SUMMARY : How does CEO compensation in U.S.

Corporations compare with

European and British Firms ? (B Maruffi, M Awad, I-J Malindretos, A Verrios, A Arise)

1) INTRODUCTION
This paper studies on the CEO compensations of various countries like U.K, Germany and Japan
in comparison with U.S. In general, the CEO compensation in the previous decades has increased
when compared to the average compensation of production workers. In the studies it was found
that the U.S CEO’s receive higher compensation when compared to the other country firms and
this paper analyses the reasons and the gap in the CEO compensation between U.S and other
country firms.

2) LEVEL OF CEO COMPENSATION IN U.S

The CEO compensation in U.S was higher than the other international firms. The U.S Corporations
were paid 10 times more than the CEO’s of the largest 500 companies in U.K. U.S CEO’s earned
about 200 times more than the U.K firms. The highest executive salary in U.S was 181 dollars
million whereas the German executive was paid 3.5 million dollars. The mid-sized firm in the U.S
paid over 30000 dollars more when compared the Japanese firms. The above data was compared
in 1997.The critical focus of this paper is not to highlight the disparity in the pay of the U.S CEO’s
with the other international firms but to review the rise in CEO compensation is aligned with the
compensation of CEO’s in other countries. Since 2003 it was found that the margin reduced
between the pay of U.S CEO’s and the U.K CEO’s and it was insignificant by 2007. It was also
found that the U.S pay premium declined from 58% in 2003 to 2% in 2007 and rose back to 14% in
2008.

3) GOVERNMENT REGULATIONS
The recent growing government intervention in the US business world has led to a significant
diminishment in CEO compensations. Financial & accounting regulations especially, aiming to put
a stop at corporate fraud and refocus CEO’s attention and incentives on shareholder interests. The
establishment of restrictions on executive pay packages by the government also negatively
impacted their growth rate. This phenomenon increased even more after the 2007 financial crisis
when politicians and media put pressure on the government to further limit CEO compensations.
However, by then, regulations neglected the initial purpose of readjusting executive compensations
and shareholders interest, resulting in an even lower correlation between them.

European countries too, witnessed a rise in their government interference. CEO compensations in
the U.K. underwent an important drop through an incriminating report and following measures. In
Germany, however, transparency requirements on pay packages led to their rise: CEOs whom
received a lower compensation than their peers, acted to increase their own.

4) INTERNATIONALIZATION AND AMERICANIZATION OF NON-U.S. FIRMS

CEOs of internationalized firms have to support more risks than CEOs of local firms and
consequently they expect to receive a greater risk premium for this. Indeed we can see that the
internationalization of the firm has a true link with the compensation of the CEOs. Moreover the
Americanization of firms is also positively correlated with the compensation of the CEOs. Indeed
internationally diversified board member, and more exactly including American people, tends to rise
the CEOs pays because this people come with their national thinking of what the wage would be.
Finally this rise of wage could be explain by the aim to be more successful at recruiting and
retaining talent in the global managerial labor market.

5) SHAREHOLDERS INTEREST
5.1 THE BOARD OF DIRECTORS
It is the Board of directors who determines how much the executive should be paid, it normally
would act in favor of the corporation and not in favor of CEOs that is why a diversified board
structure of independent directors is very important to find the efficient wages. There is also a
strong correlation with the connection between CEOs and their directors and the compensation
they have, so, it is important that the board is composed of foreign counterpart. Nevertheless
outside directors are less concerned by the health of the company, so giving them few stocks can
change their vision and make them more imply.

5.2 EXECUTIVE INSTITUTIONAL OWNERSHIP

An efficient way to align the interest of the CEOs and the shareholder is to giving them an
ownership of the society (share, share option or LTIP share) that increase both CEO performance
and compensation. Nevertheless this sort of compensation is much more used in U.S. firms than in
UK or other European firms, and that could be explained by the fact that U.S. firms CEOs’ are
better payed so it is easy to include an ownership of the company in their wage and let them
enough cash to use.

