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C. Gopinath

WHEN high fliers receive dizzying sums as compensation, what is the principle at work?

On the one hand, there is a principle of inherent worth of a job. If the work requires long training, high skill, and critical judgement, it should certainly be compensated many times more than a simple, low skilled routine job. Thus, a neurologist is welcome to her high salary compared to the street cleaner. There is also a principle of demand and supply at work here. If the demand for competent and experienced neurologists were much greater than the supply, neurologists would continue to command high levels of compensation.

But when we enter the realm of celebrities, the picture gets murky. If the demand from viewers for a good looking male who can flail his arms and legs to the accompaniment of music is greater than the supply of one, then truly there is no debate. But if there is an endless supply of such good looking males who can behave in the requisite manner, but they are unable to get a chance to display their talents and thus get the desired compensation, then we have an imperfect market. There are barriers to entry (not everybody gets a chance to act), the method of judging quality may be imperfect, or power structures may intervene to prevent efficiency and equilibrium conditions from prevailing. Increasingly, CEOs seem to be falling into this category. The public cannot seem to understand what they do to deserve their soaring pay scales, and often, corporate boards do not seem to be able to judge the calibre of the CEOs they hire. A new principle of serendipity is at work — they are there and they are getting paid, and nobody knows why.

The US corporate sector has been receiving a lot of flak for many years now about the excessive compensation paid to senior executives. Apparently, it is beginning to have some effect. Business Week, the US business magazine, reports that in 2001, thanks to a slowing economy, the average CEO's pay fell 16 per cent to $11 million (Rs 53 crore). If you add cash compensation, bonus, and change in the value of stock options, the average fall is 43 per cent. Of course, a significant reason for this decline was the falling stock prices due to a slowing economy.

There are always a few who buck the trend. Mr Lawrence Ellison, CEO, Oracle Corp, is a notable exception. By exercising long-held stock options, he made $705 million (Rs 3,384 crore), even though his company's stock price had fallen by 57 per cent during the year.

ABB and the European scene

The interesting case of Mr Percy Barnevik gives us a peek into what is happening in Europe. European executives, compared to their US counterparts, are not compensated at the same dizzying levels and that is a sore point for many. When Europe's Daimler Benz acquired Chrysler in the US and the executives sat down to integrate the two companies, the thorniest issues related to executive compensation.

Mr Barnevik was till recently the Chairman of ABB, a Swiss-Swedish transnational engineering powerhouse formed in 1988 by the merger of Asea and Brown Boveri. He was seen as a visionary leader whose pronouncements were worth hanging on to, much like Mr Jack Welch of GE in the US. When Mr Barnevik retired, he negotiated a severance package that amounted to $87 million (Rs 418 crore). Well deserved, you may say, for a person who during the 17 years he ran the company increased its market capitalisation by 54 times.

But ABB has fallen on hard times since he left. His hand-picked successor, Mr Goran Lindahl, did not have the same good fortune and in 2001, the company actually lost $691 million (Rs 3,317 crore). The company is negotiating with its bankers for help in easing the financial pressure. And on top of it all, it is now facing a situation where its reputation for good governance is being called into question. Actually, so many questions are beginning to be raised about the strategy that was followed that sceptics are wondering if it was the brilliance of Mr Barnevik's management principles or the general tide of good times that raised ABB along with many other boats around.

The ABB board and the general public got pretty upset about the amount of Mr Barnevik's severance. What is the problem, he countered. Executives in the US routinely get such payments. And he is right.

The CEO of collapsed Enron, Mr Kenneth Lay, for instance, is reported to be in line to receive an amount that may range from $25 to $50 million (Rs 120 to 240 crore) as part of his severance pay. The CEO of KMart, a failing retailer, received $9 million (Rs 43 million) just to quit. Ms Jill Barad, an insider who became the CEO of Mattel, was paid $50 million (Rs 240 crore) to stop showing up at the office when her leadership was found to be leading the firm to disaster. You may rightly wonder what good CEOs get paid if the bad ones can command these rates. Well, the US standards are not the kind the rest of the corporate world would like to emulate. Anyway, by European standards, Mr Barnevik was overpaid and the company wanted its money back!

The manner is which Mr Barnevik's compensation was settled has unsettled many, much more than the amount involved. During his reign at ABB, Mr Barnevik set high standards for corporate behaviour and boardroom practice. He felt boards were too clubby and argued for more transparency in corporate decision-making. And he was right. But it now transpires that his severance was negotiated by only three directors and there was no full board approval of this deal. Moreover, even while he was in office, the board seems to have been so much in awe of him that it rarely questioned major decisions. For instance, one decision now being regretted is the acquisition by ABB for $1.6 billion (Rs 7, 680 crore) of the US firm Combustion Engineering, a maker of electricity generating equipment. In its haste to strike the deal, ABB failed to recognise the vast extent of asbestos liability hidden in Combustion Engineering. Claims are expected to cost the company $2 billion (Rs 9, 600 crore) on this account.

The board came out of its slumber when the performance of the company started sliding, and one director, Mr Martin Ebner, started doggedly pursuing more information. He was first shrugged off, but finally managed to get at the truth of the Barnevik deal. Now, both Mr Barnevik and his successor Mr Lindahl have come to a settlement to hand back 60 per cent of the payment they received as farewell compensation. The company feels that this revised figure is more in keeping with European norms. ABB is working to revise many of its governance practices.

(The author is a professor of international business and strategic management at Suffolk University, Boston, US. His Internet address is cgopinat@suffolk.edu)

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