Fixing What’s Wrong with Executive Compensation

Furor over banker’s pay has put the spotlight on executive compensation. What appears to be a disconnect between executive pay and a company’s results has inspired renewed demands that companies “pay for performance.” The critics are on to something—and it isn’t limited to the financial sector. There is something wrong with the way most companies approach executive compensation. Before companies can fix it, however, they must confront a fundamental irony. The very compensation systems that many criticize today are the product of efforts to achieve precisely that goal. However, they have failed because the typical vehicles for long-term incentive compensation—stock options and restricted stock grants—are only very weakly linked to performance.

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