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How Much is Too Much?

A Theoretical Analysis ofExecutive Compensation from theStandpoint of Distributive Justice

Jared HarrisFebruary 19, 2005

Markkula Conference, Santa Clara University

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How Much is Too Much?

Are CEOs overpaid? Underpaid? 1990 ratio of CEO to a typical worker, 100:1 2000 ratio 350:1 to 570:1 Kettering Foundation Survey

… May be commonly held that high CEO pay is objectionable based on greed.

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How Much is Too Much?

“The salary of the chief executive of a large corporation is not a market award for achievement. It is frequently in the nature of a warm personal gesture by the individual to himself.”

- John Kenneth Galbraith

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Distributive Justice Theory

1. John Rawls: Justice as Fairness

2. Amartya Sen

Martha Nussbaum: Capabilities and Freedom

3. Robert Nozick: Libertarian Framework

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Distributive Justice and CEO Pay

Theoretical convergence around processClosely related processes of: Executive employment/selection Executive compensation setting

Value Proposition Matching “worth” with appropriate pay

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Rawls and CEO Pay

Key part of Rawls’ second principle of justice:

“open position” (fair equality of opportunity) Opportunities must be open Exec pay-setting processes: justly determined? If not, likely an indication that selection

processes are also unjust or “gamed”

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Rawls and CEO Pay

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Capabilities Theory and CEO Pay

Key capability: “the right to seek employment on an equal basis with others”

Opportunities must be open Again, if an unjust process in setting executive

pay indicates exclusivity in the selection process . . .

Then high pay is difficult or impossible to justify

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Libertarian View of CEO Pay

Two key assumptions for Nozick’s theory:

“justice in acquisition” and

“justice in transfer” Assumptions must be met if distributions of

wealth or property are to be justified Otherwise, transfer not defensible

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Value Proposition of CEO

CEOs should be paid according to their value proposition for the firm and its stakeholders

Difficult to explicitly determine

Market solves?

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Distributive Justice and CEO Pay

To what extend does this theoretical analysis tell us anything useful?

Evidence reinforces validity of theoretical concern

Influence our research agenda

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Fairness and CEO Pay

What raises CEO pay?

CEO celebrity/notoriety (Hayward, Rindova, & Pollock, 2004; Porac, Wade, & Pollock, 1999)

‘Bandwagoning’ popular management techniques (Staw & Epstein, 2000)

Luck (Bertrand & Mullainathan 2001) Friends on compensation committee (Young & Buchholtz

2002; Conyon & Peck, 1998) Non “rubber-stampers” sanctioned (Westphal & Khanna

2003)