The Fix for Misleading ‘CEO Pay Ratios’ – Robert Pozen and Kashif Qadeer

MIT Sloan Senior Lecturer Robert Pozen

MIT Sloan Senior Lecturer Robert Pozen

MIT Sloan MBA ’18, Kashif Qadeer

From The Wall Street Journal

In the coming weeks, many public companies in the U.S. will disclose for the first time their “pay ratios”—the CEO’s compensation divided by the median employee’s. The requirement to provide this ratio was included in the Dodd-Frank Act of 2010. But comparing the figures among different companies—and particularly different industries—will hardly be a straightforward task.

The consulting firm Equilar estimates that the pay ratio will be two or three times as high for retailers as for drug, financial or tech companies. But the reason isn’t soaring CEO pay in the retail industry. For one thing, midlevel retail workers simply make less, on average, than their peers in pharma, finance and tech, which skews the ratio.

Another issue is that 31% of retail employees work part-time, compared with 17% for the rest of American employees. When computing the CEO pay ratio, the Securities and Exchange Commission prohibits companies from adjusting part-time earnings to “annualize” them—to show what these employees would have earned if working full-time. The SEC also bars companies from counting several part-time employees as a single full-time equivalent. Because of this, having many employees who work only a few days each week drags down the median.

To understand how much this might overstate the pay ratio, we examined data for a midsize retail company that operates about 1,200 stores, primarily in the U.S. The company had more than 25,000 employees in 2017. Almost half worked less than 30 hours a week. The median pay of these part-timers (without annualizing) was less than $6,000 a year. By contrast, the median pay of full-time employees who worked for the whole year was approximately $30,000. Read More »