Now that rules requiring a company to disclose CEO pay relative to its median employee are final, anxiety about impact on employee morale as well as on prospective employees is rising.
A Towers Watson poll of more than 600 corporate compensation professionals in September showed their top concern about implementing the pay-ratio rule by 2018 is how they would stack up against other companies.
Fifty-four percent put this comparison first, up from with 31 percent in 2013, when the US Securities and Exchange Commission initially proposed the rules under the Dodd Frank Act. Fifty percent said their second-highest concern was explaining to employees how their pay is determined.
“We’ve come to the conclusion that this is going to be a huge deal when it comes to explaining and communications,” said Steve Seelig, senior regulatory adviser at Towers Watson.
Until now, Seelig told Advisen, companies were focused on how to assemble the required data on who is paid what, and where, throughout a corporation. Issues of whether to use statistical sampling, how best to gather the data and identify the median employee concerned executives most in 2013.
The SEC adopted the final rule on disclosure of CEO pay in August. Most publicly traded companies will have to compute the ratio of the executive’s total compensation to that of their median employees and disclose this information in registration statements, proxy and information statements, and annual reports.
But the rule, which is expected to facilitate comparisons of CEO pay relative to industry peers, also discloses the pay of the median employee, inviting not just comparisons to the CEO—but other employees inside and outside the company.
“This is a visceral number,” Seelig told Advisen. “Other pay disclosures are for shareholders. This is the people’s pay disclosure.”
Towers Watson’s Global Workforce Study showed high correlation between employees’ belief that they are paid fairly and their level of engagement and retention. Only half of employees do, in fact, believe they are paid fairly—and that their organization does a good job of explaining how pay is determined, it said.
The pay-ratio rule is expected to create new openings, as well, for shareholder derivative lawsuits, especially at first.
As with any new rule, “the potential for violation creates susceptibility for liability, especially in the derivative context,” said Kristin Kraeger, national D&O and fiduciary practice leader for Aon Financial Services Group.
The failure to disclose the ratio, or any irregularity in the data behind it, for example, could provide an opening for plaintiffs attorneys.
The ratio is meant “to be used by shareholders to compare compensation across corporations,” Kraeger told Advisen. “Any discrepancy in the numbers or the data has the potential for raising liability.”
Seelig says that at this stage companies should be determining:
“If the company is doing a crummy job about communicating on pay, this is going to be more significant when the rules go into effect,” Seelig said.
On the other hand, those companies already using total awards statements, for example, which are as comprehensive as the figures reported for median employees, will be at an advantage, he said.
