Ceos Enjoy New Salary Security

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Sound advice, but it rings a bit hollow coming from two scholars who helped create the culture of the imperial C.E.O. In 1976, Jensen co-authored, with William Meckling, a paper that interpreted exorbitant C.E.O. pay as a so-called principal-agent problem, in which a firm’s stockholders (the principals) struggle to police its senior executives (the agents). The best way to align the interests of C.E.O.’s and shareholders, Jensen and Meckling argued, was to give executives more stock and stock options. In 1990, Jensen and Murphy published an influential article in the Harvard Business Review bemoaning the fact that many C.E.O.’s still owned trivial amounts of stock, a finding that encouraged the now ubiquitous practice of granting them elephantine options packages.

Jensen’s emergence as a critic of C.E.O. remuneration packages shows how far things have gone awry, but it probably won’t make much difference. The enduring ability of C.E.O.’s to entrench and enrich themselves has at least as much to do with power and, ultimately, with politics as it does with economics. With the disappearance of egalitarian social norms as a disciplining device, the only restraints on C.E.O.’s are independent directors and public anger, neither of which has proved to be up to the task.

Despite Sarbanes-Oxley, which forced corporations to appoint a majority of independent directors, C.E.O.’s usually dominate their boards. They control the flow of information to directors, they pay the compensation consultants who help the board set executive pay, and they can blackball board nominees that they don’t like.

They also pay their boards astonishingly well. Most boards meet for a day or two eight times a year. Let’s be kind and assume that the independent directors spend an equal amount of time preparing for the meetings, which means they work about 30 days a year. Leafing through Merrill’s 2008 proxy statement, I discovered that Finnegan and his colleagues were each paid, on average, about $275,000. This figure, which translates to a daily rate of almost $10,000, doesn’t include being flown to board meetings, put up at fancy hotels, and provided with numerous other perks.

Here again, Merrill is the rule rather than the exception. At Time Warner, independent directors were each paid roughly $250,000 in 2007. Citigroup’s independent directors pocketed about the same amount; at News Corp. and Pfizer, the figure was only slightly less. Now, when the nice man (or, in rare cases, woman) at the head of the table is paying you like a movie star, it’s bad form to bring up the fact that his terms of employment practically preclude firing him even if he messes up in the most frightful way. How much easier it is, should a managerial cutting become necessary, to let the C.E.O. “retire” and walk out the door with his swag bag bulging.

In the words of Lenin, what is to be done? The history of stock-option grants demonstrates the pitfalls of pat solutions. C.E.O.’s are in such a powerful position that they can manipulate most attempted reforms to their own advantage. The only way to prevent them from gaming the system is either to jettison the public company—Jensen is now a big supporter of private equity—or build up some form of countervailing power. “What we need,” Nell Minow says, “is board members with spines, who are willing to stand up to the C.E.O.’s and say, ‘If you fail to meet these benchmarks, you will lose your job.’ ”

Nobody could argue with that, but I fear that independent director has become an oxymoron. The best hope is to chip away on several fronts at the authority of C.E.O.’s, beginning with making it less costly to fire them. Following Britain’s example, corporations should be required to appoint a nonexecutive chairman, whose job would be to run the board and represent the interests of stockholders. They should also be obliged to post the terms of employment of their C.E.O.’s on their websites and allow stockholders a vote on executive compensation. Some of these things could be done by, say, changing the listing requirements for the New York Stock Exchange and Nasdaq. Others would require legislation. But nothing, absolutely nothing, will change without a hefty outpouring of public outrage. So go ahead and get mad. Send an email to your favored presidential candidate. Call your representatives in Congress. Better still, go to the annual meeting of a struggling company in your portfolio and ask some awkward questions of the folks on the dais. Don’t rely on hedge fund bottom-fishers or jaded columnists to do the job for you. Give ’em hell.

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