Remuneration Committees, Pay Consultants and the Determination of Executive Directors' Pay
| Author | Robert Watson,Stuart Ogden |
| Date | 01 December 2012 |
| DOI | http://doi.org/10.1111/j.1467-8551.2011.00779.x |
| Published date | 01 December 2012 |
Remuneration Committees, Pay
Consultants and the Determination of
Executive Directors’ Pay
Stuart Ogden and Robert Watson1
Sheffield University Management School, University of Sheffield, 9 Mappin Street, Sheffield S1 4DT, UK,
and 1Instituto de Empresa Business School, Pinar 15-1B, 28006 Madrid, Spain
Corresponding author email: s.ogden@sheffield.ac.uk
This paper explores how Board Remuneration Committee (Remco) decisions about
executive pay are influenced by pay consultants. Drawing on resource dependency theory
and case study evidence from five companies, the paper illuminates the complexities of
the pressures and processes confronting both Remcos and pay consultants in the deter-
mination of executive pay awards. In contrast to ‘managerial power’ arguments, it
demonstrates that the Remcos are proactive in managing pay policy, conscientious in
seeking to ensure that pay is appropriate and not over-generous, and that pay consultants
are independent and take their instructions entirely from the Remco. Nevertheless,
Remcos’ understandings of the wider pay environment, informed by the comparative data
supplied by pay consultants, constructs a climate in which the Remcos come to perceive
a need for periodic upward pay adjustments to ensure that executive remuneration is
consistent with external benchmarks if they are to avoid recruitment and retention
problems.
Introduction
This paper draws on case study evidence to explore
the ways in which decisions of Board Remunera-
tion Committees (Remcos) regarding executive
directors’ pay are influenced by professional pay
consultants. As Remcos typically lack the time and
expertise to grapple with the growing complexities
of executive remuneration, virtually all large pub-
licly listed companies now hire pay consultants to
assist them by providing comparative managerial
labour market pay analyses and advice on the
design of executive remuneration packages.
For example, in the UK, Conyon, Peck and
Sadler (2009) found that, in 2003, 91% of firms
from a sample of 231 from the 250 largest
firms used at least one pay consultant. Similar
findings have been reported for the US (Arm-
strong, Ittner and Larcker, 2008; Cadman, Carter
and Hillegeist, 2008; Conyon, Peck and Sadler,
2009; Murphy and Sandino, 2008).
Although there has been little systematic study
of how pay consultants may influence Remco
decisions, their extensive presence has been asso-
ciated with the continuing extraordinary rises in
executive pay and has prompted concerns that
pay consultants may be centrally implicated in
facilitating CEOs’ attempts to achieve overly gen-
erous pay settlements. More particularly, some
researchers, informed by ‘managerial power’
arguments about the ability of executives to domi-
nate their boards and control the pay setting
process, have identified pay consultants as willing
accomplices in camouflaging and/or legitimating
executives’ rent extraction behaviour by, for
example, designing incentive schemes which have
low performance hurdles so that targets can easily
be achieved or by judiciously choosing groups
of peer firms that offer more generous pay to
their executives (Bebchuk and Fried, 2003, 2004;
Crystal, 1992; Faulkender and Yang, 2007; Porac,
Wade and Pollock, 1999; Waxman, 2007). Pay
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British Journal of Management, Vol. 23, 502–517 (2012)
DOI: 10.1111/j.1467-8551.2011.00779.x
© 2011 The Author(s)
British Journal of Management © 2011 British Academy of Management. Published by Blackwell Publishing Ltd,
9600 Garsington Road, Oxford OX4 2DQ, UK and 350 Main Street, Malden, MA, 02148, USA.
consultants, especially if hired directly by the
CEO, are deemed to be self-interestedly complicit
in these processes in order to secure repeat busi-
ness and/or sell other advisory services (Bebchuk
and Fried, 2004; Crystal, 1992). However, a
number of recent large sample empirical studies
that have investigated the relationships between
CEO pay outcomes and differences in the char-
acteristics and contractual relationships with
outside pay consultants have been unable to
provide any empirical verification of these ‘mana-
gerial power’ hypotheses (Armstrong, Ittner and
Larcker, 2008; Cadman, Carter and Hillegeist,
2008; Conyon, Peck and Sadler, 2009; Murphy
and Sandino, 2008).
