Risk Management Reports

October, 1999
Volume 26, No. 10
Mind the Gap!

It's the constant reminder on the London Underground, whenever a train pulls into a station with a curved platform. It should also be a constant reminder to risk managers of the growing disparity between CEO remuneration and the lowest corporation salaries. Over two years ago (RMR May 1997), I raised the issue of exorbitant executive income as a potential source of risk to corporate reputation. If anything, the situation has become worse. Years ago J. P. Morgan reportedly suggested that the relationship between the top and the bottom remuneration should not exceed a factor of twenty. Today CEO income is 419 times the average production worker's salary.

The growing gap between the lowest and highest salaries has become, in the words of Graef Crystal, a regular commentator on the problem, "obscene." He and others are doubtful that high levels of income, involving salaries, stock options, bonuses, and "golden handshake" departure packages, actually provide any better leadership. Compliant and complacent boards, often with interlocking directorships, are loathe to reduce remuneration when they might face the same situation in their own companies. The practice actually may do serious harm, since it leads some CEOs to focus on short-term stock prices, to the exclusion of long-term value building. Of course, the surging stockmarket contributes to this euphoria of riches to the few. But is it also beginning to produce resentment among employees,

customers and suppliers? Are international partners chafing at the levels found in the U.S.? Are these levels of income really necessary, or are we positioning ourselves for a walk off the cliff?

In 1996, The Travelers rewarded its Chairman with $90 million. Wasn't that enough to satisfy him for life as well as to assure his continued devotion to duty? Not so. In 1998 his gain, on exercising options, was $220.2 million, following the Citigroup merger. Isn't anyone going to complain?

I suspect that these highly-publicized pay packages reinforce the "brass-ring" mentality that pervades our society: grab all you can, whenever you can! It may explain why Las Vegas is the fastest growing city in the U.S. and why gambling is a major growth industry. In sports, players now follow the cash, dispensing with any semblance of team loyalty, each city's team becoming a group of annual mercenaries who disappear the next season. But history shows us that when "have" and "have-not" disparities become outrageous, inevitable reactions follow. Corporate reputations are beginning to suffer.

Who will bell the cat? Who dares tell the CEO, other senior executives with fat income packages, and compliant Boards that they are out of line? Presumably a "risk manager" should outline the benefits and penalties, but how many have actually taken this "risk?"

Mind the gap!

The spread of share options may be distorting the economy, contributing to a temporary over-valuation of equities, encouraging short-sighted managerial decisions and storing up problems for companies in the future.

"The trouble with stock options," The Economist, August 7, 1999

Copyright H. Felix Kloman and Seawrack Press, Inc.

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