Friday, July 8, 2016

Why Do Shareholders Condone "Excessive" CEO Compensation?

One would expect the owner of a firm to discourage excessive CEO compensation. We would also expect an owner to base executive compensation on performance relative to industry competitors. However, mutual funds and other large owners of corporate stock seldom complain about executive compensation.   This article offers a simple explanation.  Money managers usually own shares in many of the firms in the same industry.  They are more concerned about industry performance than they are about the performance of individual firms.  The last thing that they want to see is price competition between the firms that they own in a particular industry.  That would drive down industry profits.  In pursuit of shareholder value mutual funds, and other large investment firms, encourage oligopolistic competition.  They have no economic interest in basing executive compensation on performance relative to other firms in a particular industry.  Executive compensation in an industry is more closely related to firm size than it is to firm performance relative to its peers.

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