Is Aligning Executive Pay with Stock Performance A Good Thing?

According to a recent article in the Wall Street Journal, “CEO pay during 2011 was more firmly correlated to how well companies fared in the stock market, a change from 2010, when pay and performance were not directly related.”

The New York Stock Exchange, the world’s largest stock exchange by market capitalization (Photo credit: wikipedia.com)

 
Indeed, the 2010 Dodd-Frank financial-reform law, which gave shareholders an advisory vote on executive-pay plans, caused many companies to alter how, and how much, they pay CEOs.  One would think this is good news to investors, who have long clamored for the interests of senior management to be aligned with shareholders.
 
However, Lynn A. Stout, a Cornell Law School professor and author of “The Shareholder Value Myth,” believes this has inadvertently empowered hedge funds that push for short term solutions. She notes that the average holding period of stock was eight years in 1960; today, it is four months.  Ms. Stout argues that the directive to “Maximize Shareholder Value” has led to an epidemic of accounting fraud, short term thinking by management and myopic trading strategies by investors.
 
Because of the pressure exerted by hedge funds to push stock prices higher, which often comes at the expense of the organization’s long term value, Ms. Stout advocates limiting the role of investors so that executives and boards of directors are freed up to think about customers and employees, allowing them to invest in the company’s future and act socially responsible.
 
Ms. Stout and corporate governance advocates appear to have diametrically opposed beliefs on how corporations are best managed.  Perhaps a blending of the two views is appropriate: empower shareholders to safeguard their investments by actively preventing manager conflicts of interest and self-dealing, and lock investors into their investments so they do not push for short-term strategies.

— PondelWilkinson, investor@pondel.com