What’s Excessive Pay?

Proponents of massive and unregulated executive compensation often object to limiting it on the grounds that it is too complicated for amateurs to understand and none of the public’s business anyway. Thanks to the Dodd-Frank Act, it is now the public’s business and some of the regulatory staffers the Act charged with drafting required regulations show that the subject is not nearly so complex as so-called compensation experts portray.

In proposed regulations, spanning a mere dozen double-spaced pages written in plain English, financial regulators wrote prohibitions against excessive executive compensation of executives at billion-dollar banks. The central operative prohibition defines compensation as excessive when “amounts paid are unreasonable or disproportionate to, among other things, the amount, nature, quality, and scope of services performed by the covered person.” §372.5(a).

The proposal lists a half dozen factors to consider when evaluating the relationship, including the amount paid, the recipient’s compensation history and those of peers within the firm and at comparable firms, the firm’s financial condition, for post-employment compensation the cost-benefit relation for the firm, and any links between the recipient and misconduct at the firm.

It seems difficult to argue with the proposed definition of an inherently difficult concept to define. The factors relevant to thinking about it likewise seem a reasonable list, though I might propose adding the performance of the business or portion of it under the recipient’s authority, the form of consideration and the manner in which the related contract was formed.

Still the proposed regulations are consciously written in the spirit of the prevailing mood that prefers broad statements of general principle to detailed delineation of rules. Though regulated entities and their ambassadors display a strong appetite for such so-called “principles based regulation,” it’s a fair bet that comments on these regulations will find grounds of objection.

To me, these staffers did a good job in drafting this proposal. These factors are likewise those relevant to evaluating whether any other compensation contract is unconscionable as a matter of the common law of contracts. On the other hand, the Dodd-Frank Act directed all agencies to participate in drafting of these and innumerable other regulations, and various drafts are in circulation.  The quality of the ultimate product remains to be seen.

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2 Responses

  1. Shag from Brookline says:

    Like pornography, I know it when I see it.

  2. matth says:

    This used to come up a lot in tax law (before the rise of the LLC): the most tax-efficient way for owner/employees to extract earnings from corporations was through salary, rather than dividends. But it’s my sense that the case law generally failed to identify any meaningful principles, beyond maybe comparisons to peer firms. And comparisons to peer firms are of limited value here, where the problem is sector-wide.