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Echoes of Bell in CEO pay

As I beheld the sight of Robert Rizzo and his fellow Bell municipal bosses being frog-marched into court the other day on charges of having overpaid themselves outrageously at the expense of their suffering constituents, the following thought came to me:

Why not Ray Irani?

Maybe it’s unfair to pick on the longtime chairman and chief executive of Los Angeles-based Occidental Petroleum, since at $31 million last year, he places only fourth on Forbes’ latest list of America’s highest-paid executives.

If one is looking for overpaid CEOs, as ranked by their compensation relative to shareholder return, General Electric’s Jeffrey Immelt, Verizon’s Ivan Seidenberg and many others might deserve to stand ahead of Irani in the queue for the orange jumpsuit. (Those rankings come from Forbes too.)

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But to some degree they’re all emblematic of the No. 1 scandal of American business — executive pay that bears scant relationship to what these people are worth.

The CEO pay curve has been galloping out of control for so long that it has achieved the status of a cliche. In 1965 the average U.S. CEO earned 24 times the pay of the average worker. Four decades later the ratio was 411 to 1..

Efforts to rein in the trend have invariably failed. Boards were advised to tie the pay of top executives more closely to shareholder returns; the trend line only steepened. The federal government capped the tax-deductibility of executive pay that wasn’t based on specific performance standards; companies cooked up performance standards that almost anyone could meet.

Regulators mandated disclosure of these standards; companies shoveled them into their annual proxy statements in such mind-numbing detail that few pay attention. The section of Oxy’s proxy where the pay formulas for Irani and his fellow executives are spelled out runs to more than 10,000 words. How many shareholders would wade through so much verbiage? I know of California ballot initiatives, which are always designed to obfuscate, that aren’t even half that length.

Evidence shows that CEO pay almost never bears a discernible relationship to the burden of their jobs or their success. Earlier this year, veteran compensation consultant Graef Crystal compiled a database of 271 CEOs for Bloomberg BusinessWeek and judged their pay against a formula based on their companies’ size and stock performance to determine how far their income diverged from “fair” pay.

By Crystal’s reckoning, Irani’s 2009 compensation of $31.4 million was about 2 1/2 times what would be fair. He pointed out that Irani’s pay was higher than that of ExxonMobil CEO Rex Tillerson ($27.2 million) “and Exxon has many times the sales.”

That’s putting it mildly: Oxy’s revenue was $15.4 billion last year. ExxonMobil’s was $310.6 billion. Somebody’s pay is out of whack.

This year, Crystal adds, Irani will be due more than $56 million — mostly in cash — thanks to an incentive plan based on the company’s return on equity over the three years ended June 30. How much of an incentive was the target ROE? It was lower than Oxy’s reported return on equity in previous years.

You almost never see shareholders in any numbers marching with protest placards or filling the seats of a public meeting in fury over executive pay, as Bell’s residents have done. And you certainly never see overpaid CEOs being brought to account in court, whether a court of law (where Bell’s leaders will be facing fraud charges) or the court of public opinion.

Yet the similarities between what the Bell leaders are accused of and what passes for normality in the corporate world are striking. Setting one’s own salary through insider arrangements? Check: The Bell gang voted themselves steep raises; although most corporate boards make a show of placing pay decisions in the hands of a committee of “independent” directors, the members are almost always current or former top executives themselves, members of a tight club.

That’s true of three of the four compensation committee members at Occidental Petroleum, four of the six at GE, all six at Verizon and all three at Cephalon Inc., whose CEO, Frank Baldino, Crystal identifies as the most overpaid chief executive in his database. (Baldino’s $11.1 million pay last year is 832% of what would be fair, Crystal calculated.)

What about special retirement deals? Check: Rizzo designed a supplemental pension plan for himself and 40 other city officials, providing them with far more than the standard for California municipal employees.

“Supplemental executive retirement plans,” or SERPs, which are designed to circumvent federal rules outlawing pension formulas that discriminate between low-paid and high-paid employees, are common in the corporate suite. Of Crystal’s sample of 271 CEOs, 189 participated last year in SERPs, which “create a class of senior executives akin to British royalty,” he argues.

The dismal reality of CEO pay is that it comprises two problems, not one. Top executive pay generally is too lavish in the U.S. no matter what performance standard you apply. Good performance or bad, the pay disparity between the CEO and the rank and file is larger than in any other country, contributing to rising income inequality and to its consequent social pathologies.

It’s also based on several flawed assumptions, argue Jay Lorsch and Rakesh Khurana of Harvard Business School in a recent article for Harvard Magazine. One is that money is the only motivating factor behind executive performance.

Another is that shareholders are the only stakeholders in corporate performance whose interests matter. This is a relatively recent paradigm, they observe; as late as 1990 business groups recognized the importance of a corporation’s responsibility to stakeholders such as employees, customers, suppliers and the community.

The flaw in the latter assumption is that it ties CEO pay to stock prices, which they can’t influence on their own. But the picture of the CEO as virtually the sole auteur of a corporation’s fate permeates American society. Listen to a Meg Whitman campaign ad talking about “the EBay Meg created.” If you pay attention you may catch a reference to the 15,000 employees who were there when she left, at least a few of whom must have had something to do with the company’s success.

Plenty of American CEOs are deeply underpaid by Crystal’s reckoning. Typically they’re founders or owners or their close associates, who find compensation and fulfillment elsewhere than in salary or bonuses. (In recent years this group also has included the heads of firms accepting government bailouts, such as Citigroup and Goldman Sachs.)

Google’s Eric Schmidt takes $1 a year, plus about $245,000 mostly for “personal security.” But he also owns Google stock that could be liquidated for about $5 billion. Amazon.com’s founder and CEO, Jeff Bezos, pulls down $81,840 in salary, but what the hey, his stock is worth $14 billion.

It’s the hired guns who are more likely to be overpaid, because their pay-for-performance arguments resonate with their pals on compensation committees. Harvard’s Lorsch says that won’t change until we start talking about “what kind of society we want to have” and where the corporation fits in.

But an attention-grabbing opportunity like the disclosures that put Bell on everybody’s radar screens doesn’t seem to be on the horizon in the private sector. Without it, none of the stakeholders in corporate performance will be able to bring executive pay back to earth. “I’m taken with the argument that pay should come down,” Lorsch says, “but how do you get the genie back in the bottle?”

Michael Hiltzik’s column appears Sundays and Wednesdays. Reach him at mhiltzik@latimes.com, read past columns at latimes.com/hiltzik, check out facebook.com/hiltzik, and follow @latimeshiltzik on Twitter.


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