Forum Report

Inviting Comments on O’Byrne Analysis of Pay Correlation

Following discussions stimulated by the econometric studies of executive compensation he presented in a recent program at the New York Society of Security Analysts (NYSSA), I invited Stephen F. O’Byrne of Shareholder Value Advisors, Inc., to provide Forum participants with a summary of his observations.  The following slides are intended to introduce his analyses of how executive compensation actually relates to corporate and marketplace conditions:

►    April 7, 2009, Stephen F. O’Byrne: “Six Factors That Explain Executive Pay” (17 pages, 195 KB, in PDF format)

The professional rigor of Mr. O’Byrne’s analysis is an important foundation for addressing compensation issues, especially now that a broader range of decision-makers is becoming involved in the determination of corporate practices.  Consider, for example, the support his quantitative analysis provides for these observations that many of us have been discussing:

1. Stock price is not the same thing as business performance.  Even advocates of efficient market theory recognize the lack of correlation between the two over periods of less than a decade or more.  Offering “performance” incentives related to short-term market valuations of a company’s stock is simply paying the executive to pump the stock rather than to build a sustainable business.
2. It costs more to pay executives for risks they don’t control.  Anyone with common sense will want a promise of more money if he thinks there’s a higher risk of payment.  If someone is better at managing a business operation than at managing stock prices, the promise of a payment based on future stock price will be viewed as less controllable and therefore higher risk.

Putting these observations together, you could assume that the 1990s theory of “alignment” by paying executives with stock options would result in significantly higher compensation than the previous emphasis on relatively predictable cash payments.  Mr. O’Byrne presents the econometric evidence of that result in this graph (page 9):

Your comments will be welcomed, on Mr. O’Byrne’s work as well as on the issues to be addressed.

GL – April 8, 2009

Gary Lutin

Lutin & Company

575 Madison Avenue, 10th Floor

New York, New York 10022

Tel: 212-605-0335

Email: gl@shareholderforum.com