6) STOCK-OPTIONS
In reality, the difference in stock-options exercise between CEOs of U.S firms and CEOs of non
U.S firms, vastly accounts for the discrepancy we observe in the compensation of these latters. For
instance, study shows that in 1997 U.S CEOs made £2 billion exercising their options while UK
ones made £74 million. This phenomenon is explained by several factors. First of all, U.S CEOs
tend to own more stocks of their company than UK ones, and the part of stock option in U.S CEOs’
compensation has kept increasing along the years. The same trend can be observed in Europe, as
German CEOs have been benefiting more and more from stock-options as part of their
compensation.

However, this is not the case everywhere in Europe, as the opposite trend has been displayed in
the UK. Indeed since 1995, stock-options is a divisive subject in the UK due to the disclosure of
millions pounds options exercised by a CEO, resulting in a public outcry. This led to the
replacement of stock- options by LTIP performance share plan, and thus to the decrease of the
stock-options part in their compensation.

Conversely, stock-options are well perceived in the U.S, and they are used as an incentive for
CEOs to maximize firm value since they will have an impact on their compensation. This,
consequently leads U.S CEOs to have similar interests as those of the shareholders’. Yet, stock-
options don’t come without a risk, that’s why U.S CEOs also request a premium to offset this risk.
Down the road this premium happens to amount to an increase in their compensation, which then
brings about a disparity between their compensation and the one of their European counterpart.

7) COMPANY SIZE
7.1 SALES REVENUE & PROFIT
The growth, size of a firm and the scale of its operations were found to mostly correlate with the
CEO compensation. In US company, executive compensation increase with an increase in the
firm’s size.

In Germany, firm’s size, sales and ROE positively impact the compensation of CEOs. And CEO
pays can also base on short-run accounting profits, which can give executive incentive to increase
short-run profits. Besides, in the UK, profitability has a positive effect on compensation, because it
can link CEO compensation to corporate and individual performance, to make CEO increase firm
profitability.

7.2 NUMBER OF EMPLOYEES IN A FIRM

The growth of a company and its number of employees can influence an executive’s
compensation, because more employees make the executive’s responsibility increase, and hence
increasing compensation. Besides, compared to UK firms, average US firms have larger size,
more complicated management and more intense competition in hiring managers, therefore, their
executives should be greatly compensated.

In addition, CEOs of U.S firms have more incentive to increase shareholder wealth compared to
Japanese’s executive, because close monitoring of Japanese’s executive by banks and
shareholders cause disincentive to maximize shareholder wealth.

8) BONUSPLANS
Bonuses are awarded to executive based on specific performance, it can motivate CEOs into the
work and CEOs can receive compensation if they achieve some goals. Bonus payments in
Germany are directly related to firm’s stock market and financial performance, and executive
receive bonuses only after achieving account-based objectives. Bonuses account for large portion
of total compensation in the Germany, almost 80% of executives of German firm’s use short-run
performance to determine bonuses. Moreover, UK and US executives have around the same
percentages of total CEO compensation which are 18% and 17%.

On the other hand, bonus plans still do not ensure a CEOs focus on increasing firm value, because
after CEO reaches their target bonus, bonus plans cannot motivate them to improve their
performance or increase the firm value. Therefore, it’s better to use benchmarks which based on
“fixed number or schedules, industry performance, or the cost of capital “to measure CEO financial
performance.

9) CONCLUSION
The size of U.S. companies being higher on average, and CEO compensations in the U.S. being
more rewarding than their foreign counterparts, are two causes of the pay gap that we can still
observe. The strong structural difference in the pay packages relies on the stock options: very
present in U.S CEO compensations, they allow executives to have lower firm performance-oriented
objectives. Although the pay gap is still a fact, it has greatly decreased, especially through the
Internationalisation & Americanisation of foreign firms, but also because of the evident structural
convergence of CEO compensations all over the world, foreign companies tend to adopt U.S. pay
practices too. Finally, the U.S. risk-related premium, being a substantial reason of the pay gap, has
now shrunk to a negligible level. All those factors tell us that the pay gap will be dropping even
further in the next future.