Large pay gap can lead to low morale, compromised employee commitment
Ever-increasing executive pay has seen its share of the spotlight in recent years, but new research suggests there can be consequences far below the C-suite.
Six in 10 employees (59 per cent) are demotivated by high executive pay in their workplace, according to a survey by the U.K.-based Chartered Institute of Personnel and Development (CIPD). And about 70 per cent feel chief executive pay is too high.
“A high proportion thought it demotivated them, and they thought it was bad for the firm’s reputation,” said Charles Cotton, performance and rewards advisor at CIPD in London.
CEOs in the U.K. earn an average of 183 times as much as the average employee, up from 47 times as much in 1998, according to 2015 research from the High Pay Centre.
“(We) found that the gap between a typical employee and the CEO had grown over a number of years. And when we questioned a sample of employees about their views on executive remuneration, we found quite a few negative responses,” said Cotton.
In 2015, the average CEO earned 204 times the median worker pay, according to a Glassdoor survey of more than 400 companies from the S&P Index.
“Workers differ in how much they are concerned with workplace inequality — some care a lot and some aren’t affected at all. But among those workers who are most concerned about inequality, large gaps between CEO and worker pay clearly affect employee morale,” said Andrew Chamberlain, chief economist at Glassdoor in San Francisco.
Very high executive compensation can directly impact employees’ attitudes and whether they are giving their best at work, said Cotton.
“It kind of flags that a wide gap can be problematic unless there’s some sort of rationale behind it,” he said. “(And) there is a growing discrepancy now. If chief executive pay and employee pay were going up at the same pace, there wouldn’t necessarily be an issue. But it’s not going up at the same pace.”
Negative feelings and impacts on morale can manifest in different ways, said Cotton.
“Obviously, there can be negative consequences for an organization if employees feel that ‘My contribution isn’t going to be recognized as well as the chief executive’s and I’m not going to go above and beyond the call of duty or go the extra mile,’” he said.
“Of course, as more and more employees take this approach, the organizational performance will start to suffer… and you can see that in employee turnover, employee absenteeism, people not wanting to join certain organizations because of the perception they get.”
It’s less about what the actual CEO pay ratio is and more about the message it sends to employees, said Claudine Kapel, principal at Kapel and Associates in Toronto.
“It’s fueling concerns in the eyes of employees about pay fairness. So I don’t think it’s so much about the specific number itself — how many times the employee average wage is the CEO making — but rather what it represents in the eyes of employees that can cause people to feel like they’re being taken or disenfranchised,” she said.
“Part of this too is a function of timing. So many organizations have been seeing higher levels of profitability since the recession, along with higher levels of CEO pay. Salaries and wages of employees in general have remained fairly stagnant, so they’ve been running at two or three per cent on average.”
There are a variety of factors that have been driving these modest increases, including a low inflation environment in Canada, said Kapel.
“But the reality is that companies, by and large, are able to source and retain the talent they need without spending a lot more on base compensation. So we haven’t really been seeing significant increases in salary and wage levels for employees in general,” she said.
“Employees may not see this as equitable. They’re working hard but they’re not seeing major gains in terms of pay increases. So when they read about rising CEO pay ratios, that may deepen their discontent.
And in Canada, the declining value of the dollar is adding fuel to the fire because it’s eroding the average person’s purchasing power, said Kapel.
“So that’s going to make compensation levels and pay fairness even more volatile.”
The optics can be even worse if the company is also issuing layoffs, said Chamberlain.
“When a company is struggling financially or layoffs are taking place, this can be a devastating blow to workplace morale for a variety of reasons. Key executives, HR and team leaders should be in sync about how to handle internal communications to help prevent long-term damage to employee satisfaction or encourage turnover in key staff. Specifically addressing that leaders are open to hearing employees’ concerns can help workers feel empowered to speak up about leadership’s wages or any other issue.”
So, should organizations rethink how executives are compensated? That’s the multi-million-dollar question, said Cotton.
Executive pay often isn’t strongly liked to performance, he said — so what are executives being rewarded for and are they being rewarded in the right way?
In the long run, pay transparency ultimately benefits workers and levels the playing field, helping workers earn equal pay for equal work, said Chamberlain.
“On one hand, CEOs are under intense pressure and are tasked with leading an entire business toward profitability, and on average their compensation reflects competition for their skills in the marketplace. However, bringing transparency to not only their salaries but also workers’ salaries allows us to shed light on any unjustified or hard-to-explain pay differences that might exist.”
The CIPD survey found seven in 10 employees (72 per cent) would like to see greater pay transparency and 53 per cent want it to be published for all levels.
When asked which measures would best improve the link between the pay of CEOs to that of employees and their organization’s success, the top ranking suggestions were: “Publish the ratio between CEO pay and the pay of the typical employee” (51 per cent); “Limit the size of CEO bonuses and incentives” (51 per cent); and “Require CEOs to pay back bonuses and incentives if the company’s performance declines” (62 per cent).
There has been a good deal of discussion about the idea of implementing a pay-ratio rule that would limit CEO pay. But that idea should be considered cautiously, said Chamberlain.
“As an economist, my view is that we should rely on the market to set wages as much as possible — even CEO wages. The labour market generally does a good job of paying workers in line with their productivity and contribution to overall business goals,” he said.
“Although there is some evidence that CEO pay is distorted by undue influence on corporate boards, it is counteracted by the fact that companies aimed at profitability have a powerful incentive to not systematically overpay CEOs. I’m not sure lawmakers better understand the value of a CEO than shareholders and corporate boards themselves.”