Reference no: EM132223314
Corporate Boards Lower Instrumentalities
What happens when corporate boards decide to lower the instrumentalities between CEO performance and pay? Companies make such decisions because they want to protect executives from being held accountable for things beyond their control, like a tornado or rising costs in natural resources.
This exercise is important because managers must understand that while this may make sense, it leaves open the question of what to do when good luck occurs instead of bad. A good decision made on behalf of a firm’s managers is not always good for the rest of its associates.
The goal of this exercise is to consider the motivational impact of pay decisions on those that fall below the executive levels.
Read the case about the different instances in which corporate boards relaxed the instrumentalities between CEO performance and pay. Then, using the 3-step problem-solving approach, answer the questions that follow.
Alpha Natural Resources, a coal producer, gave CEO Kevin Crutchfield a $528,000 bonus after having the largest financial loss in the company’s history. The board said it wanted to reward him for his “tremendous efforts” in improving worker safety. This “safety bonus” was not tied to any corporate goals, and the company had never before paid a specific bonus just for safety.
The board at generic drugmaker Mylan made a similar decision, giving CEO Robert Coury a $900,000 bonus despite poor financial results. The board felt the results were due to factors like the European sovereign-debt crisis and natural disasters in Japan. Not to be outdone, the board at Nationwide Mutual Insurance doubled its CEO’s bonus, “declaring that claims from U.S. tornadoes shouldn’t count against his performance metrics.”
The New York Times reported that former Walmart U.S. CEO Bill Simon also was rewarded for missing his goals. He was promised a bonus of $1.5 million if U.S. net sales grew by 2 percent. Net sales ultimately grew by 1.8 percent, but the company still paid the bonus. The Times said this occurred because the company “corrected for a series of factors that it said were beyond Simon’s control.” Hourly wage bonuses for Walmart associates who perform below expectations are zero. Apparently, what’s good for the company’s CEO is not good for associates.1
Is It Good to Relax Instrumentalities between Performance and Pay? Companies relax instrumentalities between performance and pay because they want to protect executives from being accountable for things outside their control, like a tornado or rising costs in natural resources. While this may make sense, it leaves open the question of what to do when good luck occurs instead of bad. Companies do not typically constrain CEO pay when financial results are due to good luck. Blair Jones, an expert on executive compensation, noted that changing instrumentalities after the fact “only works if a board is willing to use it on the upside and the downside.… If it’s only used for the downside, it calls into question the process.”2
Apply the 3-Step Problem-Solving Approach
Step 1: Define the problem in this case.
Step 2: Identify the cause of the problem. Did the companies featured in this case use the principles of expectancy theory?
Step 3: Make a recommendation to the compensation committees at these companies. Should CEOs and hourly workers be held to similar rules regarding bonuses?
What is the key problem in this minicase?
Corporate boards are not rewarding CEOs for their efforts.
CEOs are acting unethically.
Performance metrics are not clearly defined.
The link between CEOs performance and rewards is not always maintained.
Executive compensation remains stagnant in the United States.