Paid expenses are often referred to as fringe benefits or perquisites. The IRS defines legal fringe benefits that are tax deductible. This may include items such as the following: a. Athletic Skyboxes/Suites b. Executive Dining Room c. No Cost Loans d. Transportation Services and Chauffeurs e. Relocation Expenses 5 Paid expenses are beneficial to both the employee and the employer. It provides creative compensation for employees and allows employers to deduct the compensations as business expenses. 2. 5 Insurance (Golden Parachute) Insurances have in recent years taken on the term ‘Golden Parachute’.
This refers to lucrative benefits provided to top executives of a company in the event of losing employment. 6 The original reasoning for this was in the event of a company being taken over by another firm, top executives would be compensated in the event of a loss in employment. In recent years, these benefits have been awarded to executives even when the company was not taken over. These can be in many forms of payment such as stock options, bonuses or severance packages. 3. 0 kang’ombe vs attorney general and Rent Extraction Views How CEOs are compensated has been categorized into two popular views.
The first being the optimal contracting view and the second being the rent extraction view. Under Optimal Contracting, boards of directors will act on behalf of shareholders and their interests to structure compensation plans for CEOs to minimize tax burdens, firm costs and meet the reservation wage of a the CEO. 6 The rent extraction view takes into account the value of economic rent CEOs are able to extract from a board of directors. Economic rent for labor is due to some exclusivity of a laborer generally caused by skill or celebrity.
Under the rent extraction view, CEOs are thought to influence compensation structure for personal gain at the expense of the shareholder. 7 This view implies that inefficient or iniquitous boards allow suboptimum payouts to CEOs at the expense of shareholders, thus creating economic rents. 4. 0 CEO Compensation Increase Exponentially One question posed by the case study is, “Are CEOs and key corporate executives worth the large pay packages they receive? ” In order to answer this question, one must first evaluate the compensation landscape of modern day CEOs.
In 1990, the average CEO earned a total compensation package of $2. 62 million. At the highest point in 2007, this average increased to $17. 12 million. So what was the increase caused by? While regular salaries and bonuses increased from $1. 62 million to $4. 01 million over this time period, the more significant increase was through stock gains and other compensations where an increase from $934,000 in 1990 to $13. 11 million in 2007 was observed. 8 So why the sudden increase in stock gains and other compensations? In 1990 Michael C. Jensen and Kevin J.
Murphy published “CEO Incentives – It’s Not How Much You Pay, But How” in the Harvard Business Review. This article helped change the view on CEO compensation structures in the United States. The authors provided evidence that top executive salaries in the 1980’s were actually lagging those of the 1930’s. They stated that CEO compensation should not be ranked by how much an executive is paid, but how they are paid. 9 A CEOs whose wealth was tied to a change value of shareholder wealth had a better compensation that a CEO who had a higher monetary compensation.
This analysis lead to the increase of stock options for CEOs and top corporate executives. However, this type of compensation structure has unintended consequences tied to it. Stock options create incentives for executives to participate in risk seeking activities. It creates a positive gain if the price of stock goes up, but no downside risk. So what value do CEOs offer companies and their shareholders? Just as the NFL places value stellar athletic performance and so-called super human ability, so does corporate America.
In the extremely competitive market of CEO headhunting, the stakes could never be higher. Companies today are facing lightning fast technological advances, corporate espionage, global competition, extremely tight profit margins, innovative startups and an indiscriminate number of other issues that need to be managed by top executives. Companies not only need leaders, but also visionaries, innovators and calculated risk takers. This combination of person can be extremely difficult to find, employ and retain.
When it comes to the question as to whether or not CEOs and top executives are overpaid, the question can irrevocably be answered YES, oh wait, and NO. While with many of the top S&P 500 CEOs making exorbitant amounts of money, the average private company CEO with at least $5 million or more in revenue earn less than $405,000. 10 So while CEOs may have some control over their compensation plans, as Marc Hodak from Forbes stated, “ Boards generally make excellent choices for CEOs, often from a very limited pool of talent. When they fail, it’s usually for lack of a crystal ball, not because of an endemic breakdown in governance. ”11