the company does, have some sort of experience in that industry or a broader field, be friendly with the board of directors, keep a long-term vision, have stellar soft and people skills able to negotiate and communicate, and be the face of the brand but outside of that, they donât seem to be involved in much of the grunt work, at least the larger the company gets.
They get to appear on CNBC and give a recap from the quarterly earnings call and sign off on acquisitions and partnerships. In a startup they certainly wear multiple hats but past the public stage, how much do they really do that makes the average CEO pay close to $30m per year?
Do you think CEO compensation is represented by their true performance?
Iâm not so sure about it. Please prove me wrong.
Especially in the past few decades with the advent of digitalization, innovation, unicorns, Silicon Valley, retail trading, SPACs, search for public capital to go public, venture and private equity, and finalization, laws and regulations have been overhauled to protect and expand the interest of those earning at the expense of everyone else.
Power and wealth have been scaled upwards leaving the working class behind. To be truly wealthy means youâve adopted a system where you earn more when you arenât physically working, most conveniently through passive income. Otherwise, you will be working till death and sacrificing every minute of your precious time for someone else according to Buffet and Einstein.
Having a large equity stake in your own company based on stock performance is the most lucrative pay package as the top 1% own 53% of the wealth in this country, the top 10% own ~85% and the bottom 50% own a staggering 1% all due to this setup of pay packages. Equity is a beast.
A key aspect to the rise of the shareholder revolution was the primary model for corporate governance, the belief that corporations exist solely to maximize shareholder value which have reallocated corporate funds away from investments, wages, operations, and towards payouts to stockholders.
This unproductive reallocation of funds has led more money to trickle down into the hands of the elite who run these systems. Similarly to the tax structure, the largest companies and wealthiest individuals in the world get away with paying less tax than a middle-class immigrant since their income is earned in a non-efficient way through W2 instead of through real estate, LLCs or the stock market. If you donât declare your income and charge it as an expense towards your business, tax is forbid on your gains leading you to charge ahead of the tax-payers.
A business doesnât mean managing a 8 figure Big Tech behemoth to save on taxes. Never underestimate small businesses and private ventures that arenât tied to the market as well. The best way to do this is arguably as an innocent low-key barber. Most of their pay comes from out of pocket as most of their customers pay ~$10â30 in cash not card for a haircut allowing them to save on processing fees from Fintech players and not having to declare their real income to the IRS.
This can be an extremely lucrative business as they state they make an average median salary per year of ~$30k to the IRS to put themselves in the lowest tax bracket possible while they really end up earning around $200k per year! Itâs not uncommon. From electricians to barbers, construction workers and plumbers, they are better off than you think all thanks to the way they earn their money. The next time you get a haircut in NYC on a bustling street, be curious enough to ask them how many customers they get per day. They only need a few loyal customers per day to pay in cash to help contribute towards lowering their tax threshold and these are the businesses that arenât watched like a hawk like Big Tech or Wall Street. Plus we tend to have more sympathy towards small businesses since they are located in our local neighbor and are owned by real people not algorithms but in a sense are contributing to the CEO pay gap as well.
Power Gap
In 2020, according to CNBC, CEOs of the top 250 firms in the U.S. made $24.2 million, on average. Strange enough, out of all the U.S. publicly listed companies, 70% of them are unprofitable yet still give back handsomely to their chief no matter how much cash they are burning.
How is that possible?
It all comes down to the way they are compensated. The market keeps moving and is driven by future expectations, not real-time actual results. Otherwise Tesla to Facebook, GameStop to Peloton wouldnât be nearly as high as they are today if it werenât for pent-up anticipation that allows the chiefâs pay to be much higher than anyone elseâs at the firm..
After 1990, the relationship between shareholders and managers was strong and its business objectives were flipped to focus on shareholders not stakeholders. This lead to a reorientation of management priorities and executive compensation in the 1980s, the advent of financialization.
To put it simply, pay packages are largely dependent on stock prices with the managerâs interests aligning with its shareholders.
According to the Roosevelt Institute, âAverage CEO pay remained relatively constant at around $1 million from the mid-1930s to the mid- 1970s. However, at the onset of the shareholder revolution, influential theorists including Jensen and Meckling argued that CEOs would be better agents of stockholders if CEOs were paid like stockholders. Thus began the age of tying CEO pay to stock performance. Today, a CEOâs base salary accounts for just 3â7 percent of his or her total pay package, and the rest is composed of a combination of performance pay or equity-based pay.â
In the 1990s when the stock market boomed, companies were filling to go public left and right, looking for ways to tap into public market funding. This led CEO compensation to take off. There was also a long-standing theory that still holds some truth till today made by CEOs themselves that they are above average and must be rewarded much more than anyone else at the firm by a large margin.
Stocks Donât Go Up All That Much
Thereâs this notion that CEO compensation is tied directly to the stock market. This is certainly true in terms of their performance pay linked to stock prices yet it is often misunderstood.
The measure of that companyâs stock price isnât about how high it goes up or down. There are many uncorrelated things that go into the price that have nothing to do with pay and still see returns skyrocket.
For example, naturally favored by the rich, when Trump made tax cuts during his administration, this led to a surge in the stock market. Almost all companies went up and the major equity indexes had their highest rally in years. This led prominent indebted companies from Uber to Zillow, Lyft to BlueApron have their CEOs get paid more over the years they were burning more cash than they were bringing in all thanks to future expectations and extreme optimism.
