The paper, “Overpaid CEOs and Underpaid Managers: Fairness and Executive Compensation,” looked at data from over 120 firms over a five-year period and is the most comprehensive study of its kind to be conducted. Authored by James B. Wade at Rutgers University, Charles A. O’Reilly, III at Stanford’s Graduate School of Business, and Timothy G. Pollock at Pennsylvania State University’s Smeal College of Business, it will be published in the September/October 2006 issue of Organization Science.
The techniques of Operations Research (O.R.), the discipline of applying advanced analytical methods to help make better decisions, drove the analysis that appears in the paper. Among the key findings:
CEO Overpayment Has Higher Costs Than Previously Realized:
Arguments have been made that even if a CEO is overpaid, a large company can easily absorb the cost. However, the researchers found that CEO pay has direct consequences for compensation at lower employee levels. That’s because the effects of CEO overpayment cascade – at diminishing degrees – down to subordinates. For example, based on their models, where one CEO was overpaid by 64 percent, individuals in his/her company at Level 2 (COO, CFO, etc.) were overpaid by 26 percent, while individuals at Level 5 (division general managers) were overpaid by 12 percent. The cumulative effect of this systemic overpayment impacts overall organizational performance and shareholder value. Professor Charles O’Reilly, a co-author at the Stanford Graduate School of Business, notes “Given the large sums paid to some senior executives, the total cost for overpayment could be a big number – and, in some cases, significantly affect shareholder returns.”
CEO Pay Impacts Subordinate Turnover:
The study found that CEOs serve as a key referent for employees in determining whether their own pay is fair. Simply put, if the CEO is overpaid, subordinates are more likely to leave. The “turnover effect” becomes more pronounced the farther away you get from the CEO level. It also appears that even if an employee is overpaid relative to the market, if their CEO is overpaid by a larger percentage than they are, they will have a greater propensity to leave. “CEO compensation impacts employee retention more than we realized,” says lead author James B. Wade at Rutgers University. “Our research found that CEO overpayment is related to turnover, which can have important long-term consequences. It is quite possible that those most likely to leave because of perceived unfairness are precisely those employees coming up in the organization that would eventually rise to the top management team (TMT) level.”
CEO Underpayment also Cascades:
The study found that CEO underpayment tends to get cascaded through an organization, with multiplying effects. The researchers also found that if the CEO is underpaid more than you are, you are less likely to leave, but if the CEO is underpaid less than you are, you are more likely to leave. As Professor Wade puts it, “Underpaying a CEO could reduce turnover if subordinates are underpaid less than the CEO is underpaid.”
Notions of Fairness are Powerful:
On a positive note, the study found that CEOs tend to be concerned with the perception of fairness. If the CEO is paid generously, he/she will typically use their influence to pay others generously as well. And, if they are seen as being underpaid, that will also have an effect. “Our research shows evidence that CEOs are concerned with fairness, and that they are likelier to share rewards than they are to share burdens,” says co-author Timothy Pollock of Penn State University. “But this can be expensive and has the potential to hurt a firm’s bench strength if the rewards aren’t fully shared.”
Powerful CEOs Pay Employees More:
Another interesting finding of the research is that more powerful CEOs (those who also serve as Chairman of the Board) tend to pay their employees more and that effect is more pronounced at higher levels, but diminishes at lowers levels. The effect disappeared at Level 5 (division general managers), but was strong at Levels 2 – 4 (the top management team through the junior vice president ranks).
For more information or to arrange a briefing, please contact Doug Russell or Chuck Tanowitz at Schwartz Communications at (781) 684-0770 or by email at INFORMS@schwartz-pr.com.
About Organization Science and INFORMS
Organization Science is a publication of the Institute for Operations Research and the Management Sciences (INFORMS®). INFORMS is an international scientific society with 10,000 members, including Nobel Prize laureates, dedicated to applying scientific methods to help improve decision-making, management, and operations. Members of INFORMS work in business, government, and academia. They are represented in fields as diverse as airlines, health care, law enforcement, the military, financial engineering, and telecommunications. The INFORMS website is www.informs.org. More information about operations research is at www.scienceofbetter.org.
Smart Data Transformation – Surfing the Big Wave
02.12.2016 | Fraunhofer-Institut für Angewandte Informationstechnik FIT
Climate change could outpace EPA Lake Champlain protections
18.11.2016 | University of Vermont
In recent years, lasers with ultrashort pulses (USP) down to the femtosecond range have become established on an industrial scale. They could advance some applications with the much-lauded “cold ablation” – if that meant they would then achieve more throughput. A new generation of process engineering that will address this issue in particular will be discussed at the “4th UKP Workshop – Ultrafast Laser Technology” in April 2017.
Even back in the 1990s, scientists were comparing materials processing with nanosecond, picosecond and femtosesecond pulses. The result was surprising:...
Have you ever wondered how you see the world? Vision is about photons of light, which are packets of energy, interacting with the atoms or molecules in what...
A multi-institutional research collaboration has created a novel approach for fabricating three-dimensional micro-optics through the shape-defined formation of porous silicon (PSi), with broad impacts in integrated optoelectronics, imaging, and photovoltaics.
Working with colleagues at Stanford and The Dow Chemical Company, researchers at the University of Illinois at Urbana-Champaign fabricated 3-D birefringent...
In experiments with magnetic atoms conducted at extremely low temperatures, scientists have demonstrated a unique phase of matter: The atoms form a new type of quantum liquid or quantum droplet state. These so called quantum droplets may preserve their form in absence of external confinement because of quantum effects. The joint team of experimental physicists from Innsbruck and theoretical physicists from Hannover report on their findings in the journal Physical Review X.
“Our Quantum droplets are in the gas phase but they still drop like a rock,” explains experimental physicist Francesca Ferlaino when talking about the...
The Max Planck Institute for Physics (MPP) is opening up a new research field. A workshop from November 21 - 22, 2016 will mark the start of activities for an innovative axion experiment. Axions are still only purely hypothetical particles. Their detection could solve two fundamental problems in particle physics: What dark matter consists of and why it has not yet been possible to directly observe a CP violation for the strong interaction.
The “MADMAX” project is the MPP’s commitment to axion research. Axions are so far only a theoretical prediction and are difficult to detect: on the one hand,...
16.11.2016 | Event News
01.11.2016 | Event News
14.10.2016 | Event News
06.12.2016 | Materials Sciences
06.12.2016 | Medical Engineering
06.12.2016 | Power and Electrical Engineering