New UK disclosure rules did not curb CEO pay or improve pay-performance link, but instead led to “opportunistic reporting” for reputation management, finds study by Cambridge Judge Business School and King’s College London.
The first year of new UK disclosure rules did not curb CEO pay or enhance the link between CEO pay and firm performance at FTSE 100 companies, but led instead to “opportunistic reporting for the sake of reputation management,” says a new study from Cambridge Judge Business School and King’s College London.
The study found that in submitting comparative information about pay of CEOs and employees, many big UK companies “self-select” by choosing only certain geographies or types of workers – an invitation to “cherry-picking” which “seriously compromises the reliability” of the comparative disclosure rules.
The study looked at the first-year results of UK disclosure rules that took effect 1 October 2013, which applied to quoted UK companies in financial years ending on or after 30 September 2013.
“Taken together, we question whether the new enhanced disclosure regime is effective in its aim to improve the pay and performance link and curb excessive CEO pay,” says the study. “We conclude that firms engage in impression management by both selectivity in the presentation and content of information.”
The 2013 regulations entitled, “Large and Medium-sized Companies and Groups” were intended to “restore a stronger, clearer link between pay and performance” and ensure “greater transparency” on pay, according to a Department for Business, Innovation and Skills (BIS) discussion document. There was “compelling evidence of a disconnect between pay and performance in large UK listed companies and the call for action has been loud and clear,” then-business secretary Vince Cable said in 2012.
“We find that the new regulations did not appear to achieve their goal of greater transparency,” says study co-author Dr Jenny Chu of Cambridge Judge Business School. “Companies have such wide discretion as to which employees they include in the comparator information that this disclosure really loses its effectiveness. We also found that in their first year the rules didn’t enhance the link between CEO pay and performance, nor did they reduce the CEO-employee pay discrepancy.”
The study, entitled “Form over substance? An investigation of recent remuneration disclosure changes in the UK”, is authored by Jenny Chu, University Lecturer in Accounting at Cambridge Judge; Aditi Gupta, Lecturer in Accounting at King’s College London and Xing Ge, who worked on the study while attending King’s College London.
The study looked at 91 UK companies (excluding those FTSE 100 firms not incorporated in the UK and thus exempt from the disclosure regulations) over three fiscal years ending in 2014.
On the comparison of CEO pay and other employee pay, the study found that firms had a “high degree of flexibility and variation” in choosing their comparator groups – with only 24 of the 91 firms including employees from all geographic regions and all levels. Some firms chose only an “arbitrary percentage” of employees (such as 40 per cent), or only senior management, or only employees in certain geographic areas such as London.
“We therefore question whether this disclosure truly assesses the issue of widening pay gap,” the study says. “Instead, managers may have opportunistically engaged in reputation management by cherry-picking the group of employees that best serve for comparison. In our opinion, this disclosure falls short in addressing concerns of greater transparency in disclosure of wage inequality.”
The study found that in 2013 the average CEO earned £5.57 million in total (including salary, bonus, benefits and equity pay) with cash pay (salary and cash bonus) of £1.64 million, compared to £4.68 million and £1.57 million, respectively, in the two-year period before the regulations took effect. The ratio of total CEO pay to average employee pay was stable between the pre- and post-regulation periods, from 123.01 to 122.37, the study found.
“We find no evidence that the introduction of the reform had an impact on narrowing the pay gap between CEOs and employees,” the study said, though there was some evidence that appointment of a new CEO shrinks the pay differential.
Companies reported, based on their comparator groups, that employee salary (up 3.64 per cent) and bonuses (up 22.66 per cent) increased at a higher rate than CEO salary (up 0.2 per cent) and bonuses (up 14.03 per cent) before and after the rules took effect; however, the increase in CEO benefits (up 9.5 per cent) was nearly six times that of employees (up 1.6 per cent) – “which may translate to a considerable increase in absolute levels of remuneration,” the study said, adding that this comparison does not include equity-linked pay, a large component of executive pay.
The study also found that firms with prior advisory shareholder votes of dissent on executive pay actually had “less voluntary disclosure, greater pay and higher pay ratios” between CEOs and other employees. This, the researchers said, supports other new rules introduced in 2013 that requires a binding vote on remuneration policy at least every three years, or at the next annual general meeting if the company’s remuneration report fails to achieve a majority advisory vote.