Analysis: CEOs who feel underpaid are more likely to lay off workers
By almost any measure, CEOs make a lot of money: Compensation for the median chief executive in the S&P 500 was valued at $11.7 million in 2017, according to one analysis, an 8.5 percent increase from the year before.
And yet some feel underpaid compared to their peers. And those who make less than other CEOs in their industry appear more likely to take an action that cuts costs in hopes of improving their firms' performance, according to a new study - an outcome that could raise their own pay.
"Prior research has found that employees can have strong reactions when they find out the pay of their peers is more," said Scott Bentley, an assistant professor at Binghamton University who worked on the study with co-author Rebecca Kehoe, an associate professor at Rutgers University.
"While it may be inconceivable to suggest CEOs making large pay packages feel underpaid, that might be the case," he said. "We wanted to look at the phenomenon among CEOs."
Bentley and Kehoe are careful to say that their study does not show that relatively lower pay necessarily causes a CEO to order layoffs, or even that CEOs necessarily "feel" underpaid. Rather, their study, which will appear in an upcoming issue of Personnel Psychology, shows that there is a significant correlation between companies with a CEO who is paid less than his or her peers in the industry and companies where layoffs occur.
But it does seem to be more than just a coincidence. One might wonder whether the relatively lower paid CEOs were simply all running troubled companies that were in need of cutting jobs. But when the researchers controlled for other factors, including the company's size or performance, they still saw a similar pattern of lower relative pay for the CEO predicting a greater likelihood of layoffs. They also left out companies with an obvious business reason for layoffs, such as a divestiture or natural disaster, from their study.
Moreover, the more a CEO was underpaid, the more likely it was that they engaged in layoffs.
"The effects are way too strong to suggest it's coincidence," Kehoe said. "CEOs who are paid 34 percent less than their peers are four times more likely to engage in a layoff," while CEOs who are paid closer to their peers were less likely to cut jobs.
The researchers decided to study layoffs because unlike other strategic moves - a merger, say, or a spinoff - it is an action that CEOs can decide on their own without board or regulatory approval. And while CEOs can cut costs in other ways, potentially leading to better performance that can increase their pay, layoffs are more likely to get more attention in the news, allowing the researchers to track it more closely.
Governance experts have long questioned whether increased disclosure about the details of CEO pay has unintentionally raised CEO pay - the idea being that once more details about cushy perks and generous stock awards were published in company filings, CEOs would want to keep up with what their peers were getting. Others have studied how boards' practice of comparing CEO pay to "peer" CEOs can inflate pay by choosing a group - larger firms, say, or those that pay better - which biases compensation higher.
Bentley and Kehoe said their study does not address what's driving increases in CEO compensation levels more broadly. But it did have some encouraging news: While the average CEO eliminated 1,200 jobs and received $600,000 in additional compensation the next year, an "underpaid" CEO who chooses to engage in layoffs did not necessarily get a raise just for cutting head count. When a company's performance decreased after the layoffs, the CEO only saw an increase in pay 8 percent of the time. The others saw their pay stay the same or go down.
While their first finding might be interpreted by some from a "cynical perspective," Kehoe said - that to make more money, CEOs are willing to make a move that could have lasting negative effects on the laid off employees and the firm's reputation - there's also something "reassuring" about seeing that it doesn't necessarily pay off.
The researchers say it's a reminder for boards to make sure compensation programs reward the right things.
"We can't control the motivations CEOs have to engage in certain actions, but what we can control is the extent to which they receive changes in their pay following those actions," Bentley said.
The study's "silver lining," he said, is that "boards are keeping this in mind, to the extent [CEOs] receive increases in pay."