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Indispensable and Other Myths

Indispensable and Other Myths: Why the CEO Pay Experiment Failed and How to Fix It

Michael B. Dorff
Copyright Date: 2014
Edition: 1
Pages: 328
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  • Book Info
    Indispensable and Other Myths
    Book Description:

    Prodded by economists in the 1970s, corporate directors began adding stock options and bonuses to the already-generous salaries of CEOs with hopes of boosting their companies' fortunes. Guided by largely unproven assumptions, this trend continues today. So what are companies getting in return for all the extra money? Not much, according to the empirical data.InIndispensable and Other Myths: Why the CEO Pay Experiment Failed and How to Fix It,Michael Dorff explores the consequences of this development. He shows how performance pay has not demonstrably improved corporate performance and offers studies showing that performance pay cannot improve performance on the kind of tasks companies ask of their CEOs. Moreover, CEOs of large established companies do not typically have much impact on their companies' results. In this eye-opening exposé, Dorff argues that companies should give up on the decades-long experiment to mold compensation into a corporate governance tool and maps out a rationale for returning to the era of guaranteed salaries.

    eISBN: 978-0-520-95859-3
    Subjects: Political Science

Table of Contents

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  1. Front Matter
    (pp. i-vi)
  2. Table of Contents
    (pp. vii-viii)
  3. Acknowledgments
    (pp. ix-xii)
  4. CHAPTER 1 Introduction
    (pp. 1-14)

    The year 2008 was a tough one for most public corporations. The stock market collapsed, diving 38 percent. The broader economy sank into the deepest and longest recession since the Great Depression. The financial markets froze, blocking companies from their usual ability to borrow when in trouble.

    Even against this depressing backdrop, some companies’ suffering stood out. American International Group (AIG) endured cataclysmic losses in 2008, over $13 billion in just the first six months. Annual losses grew to a staggering $99 billion by year’s end. From a high of over $70.00 per share, AIG’s stock price fell to $1.25...


    • CHAPTER 2 The Puzzles of CEO Compensation
      (pp. 17-26)

      Why all the fuss over CEOs’ compensation? CEO pay has become something of a national obsession in the United States. There are countless newspaper and magazine articles, television stories, and blog posts on this topic every year. In part this attention is a natural fascination with the lives of the rich, no different from our interest in gossip about the salaries of professional athletes, actors, or rock stars. But there is something deeper, more caustic in public reactions to executive pay. When the stories concern celebrities, they may elicit envy but also admiration. There often seems to be a sense...

    • CHAPTER 3 The Corporate Personality Myth
      (pp. 27-59)

      “Corporations are people, my friend.” Former Governor Mitt Romney made this statement during the Republican presidential primary elections in 2011 at the Iowa State Fair.¹ Romney’s comment was decried by critics as demonstrating his misplaced priorities, putting corporations before flesh-and-blood human beings. By emphasizing corporate personhood, the critics said, Romney was showing he just didn’t get it, didn’t realize that it was people who mattered and not businesses. The clip of Romney uttering those five words played over and over again on television.

      In fact, Romney’s point was precisely the opposite. Romney was expressing concern for people, in particular, for...

    • CHAPTER 4 Market Mythology
      (pp. 60-90)

      Boards of directors are mysterious entities. We don’t have a solid understanding of how or why they function. U.S. public corporations are led by a group whose members—the directors—have little direct financial incentive to invest much time or energy in furthering the corporation’s interests. Still, these businesses seem to have managed pretty well over the past century, delivering remarkable growth and contributing greatly to an economy that is now the largest in the world, by an enormous margin.¹

      As a result, many—perhaps most—scholars who study executive compensation have been skeptical that anything serious can be wrong...

    • CHAPTER 5 Incentives Mythology
      (pp. 91-120)

      Picture a room with dark, wood-paneled walls. There is a hint of smoke in the air, as though cigars have just been put out, or are about to be lit. A group of (mostly) men sit around a large conference table. The door is shut, the room is private, and the men are slapping each other on the back, telling each other how wonderful they are, and writing one another checks drawn on someone else’s account.

      This scene is the nightmare of corporate governance critics, and has been for centuries: the specter of the backroom deal where those without a...


    • CHAPTER 6 Performance Pay Mythology
      (pp. 123-149)

      Hewlett-Packard was once one of the most well-respected corporations in the country. Famously founded in a one-car garage just before World War II by Bill Hewlett and Dave Packard, the company eventually grew into the largest computer manufacturer in the world. Hewlett and Packard utilized a management style that became deeply ingrained in the company’s identity, one focused on hiring the best people and then trusting them with as much authority as possible.¹

      HP’s people-centered management philosophy, combined with its colossal success, helped build its reputation as one of the best-managed firms in the world.² The company has struggled more...

    • CHAPTER 7 Causation Mythology
      (pp. 150-169)

      Southwest Airlines is an astounding success story. Founded in 1971 as a small, intrastate airline in Texas with just three planes, it grew rapidly after deregulation to become one of the largest and most consistently profitable airlines in the country. Its strategy for achieving this phenomenal growth rested on providing low fares, excellent customer service, and frequent flights on short routes. The company hired personnel carefully, aiming for innovative, hardworking, and fun flight attendants to provide customers with a lighthearted experience. Southwest emphasized its joie de vivre with the corporate uniform of a polo shirt and khaki shorts.

      To keep...

    • CHAPTER 8 Predictability Mythology
      (pp. 170-198)

      Imagine you are a director of a publicly traded brokerage firm that specializes in derivatives trading. The company has been experiencing troubles lately and has suffered five quarterly losses in a row. Would you hire this person as your new CEO? He comes from humble origins. He is a graduate of the University of Illinois at Urbana-Champaign and the University of Chicago’s Booth School of Business. After completing his MBA at Chicago, he went to work for a regional bank for a few years before becoming a bond trader at a major New York investment bank. He eventually rose to...


    • CHAPTER 9 Alignment Mythology
      (pp. 201-228)

      Early in the twentieth century, the storied Ford Motor Company was owned by founder Henry Ford and a few minority investors. The minority included the Dodge brothers, who later went on to create their own line of vehicles that eventually became part of the Chrysler Corporation. Ford Motor was extremely prosperous at the time, but Henry Ford decided to stop paying dividends to the shareholders. (The corporation had paid considerable dividends up to that point.) Instead, he planned to devote the company’s enormous profits to expanding the business and reducing the sale price of Ford Motor’s cars.

      The price reduction...

    • CHAPTER 10 Moving Forward
      (pp. 229-266)

      The chairman of a large, public company told me recently, “It’s easy to criticize CEO pay. What weneedis someone to tell us how to do itright.

      That’s a tall order, so maybe I should start by tamping down expectations a bit. In some ways the core problem with CEO pay is that directors have expected too much from it. Thanks to economists’ theories about agency costs and the ways to reduce them, boards have looked to compensation as the dominant management tool for public company executives. Boards have relied too heavily on the structure of CEO pay...

  8. Notes
    (pp. 267-308)
  9. Index
    (pp. 309-314)