Sunday, December 5, 2010

EXECUTIVE PAY REVISITED.

While the media feed on the supply of daily snacks of executive pay disclosures and regular comment, there is a growing impatience with pay disparities in South Africa.

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The latest include the report on Sasol executive pay increases, Sizwe Nxasana’s remuneration as First Rand’s CEO, Ebrahim Patel’s NGP suggested capping of high income bonuses and P.E. Corporate Services’ research that showed that S.A. executives are the best off of 850 companies indexed world wide in terms of disposable income and working conditions.

Pay disparity has two perspectives: a rational one that relies on empirical and quantitative supply and demand theory; and an emotional one based on ethics, morality and socio-political premises. These perspectives have become part of immovable ideological stereotyping.

But even the rational argument has major flaws. For one thing, it assumes that there is a functional “market” in executive skills and that a severe shortage explains the mind boggling levels of pay for these positions.

The fact is that the broad term “executive” is far too vague. In my years of dealing with business leaders, I came to identify three distinct, albeit sometimes overlapping groups: the creators, or virtuosos; the Corporate builders or real entrepreneurs, and the professional managers or deliverers.

The creators or virtuosos are the real and more tangible value creators. They mostly bring something completely new or a much improved product or service to the market. Apart from the IT legends, South African examples are Raymond Ackerman, Koos Bekker, and Adrian Gore, to name but a few.

clip_image004The corporate builders are those who create big “empires” sometimes from scratch or from a modest organic company. They may not get the acclaim of their virtuoso compatriots, but I would argue that they are as talented, awe inspiring and significant. They add considerable value in mobilising capital, giving virtuoso’s a platform for vast expansion, and promoting efficiencies and global competitiveness. Corporate builders very often have a strong sense of ethics and a very clear moral compass. Names such as Warren Buffet, Johann Rupert, Brian Joffe and G.T. Ferreira, come to mind.

Others, such as Donny Gordon, Bill Venter and Richard Branson have elements of both creators and builders. Unfortunately the latter category can also attract rogues such as Jeff Skilling, Bernard Ebbers, and our own Brett Kebble, who put together a paper circle of capital conveyor belts with huge spillages filling their own bank accounts.

We should not begrudge people in the above categories their wealth or rewards (apart from the rogues of course). Given its popular definition, we should not demean them by calling them “executives”. They are autonomous, independent and beyond the reach of any head hunter. To think that you could “recruit” them is the same as believing you can get Oprah Winfrey to open the Swellendam High School fete. There is no “market” for these people.

However, there is a “market” for the third category – the professional managers or deliverers. In most cases, they are the captains of a ship and sail to the co-ordinates of shareholder value. Without detracting from their contribution, their “price” should be thoroughly scrutinised against supply and demand because, unlike creators or builders, they are recruited and appointed as employees.

Implied in demand for them is that they have the same passion, fortitude and aptitude as the builders or creators. This is seldom true. Creators and builders attract investors by their independent and creative thinking, not by submitting to shareholder whims. By exception do they stay in the corporate cocoon. If a deliverer possessed the same qualities as a creator or builder, he or she would most likely leave to become that. Indeed many do.

It’s been said that deliverers are offered the same rewards as the others to make them “think like owners”. The logic of paying someone huge amounts to think like an owner, escapes me. You can only think like an owner if you stand to lose everything, not merely a part of a fortune where the remainder is enough to retire comfortably. The most telling attribute of creators and most builders is their ability to take risks and look beyond immediate self interest. Executive incentives do the opposite and will attract opposite attributes.

Incentives divided into short and long term deliverables or guided by Balanced Scorecards and Triple Bottom lines have arguably had little effect, certainly not more than public pressure or Mervyn King have had. As Alan Greenspan discovered, people orientate towards short term rewards. In any case, much of shareholder focus is on short term results. Generally, there is a growing perception of a disconnect between reward and actual performance, seriously eroding the credibility and validity of incentives themselves.

The modern large corporation seldom relies on the outstanding attributes of one person, but on a whole team who can legitimately claim to have contributed as much as the CEO without sharing in the rewards to the same extent.

The third fallacy of demand is that there is a “global” market for executive skills, so called “peer-group benchmarking”. This is really by exception and most of our executives are simply not exportable, even in our multi-nationals. The “brain drain” of professional and technical skills is far more serious. The tendency to make peer comparisons in all sectors, right down to local government, spreads inflated pay like a computer virus.

Then there is the grey, if not murky area of cronyism, where appointments are made on the basis of who they know rather than what they know. Some see it simply as buying significant lobbying skills, especially with government. I may be a bit na├»ve, but I see a very thin line between this and “tenderpreneurship” or even corruption. Such attributes should be restricted to non-executive directorships at best.

The biggest distortion in the executive skills market is on the supply side. It is common cause that BEE has failed. In addition, by putting a premium on available black executive skills it not only narrowed supply considerably, but generally inflated executive pay structures. Perversely, one of the main intentions of BEE of narrowing the income gap has had the opposite effect.

But the real problem in the supply of executive skills is the artificial walls against entry. This was brought home to me by the pod-cast Alec Hogg had with leadership recruitment expert, Johan Redelinghuys. The insistence on a “track record”, sometimes not even an impressive one, excludes not only the many senior and talented people from other ranks such as academia, but also the thousands of qualified and experienced younger talent from both within and outside the company. The best way of bringing down a price is to open the gates of supply. Head hunters and selection committees can play a significant role in honing their aptitude finding skills, casting their nets a lot wider and finding those less costly but equally talented gems beneath the surface.

It is clear that the rational response to pay disparity in South Africa has some severe flaws. Unfortunately it has gone far beyond an interesting topic for columnists, conferences and academic treatises. The emotive and behavioural dimensions have pushed the issue to crisis levels and the negative perceptions around the more transparent levels of executive pay have to inform remuneration policies. We simply don’t know what the cost of pay disparity and its often accompanying “bling” is in social unrest, crime and distrust. It must be significant.

History has shown that classism, whether by blood, status or economic circumstances, is a highly dangerous condition in any society. Add a perceived or real racial context and it becomes explosive.

Something clearly needs to be done if we wish to avoid enforced economic egalitarianism. It is far better to address imbalances by correcting supply or demand than it is by fixing a price.

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