Wednesday, 20 July 2016

The slow-moving car crash

Executive pay is like a slow-moving version of MPs’ expenses car crash, but without the degree of self-awareness shown by politicians (who do face a meaningful threat of removal from office). Each year the same headlines, each year the same justifications, each year a bit more legitimacy lost. This may continue for years to come, in the way that a car with flat tyres can keep driving on its rims. But you have to choose to not listen to not to hear the screeching. And it really takes a highly-educated mind to conclude that politicians are somehow turning executive pay into a political issue, rather than reacting to problem that won’t go away.

As the newly-installed leader of a Conservative majority government, Theresa May’s intervention on executive pay shows that a third flavour of political administration (previously Labour, then the Tory-Lib Dem coalition) is going to have a crack at the problem. Politicians are not uniquely attracted to executive pay as an issue, they are responding to the prevailing view that the business elite is out of touch, with executives enriching themselves and paying little attention to the needs of others in society.    

Despite this, some people apparently think the obvious response is to indulge in another round of what we have tried before. Leave it to the shareholders, they say, it’s their money, and they have an incentive to act if need be. I won’t beat about the bush: I think this stance is both idiotic and emblematic of a deeper problem in corporate governance and responsible investment.

Let’s look at how we got here. We have left it to the shareholders. And lots of otherwise clever people in the business of managing capital have long contended that we are wrong to get annoyed by executive pay, and that it’s a small cost in exchange for the large benefit of executive talent. They have offered instead the technical fix of performance-related pay. “What matters is structure, not scale,” they have told us each time anger has threatened to boil over.

We have been through several rounds of technical fixes, each of which has decided that the political problem of high executive pay is best solved by giving asset managers more information, and more power to shape it as they see fit. The result has been repeated attempts to redesign performance-related pay, with no real downwards pressure on scale.

Provided with the tools to challenge companies in the shape of increased shareholder voting powers, asset managers have used them to give the large majority of executives and their pay packages overwhelming support. Judged by this metric, the only one that really counts, the picture is clear: the public thinks there is a big problem with executive pay, asset managers largely don’t. There is an enormous gap between beneficiaries and those that manage their capital.

Even the small steps that some shareholders have taken to address executive pay seem utterly feeble to most people. One personal experience illustrates the problem. I did a radio interview during the so-called shareholder spring of 2012 where I explained we were advising shareholders oppose a particular executive pay policy, on the basis that it was excessive. An old mate of mine heard the interview and texted me to say “people actually pay you to tell them that?” Fair point.

Yet to articulate what ordinary members of the public think about executive pay is to invite criticism that this isn’t the “smart” response, and that the issue is becoming “political” (as if the distribution of rewards hasn’t always been a fundamentally political issue). Rather than directly address the repeatedly expressed view that executives are simply paid too much, most investors and their advisers seem far more comfortable re-interpreting this anger as a need for more “performance linkage”.

For example, one of the recent “big ideas” in responsible investment is to tie executive pay to ESG metrics. Aside from the questionable effectiveness of this approach, given evidence that monetary rewards can crowd out other motivations, to a less “informed” person it could look a bit like executives needing to be paid more to behave well. Similarly we are regularly told that if we want asset managers to devote more attention to ESG issues we have to pay for it. To which I might reply: “People actually have to pay you to use their own money in their interests?”

The blind adherence to the 1990s vintage Anglo-American corporate governance model is striking. When Theresa May puts forward a vague commitment to employee representation on company boards - something in place across numerous European countries - the immediate response of one asset manager was to write to the FT to say shareholders will resent it. At any stage are the views of beneficiaries, some of whom presumably could end up as employee representatives on boards, ever considered? I doubt the idea that beneficiaries might have views, which might even have validity, is given a second thought.

A regularly heard refrain is the need to “keep politics out of it”, whether it’s executive pay, investment decision-making, engagement priorities or pension fund governance. The clear preference is for technocrats to determine what gets done, and how. Keep out the views of the ordinary punter, and the politicians, the professional intermediaries know best. Rarely is there recognition that everyone (even professional intermediaries) has biases and conflicts, shaped by their own position in society, by their class, their culture and wealth. What may look value-free and apolitical to intermediaries looks laden with assumptions from the outside. Yet it's the views of the intermediaries that carry the day. Incredibly, often they won't even tell you what they are saying to companies (or employers, as most beneficiaries experience them) on your behalf.

The result is that our investing institutions have drifted dangerously far from their beneficiaries, and that many within the system are compounding the problem by assuming public concerns are ill informed and unjustified. Somewhere along the line, the power that comes from the capital that working people have generated over decades has been usurped and used as others see fit.

We have a situation now where well-paid intermediaries, whose only power comes from other people’s money, jet around the world to deliver sermons to an echo chamber of their peers who reinforce their own values. Largely disconnected from those they notionally serve, intermediaries impose their values, their beliefs and their priorities using someone else’s capital. It is the liberalism of the wealthy, and socially and geographically mobile. Look in the mirror: it is the politics of the elite.

Responsible investment does not escape this. ESG events are dominated by sustainability, typically showcasing the numerous investor initiatives addressing climate change. Yet you would struggle to find a single topic at most of them that a beneficiary would consider to be really focused on their interests, either as a saver or in their working life. If you are a lower or middle income worker in a developed country, you are most likely to feature in asset management analysis as a cost, particularly if you have a defined benefit pension. You don't really matter as far as most shareholder engagement is concerned, even though it's your money they are using.

There is an old slogan: if you’re not part of the solution you are part of the problem. So let’s spell it out: if you are voting in favour of companies where executive reward is rising more than that for the workforce as a whole, you are part of the problem. If you fail to support (or even oppose) efforts to improve the pay and conditions of the working people whose money you manage, you are part of the problem. If you oppose attempts to find other ways to tackle the pay gap through other governance models, you are part of the problem. If you want to limit or remove beneficiary involvement in the management and utilisation of their own capital, you are part of the problem.

I have little doubt that the current model, reinforced by unreflective behaviour by investing institutions, can trundle along on its rims for a while yet. Similarly I expect calls for a change in direction to be met in part by claims of special pleading by vested interests. But so what? If you stand back and look at the mess that is executive pay, and cannot see both the legitimacy of public anger and the utter failure of shareholders to make meaningful change, then perhaps further dialogue is pointless.

All I would say is look at current events. You can repeatedly tell people they are stupid, ill informed and harming their own interests to choose a certain path. You can show them the evidence that big corporates and 'serious' figures from industry share your view. You can tell them how lucky they are with the status quo, and that they risk chucking it all away. But if they think you are in it for yourself, that you think they’re thick, that you never listen to them when they try and raise their voice, but most of all that if what you are telling them doesn’t match their own experience, then one day they will kick you in the bollocks.    

1 comment:

donnie said...

Enjoyed this.

I think your last paragraph applies really well to Brexit. I fear, though, that when it comes to corporate pay, the CEOs balls are systemically protected by our political system.