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December 5, 2007 ET
Some of the largest companies in the U.S. use outside compensation consultants with “significant conflicts of interest” to determine CEO pay, according to a report released today by California Rep. Henry Waxman, the Democratic chairman of the House Committee on Oversight and Government Reform.
Mr. Waxman said the report—based on a seven-month investigation by his staff of the 250 largest publicly traded companies—found that 113 of the Fortune 250 companies last year received executive pay advice from consultants that were also providing much more lucrative services to the company, such as employee benefits administration, human resource management and actuarial services. On average, these consultants receive $200,000 to advise the company about executive compensation—and more than $2.3 million to provide other services, the report found.
“In effect, the consultants are being asked to evaluate the worth of the executives who hire them and pay them millions of dollars,” Mr. Waxman said at a committee hearing on the issue this morning in Washington, D.C. “Like the auditors who signed off on Enron’s books, they have an inherent conflict of interest. For every dollar the consultants are paid to advise on CEO pay, they are being paid $11 to perform other services for the company.”
Shareholder groups and governance watchdogs have targeted compensation consultants in recent years for what they believe to be their contribution to the dramatic increase in executive compensation, often without a coincident rise in shareholder value. In 1980, chief executives in the U.S. were paid 40 times the average worker, while in 2006 the average Fortune 250 CEO earned more than 600 times the average worker, according to a report by the Institute for Policy Studies and United for a Fair Economy.
Mr. Waxman’s committee investigation also stated that there appears to be a correlation between the level of a consultant’s conflict of interest and the level of CEO compensation. For example, the median CEO salary of the Fortune 250 companies that hired the consultants with what congressional researchers deemed the most conflicts of interest was 67% higher than the median salary of companies that did not use “conflicted consultants.”
The report also said that more than two-thirds of the Fortune 250 companies don’t disclose to investors their compensation consultants’ conflicts of interest. (Under recent changes in disclosure rules by the Securities and Exchange Commission, companies are only required to name their outside pay consultants.) In 30 cases, the report claimed, companies said their compensation consultants were “independent” when they were actually being paid for other services.
Not all members of Mr. Waxman’s committee agreed with the findings, or that there was any need for today’s hearing in the first place. Rep. Lynn Westmoreland (R-Ga.), complained this was another step “on our march to socialism,” while Rep. Mark Souder (R-Ind.) said the hearing was “one of the most appalling and embarrassing hearings we’ve ever had.”
Charles Elson, director of the University of Delaware’s John Weinberg Center for Corporate Governance, testified that investors should at least be made aware of any other work such consultants provide beyond executive compensation help. “There must be disclosure of any other services the consultant provides to the organization, as well as the amount of fees paid to that consultant,” he said, “similar to the required disclosure regarding the company’s outside auditors.”
Other experts questioned the need for such added disclosure. Said Houman Shadab, senior research fellow at the regulatory studies program at George Mason University’s Mercatus Center: “Since there is not adequate research showing that hiring compensation consultants for non-consulting services affects shareholder value one way or another, there is little justification at the moment for requiring companies to disclose such information.”
Michael Powers, the global practice leader for executive compensation and corporate governance consulting at Hewitt Associates, argued that ultimately all executive pay decisions are left to a company’s board of directors, and that they usually seek advice from several sources, including senior management, inside counsel, executive recruiters and outside lawyers. “They [compensation committees] are not required to follow our suggestions or recommendations, or those of other advisers,” Mr. Powers said.
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