Furthermore, there are strong a priori grounds
for doubting the plausibility of the behavioural
assumptions embodied in the ‘managerial power’
model. In contrast to the ineffective, subservient
Remcos assumed by the ‘managerial power’
researchers, there is considerable evidence to
indicate that Remcos are sensitive to the expec-
tations of shareholders about remuneration deci-
sions, mindful of the scrutiny such decisions
receive from institutional shareholder groups,
conscious of their responsibilities to monitor
managerial performance, and concerned to main-
tain their reputations as effective decision-makers
and board members (Daily et al., 1998; Perkins
and Hendry, 2005; Stiles, 2001). It seems
unlikely, therefore, that Remcos will passively
stand by while pay consultants collude with
CEOs to politicize the pay determination process
to their mutual advantage. Equally unlikely is the
notion that Remcos are routinely confronted by
CEOs with a frequent propensity for opportun-
istic, self-serving behaviour that requires antago-
nistic monitoring as envisaged by the ‘managerial
power’ model. Despite the presumption of wide-
spread principal–agent conflicts of interest,
executives, in practice, typically have compelling
reasons (such as future employment prospects,
reputation and professional pride) to pursue
success for the companies they manage, and are
willing to collaborate constructively with non-
executive directors to achieve it (Daily, Dalton
and Cannella, 2003; Roberts, McNulty and
Stiles, 2005; Sundaramurthy and Lewis, 2003;
Westphal, 1999).
Pay consultants may also have motives which
are distinct from those ascribed to them by the
‘managerial power’ model. They have long-term
commercial incentives to maintain their reputa-
tions as independent experts and providers of
impartial professional advice. Consequently, they
may be loath to squander their business reputa-
tion in return for short-term benefits obtainable
from privileging executives’ interests (Conyon,
Peck and Sadler, 2009; Murphy and Sandino,
2008).
These considerations suggest that the existing
formulations of the ‘managerial power’ argument
may have significant limitations in their concep-
tualization of the pay determination process,
raising the question of alternative perspectives.
We adopt a resource dependency approach in
order to direct attention to the primacy of the
Remco’s role in determining executive remunera-
tion, the way in which they use pay consultants
and, more crucially, the context in which they do
so. The paper provides insights into how manage-
rial power may influence Remco decision-making
but in ways which are quite distinct from those
envisaged by the ‘managerial power’ model.
Resource dependency theory focuses on the envi-
ronments in which organizations operate and how
they may affect and constrain organizations in
their attempts to secure the resources necessary to
their survival (Pfeffer and Salancik, 2003). In pur-
suing these resources, organizations may become
embedded in networks of interdependencies and
social relationships which may exercise consider-
able influence over their decisions and actions.
From this perspective, the central task confront-
ing Remcos is to attract and retain executive
directors of the appropriate quality, experience
and skill necessary to achieve business success for
the organization. Remcos will be in competition
with other organizations for these resources and
will therefore need to take account of what other
organizations pay their executive directors
(Barkema and Gomez-Mejia, 1998; Fama, 1980).
Moreover, given injunctions from governance
reports (e.g. Greenbury, 1995) and codes of prac-
tice to base pay awards on ‘what comparable
companies are paying’ (Combined Code, 1998,
B1.2) reference to pay comparisons has increas-
ingly become a source of legitimacy for explaining
and justifying executive remuneration policies to
shareholders. Pay comparisons and, as a conse-
quence, the advice provided by pay consultants,
have therefore become central to Remcos’ deter-
mination of executive pay awards. However,
resource dependency theory also suggests (Pfeffer
Executive Directors’ Pay 503
© 2011 The Author(s)
British Journal of Management © 2011 British Academy of Management.
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