View from City Road: Greed and value in the boardroom

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The Independent Online
What a surprise - directors' pay shot ahead in the second half of the 1980s, especially among high-profile companies that borrowed to go on the takeover trail. But the pay increases bore little relationship to returns to shareholders. Where there were no unions to whinge, directors got away with even more.

None of this is news to anybody who has read financial pages for the past decade and has heard of Sir Ralph Halpern, Maurice Saatchi and a host of other overpaid corporate stars from the days of the takeover boom. Remember all those hot companies that began to look less wonderful to shareholders when the recession came?

The National Institute for Economic and Social Research has discovered all this, and published a research paper that will be a gift to those who think the function of a board of directors is to print money for its senior executives.

Too many company boards do behave like that - and the Independent has been attacking them for years. But the short and extraordinary period of economic mania and looming recession that made up the second half of the 1980s must be about the least reliable there is for drawing long-term behavioural conclusions.

Much odder things were happening elsewhere. House prices were raising many people's paper wealth by more every year than their salaries. Dividend cover was also behaving erratically, growing faster in the recession than before.

From 1985 to 1987, during the corporate boom, directors' pay grew at nearly 15 per cent and shareholder returns by 27 per cent. From 1988 until 1990, directors' pay went on growing at the same rate, but shareholder returns fell to less than 6 per cent as the recession approached.

Why did pay rises not fall as well? Directors' ability to set their own going rate, regardless of their shareholders' views, was doubtless one important factor. Executives may also have thought they were still catching up with international market rates, after the depressing effects of the 1979-81 recession.

Furthermore, there was a pernicious belief, reinforced by remuneration consultants and still prevalent today, that executives should be paid more than their industry mean, in the belief that this would encourage and incentivise them. Simple arithmetic shows that the mean must therefore keep rising in a spiral, and it still does.

Even the cut in top tax rates, which the Government naively hoped would lead to boardroom pay restraint, may have had a perverse effect. It became worthwhile to switch hidden perks into taxable pay, inflating the figures.

The biggest problem with the NIESR research is that there has also been a strong trend towards paying senior executives with share options, which the paper leaves out of the calculations, despite their near universal use now in boardroom remuneration.

An earlier draft of the NIESR research was attacked in a paper by Brian Main of the University of Edinburgh and Alistair Bruce and Trevor Buck of the University of Nottingham on exactly those grounds.

When they put options into their own equations, they found board remuneration was much more directly linked to the performance of companies than the NIESR claims.

If that is true, shareholders in general may not be getting such a bad deal from their managements after all - even if there are still too many rogue directors getting away with daylight robbery with the full approval of their remuneration committees.

This is an issue to attack case by case when individual abuses come to light. The big picture is rather a suspect one.