These realized gains from exercising stock options and participating in a form of vesting of stock awards are the largest share of compensation and have little to do with operations until the company dies and even then the CEO gets priority holdings ahead of shareholders. As a result, higher stock price rises lead to larger pay which is tied to the health of the corporation.
The Economic Policy Institute estimates that CEO compensation has grown 1,322% since 1978, while typical worker compensation has risen 18%.
The Institute for Policy Studies estimates that 80% of S&P 500 companies pay their CEO over 100 times more than they pay their median worker. This means it would take 100 years for the average employee at one of these companies to earn what their CEO makes in a year.
Whatâs even more staggering is that during recessions and global crisis such as the covid pandemic as people were struggling to pay rent, serve food on the table and look for employment, the rich have gotten richer thanks to the stock market separation from the economy. Sadly, when people are struggling harder, someone is winning bigger.
Wages have only grown by a mere 18% in the last 40 years and havenât kept up with the production of the economy.
Workers could have easily received more throughout their lifetime if changes in the global economy wouldnât have hampered their pay.Â
These sweeping changes include:
-Globalization-cheaper workforce outside of U.S.
-Erosion of unions to collectively bargain for better pay
-Low labor standards
-Hard to find better wages (pre-pandemic with no such thing as a labor shortage in sight for the most part)
-Domestic workforce turns to freelancing and the gig economy
As a W2 earner, you either have a set hourly wage or a yearly wage with limited benefits. If youâre offered health insurance, a retirement plan 401(k), 403(b), and pension, and paid time off you are lucky but donât compensate these basic necessities for lower pay.
As a 9â5 employee, you are replaceable anytime and your pay is based on the hours you work and results you deliver. On the other hand, when you rise up to a senior level position at a company, you are deemed more valuable and irreplaceable as not everyone can fill that role.
There are a limited number of seats and pay is valued and weighed differently, most notably through stock based options/grants and then by the standard salary taking up 3â7%. When your companyâs stock price goes up, so does your salary depending on how many shares or pre-IPO shares of the company you own.
In addition to juicy bonuses, networking connections, global name recognition, endless future career opportunities, and a diversified pay package, you tend to have more job stability as well unless you loose the position yourself which unfortunately happens at this high-pressure level.
Industry to CEO
So how is it possible that the average CEO pay increased by 937% from 1978 to 2013 more than twice the increase in market capitalization?
Thereâs this belief that the surplus a company consumes should be given out to shareholders or the management board. This logic is based on the theory that shareholder primacy increases efficiency and economic growth.
Lastly they believes an extra dollar spent on internal investment or increased wages for the rest of workers might not yield as high a return if invested outside of the firm or paid out as wages to top management.
In turn, this has lead to a significant increase in the amount of income returned to shareholders each year in the form of buybacks and dividends now averaging around 95% of profits.
Real Change
This disparity is horrendous and is only getting worse with the rise of SPACs, record number of IPOs, and frothy markets. How can one earning ~$3o million per year still be human when they are well aware that a loyal employee at their factory is struggling to keep up with 3 other jobs to stay afloat? Empathy and perspective seems to vanish at the top? Theyâll get in trouble eventually if they have to manage it themselves one day.
The thousands of employees across the country that run the company, deliver packages door to door, tackle as many tasks as possible without being asked to, and are the people with personalities behind the brand are the ones that should be rewarded the most. Itâs beyond disappointing to hear the ways companies treat their employees like slaves while they are sitting on piles of cash as a select number of executives monitor the whole process.
In order for the U.S. to enhance economic and social mobility, squeeze the wealth gap, promote diversity and equality is to make these internal changes first. Itâs impossible for governmental policies to make any sweeping changes without businesses stepping up. I believe businesses can single-handedly do the work and really make a difference if they made it a priority, which hasnât seemed to ever be the case except for a few golden companies.
Beyond corporate governance, ethics and leading with moral must be in place.
When companies are too focused on the short-term interests of shareholders, this increases inequality. The skyrocketing CEO pay of the past 30 years has been the key drivers of inequality among the top 1% on top of buybacks and dividends strengthening capital income.
Firms focused on shareholder returns dampen innovation as well and companies may be less inclined to take on the long-term change making investments crucial to growth. Studies even find a decline in innovation once firms go public!
So what can these changes involve?
-More employment and opportunities
-Reform to drain CEO pay from short-term price movements
-Restructure boards
-Reduce performance pay loophole
-Address safe harbor provisions given to stock buybacks and issuance of dividends
-Internal whistleblower legislation and teams
-Disclosure of cash flows
-Capital and financial transaction taxes used to encourage long-term holding periods for shareholders
-American Rescue Plan for full employment by 2022 + Child Tax Credit + Reconciliation Bill from 2021
At least with the labor shortage taking place and faster recovery out of the pandemic than expected, Americans know they are able to shift and choose jobs more easily now with the backup provided from the government, even though stimulus didnât seem to play as big as a role in unemployment numbers as expected; a sign that Americans are able to keep themselves afloat independently.
The easiest response from a CEO against all of this is to say their compensation has been directly correlated to stock market returns.
If thatâs so, why canât more employees take part in it?
Happier employees, larger and more profitable company right?
Whether or not youâre jealous of your CEOâs compensation package or want to earn more and work less, we all deserve better.
Yet itâs important to realize earlier than later that hard work doesnât always lead you on the path you want to be on. Negotiation, certainty, and connections propel you much farther than simply working harder.
Work smarter not harder.
I guess thatâs something we can learn from CEOâs astronomical pay packages.
Take part in the markets, invest in your company if you can, and get to know everyone. Not just plainly work hard. It goes a long way. People hire who they know and like not usually the genius.