On August 5, 2015 the SEC voted to approve a new rule on the disclosure of the ratio of CEO pay to that of the median employee. This rule was a requirement of the Dodd-Frank Law passed in 2010. The details of the rule and what companies must do to prepare for it are all over the internet. This article covers what we can expect as a result over the next several years.
The media will be the most voracious consumers of this data. Bite-sized. Dividing. Simple. Controversial. These are all of the same buzzwords that drive most of today’s media sources. This law will result in some of the easiest and least useful tweets and television pieces that journalists have ever taken 15 seconds to write.
CEOs and Boards will use historically low ratios as an argument for raising CEO Pay. No one wants to think their CEO is worth less than their competitors. Few CEOs are willing to admit that they are worth less, either directly or relatively, than any of their peers. If the pay ratio is low, expect a raise of big bonuses in the near future.
Compensation professionals will be tasked with explaining why “pay ratio” at their company is not directly comparable to their peers. Arguments will be made that divergent ratios are a result of different forms of pay, more variable pay (or higher risk) for the CEO, better work-life balance for employees, better employee satisfaction, high retention, etc. There will be as many excuses as there are reasons. Few people will be able to distinguish between the two.
Companies with high ratios will work to explain how this benefits their shareholders. The savings in broad-based pay to employees will be passed on to the shareholders, or used to invest in the future of the company. If the company also has a strong relative TSR (a disclosure that will also be required by new SEC rules), then this argument becomes exponentially stronger.
Some activists and /or shareholders will call for prescriptive scoring of pay ratios for Say on Pay and other purposes. Some companies will find themselves stuck between hiring, or keeping, the right person and staying within the guidelines to receive positive Say on Pay recommendations from proxy advisory firms.
Of course, some companies will react as the writers and supporters of this new law intended. CEO pay will be restricted or even lowered at some companies. Broad-based pay will also go up for a small percentage of companies.
But, the rule will mainly serve to deliver the five items listed above, while providing new ammunition to attempt to embarrass or shame the most egregiously paid CEOs. Those CEOs, by the way, already know that many people don’t support their pay and really don't worry about it too much.