Pay Practices in the Spotlight

The controversy over executive compensation practices has generated a lot of heated conversations in the media and around the water cooler. On November 2, under the lights of camera crews from C-span, CNBC, CNN and Bloomberg, the Smith School’s new Center for Financial Policy shone a spotlight on this controversial issue at its first roundtable discussion, “Executive Compensation—Practices and Reform.” The event featured keynote speaker Kenneth Feinberg, a well-known lawyer and mediator recently appointed to be the Obama administration’s special master for compensation.

As part of his duties, Feinberg recently determined the compensation packages of the 25 top executives at seven firms that received more than one round of federal bailout funding. He described the underlying rationale behind the pay packages, including eliminating guarantees for anything beyond base salary, sharply reducing cash salaries, and including stock that was not immediately redeemable as a portion of the package. The new packages reduce executive compensation at these firms by 50 percent overall and reduce cash compensation by 90 percent from the previous year.

Feinberg feels the new compensation packages have been fairly well-received, in part because his office took such pains to work closely with the firms under his aegis. “It’s very unfortunate that the term ‘pay czar’ became popular,” says Feinberg, “because there was no imperial decree. We worked in a very cooperative way with companies as they labored under very difficult circumstances.” Feinberg described the months of meetings, wheelbarrow loads of company data and mountains of anecdotes that went into the creation of the compensation packages.

Two panel discussions allowed the almost 200 participants, mostly high-level executives from the public and private sectors, to explore best practices and engage with experts in the field through question and answer sessions. The discussions were wide-ranging, thought-provoking, and occasionally controversial. One panelist argued that companies that took TARP funds should be “wound down” and their top executives fired outright, in order to allow “more prudent organizations” to expand and grow.

But there was agreement among many of the day’s speakers as well. Compensation structure and transparency were key issues, but the amount of total compensation seemed to be less at issue. Failures of corporate governance were also pointed out: several panelists said boards needed to be truly independent of both management and CEOs in order to perform properly, and that greater expertise on compensation committees and directors with more expertise in their industries would be better able to judge which incentives were embedded in pay practices and what would create the most value for the company. Best practices were few, and many panelists thought it was time to go back to the drawing board to create pay practices that foster long-term firm value yet still allow for safe risk-taking.

Daniel Tarullo, Governor of the Federal Reserve Board, wrapped up the day with an announcement that the Fed will begin gathering information from large complex banking organizations (LCBOs) regarding their pay practices, as the first step toward increasing involvement in setting compensation guidelines.

The roundtable was one of several events this fall that launched the center, an important initiative of the Smith School designed to mobilize Smith faculty to address critical issues in the complex world of financial markets. “The financial crisis highlighted the need for a broader, interdisciplinary perspective to addressing financial policy and corporate governance issues,” says Lemma Senbet, William E. Mayer Chair Professor of Finance and director of the center. “Our hope is for government financial regulatory agencies, congressional staffers, industry associations, and corporations to look to the center as a partner and champion of best practices in the financial arena.”

Washington, D.C., has no shortage of think tanks, but the Center for Financial Policy offers something uniquely valuable to lawmakers: an unbiased source of expertise. This is important particularly for complex issues related to financial services markets. “It is important to have deep thinkers involved in the development of policy, people who are not under pressure to further anyone’s political agenda or are affected by the political consequences of the outcome,” says Smith School Dean G. “Anand” Anandalingam. “The challenge for all of academia is to make its voice heard within the corridors of power, alongside the many other voices competing for attention.”

The center will reach out to lawmakers in order to help steer and influence policy and elevate the center’s visibility as a source of thought leadership and relevant, timely scholarship. The Executive Compensation Roundtable ably demonstrated the center’s reach into both the public and private sectors. Other speakers and panelists included:

• Gene Ludwig, founder and CEO of Promontory Financial Group and former Comptroller of the Currency
• William Longbrake, Executive-in-Residence, Center for Financial Policy, Robert H. Smith School of Business
• Steve Bartlett, president and CEO of the Financial Services Roundtable and former Congressman (R-TX, 1983-1991)
• Franklin Allen, Nippon Life Professor of Finance and Economics, University of Pennsylvania
• Patrick McGurn, senior vice president, U.S. Corporate Governance Trends, RiskMetrics
• Michael Dawson, managing director, Promontory Financial Group
• Chester Spatt, Pamela R. and Kenneth B. Dunn Professor of Finance, Carnegie Mellon University; former chief economist, Securities and Exchange Commission
• Nell Minow, editor and co-founder, The Corporate Library
• David Swinford, president and CEO of Pearl Meyer & Partners
• Anthony Santomero, senior advisor, McKinsey and former president of the Federal Reserve Bank of Philadelphia

Ludwig spoke appreciatively of the center’s “leadership in the business and scholarly arena.”

The center will encompass the broad range of research in which Smith faculty are already world experts, focusing on areas related to corporate governance, led by Senbet; financial institutions and corporate finance led by Haluk Unal, professor of finance; emerging capital markets, led by Vojislav Maksimovic, Dean’s Chair Professor of Finance; asset valuation and markets, led by Albert “Pete” Kyle, Smith Chair Professor of Finance; money management, led by Russ Wermers, associate professor of finance; and risk management, led by Alexander Triantis, professor of finance and finance department chair, and Cliff Rossi, the center’s managing director.