Chief executive pay is a scandal. It is too high, too complicated and has badly damaged the image of business. Even fervent defenders of free markets think top pay is out of control.

Simon Walker, head of the UK’s Institute of Directors, whose members are rarely heard humming ‘The Red Flag’, has said: “What has done the most damage to the reputation of business and the free market in recent years? It hasn’t been the G20 protests or the Occupy tent cities. It has been the greed of those who demand and secure rewards for failure in far too many of our large corporations.”

Mr Walker’s words appeared in a report last week from the London-based High Pay Centre, which called for the scrapping of most of the pay incentives offered to chief executives.

Remuneration committees generally base their chief executives’ bonuses and ‘long-term incentive plans’ on measures such as earnings per share and total shareholder return

The report followed a year-long investigation for the centre overseen by, among others, Mr Walker, my Financial Times colleague John Plender and Andrew Smithers, FT blogger and former fund manager.

Defenders of the current set-up may seize on Mr Walker’s jibe about rewards for failure and say: “Ah, but what about all those successful CEOs who deserve their pay?” The report’s riposte is that there is little evidence that performance-related pay schemes are, in fact, rewarding performance. Mr Smithers argues that they may be damaging companies.

Remuneration committees generally base their chief executives’ bonuses and ‘long-term incentive plans’ on measures such as earnings per share and total shareholder return.

The report says that these plans and their timeframe — at most three to five years — can lead to chief executives ‘focusing on practices such as share buybacks, cost-cutting and under-investment in order to manipulate performance targets, even when these actions do not represent sensible business strategy’.

It questions whether performance-related pay is necessary for chief executives at all. Extra rewards can provide an incentive to workers performing boring, repetitive tasks. People at the top, doing challenging, stimulating work need no such encouragement. They are in the public eye, they have reputations to protect and would work hard anyway.

It is, in any event, difficult to say how much the top person’s performance contributed to a company’s success.

What should be done? When I last wrote on this subject, I quoted Colin Melvin, chief executive of Hermes EOS, which represents institutional investors, and Peter Montagnon, former investment affairs director at the Association of British Insurers, who recommended that chief executives receive just a salary and shares that they would have to retain long term.

The High Pay Centre report recommends paying top executives cash only. If there are cash bonuses, they should be for achieving broader company targets, such as improved productivity. If chief executives want shares, they should buy them.

Whatever the particular merits of these two proposals, pay plans should be simpler and smaller. There is no need for US chief executives to earn 296 times as much as the average worker or UK bosses 120 times.

How to get there is harder. The obvious answer — that shareholders should demand it — is not working. While there have been votes against particular remuneration policies, they have not changed the system.

As the report says, the executives at many institutional investors are paid in the same way as company bosses and have no reason to sink the boat.

The most effective source of change would be a chief executive telling a remuneration committee to come up with something smaller and simpler.

It may sound unlikely, but it can happen. Last month, Dan Price, chief executive of Gravity Payments, a Seattle credit card processing company, said he was cutting his annual pay from $1m to $70,000 and increasing his employees’ wages to the same amount.

There is a tradition of US bosses, from Lee Iacocca to Steve Jobs, Mark Zuckerberg, Larry Page and Sergey Brin taking salaries of $1, although they have been heavily rewarded through their share ownership.

Perhaps we will one day see a chief executive saying: “I would like a good salary for a tough job — 10 times what my staff earn would be fine — and I will demonstrate my commitment by buying company shares.”

Chief executives often talk about leadership. Some write books about it. This would be real leadership.

michael.skapinker@ft.com

Twitter: @Skapinker

Published in Dawn, Economic & Business, May 25th, 2015

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