January 17, 2008

Employee Compensation

Larry Ellison co-founded Oracle in 1977 by making a capital investment and contributing his intellectual property, which was the relational database he created. His 2004 salary of $40.6MM, I assume, was a product of his risk bearing as a major stakeholder and founder, and his leadership as CEO.

Assuming an average employee salary of $60,000 per year at Oracle, Mr. Ellison's compensation was 677 times greater than the average Oracle employee.

In the United States, the average teacher salary in the 2005-06 school year was $47,602. During the same period, the average principle salary was nearly twice as much at $92,965.

I'm not pointing to distribution of wealth. What I'm interested in is the compensation variance of employees.

Thus, for my purposes here, I would exclude Larry Ellison as an example, because he is a company founder. I exclude the local home builder, an excavation contractor, a Quizno's franchise owner or the obscure but cash-flowing website owner. I exclude those who bear real risk with their real assets. If their venture loses, they lose.

I am comparing employees at publicly traded companies.

For example, the CEO of Wells Fargo made $37.8MM (here, look at this way: $37,800,000) in 2004. Again, assuming an average Wells Fargo employee salary of $60,000, the CEO made 630 times more money than his fellow employees.

But the Wells Fargo CEO did not bear any risk in the start-up capitalization of Wells Fargo. Nor did he bear risk later by making additional paid-in capital contributions. Nor did he invest in Wells Fargo with large amount of his own after tax dollars and thereby accepting burdens of risk as a stock holder.

No. He was an employee who advanced through the ranks, finally entering levels of management where annual compensation charts on a logarithmic scale.

Here are some comparisons to consider:
(Executive Salary , Avg Worker , Variance , Office)
$400,000, $40,000, 10.00, President
$217,000, $40,000, 5.43, Supreme Court Justice
$165,000, $40,000, 4.13, Congressman

(CEO Salary, Avg Worker, Variance, Company
$148,000,000, $60,000, 2,466.67, Colgate-Palmolive
$70,500,000, $60,000, 1,175.00, United Technologies
$37,800,000, $60,000, 630.00, Wells Fargo
$32,800,000, $60,000, 546.67, Apollo-Education Group
$30,200,000, $60,000, 503.33, Kohl's
$23,300,000, $60,000, 388.33, PG&E

(Avg Principal, Avg Teacher , Variance )
$92,965, $47,602, 1.95

The variances which are the most mystifying to me, of course, are those among CEOs of public traded companies and their fellow employees. Particularly when CEOs, most often, improve the financial performance of their companies by increasing profits in the short-term by massive cost cutting; profits flag later because products and services do not capture new sales.

My exposure and perspective are limited, but I have failed to see how, in most cases, a publicly-traded company CEO's performance justifies exponential differentials that so vastly separate employee compensation within one company.

I first became aware of CEO compensation extravagance as a shadow on the wall of Plato's cave, when I was in high school. Lee Iacocca became CEO of Chrysler and became a celebrity for brokering a deal with the Federal government, securing from the Feds loan guarantees to stave off bankruptcy. Yes, Chrysler repaid the loans, even seven years ahead of schedule, but the company still went from one crisis to the next. Where was the long-term solution? How did Iacooca's short-term fixes warrant his huge compensation? And by now you know that by "huge" I mean "huge" when compared to the average worker at Chrysler.

So, you say, market forces drive CEO compensation. Is that correct?

If so, how is it that only one side of the market forces blade is felt by CEOs? Why aren't CEOs fired when the company's fortunes turn south? Or at the very least, why aren't their salaries adjusted down to be, say, only 10 times that of their average co-workers?