Executive compensation has typically fallen within the realm of fiduciary duties; matters typically determined under state (read Delaware) law. But state law has not proved up to the task. As a result, both SOX and Dodd-Frank have increasingly federalized the compensation process. Say-on-pay is the most obvious recent example. The trend is likely to continue.
Moving matters to the federal level has a number of significant consequences. One of them is that policy is determined by Congress or the Executive Branch, both of which must contend with interest groups that go beyond shareholders and managers. An example occurred in connection with GM, Ally and AIG, three companies where the government still has a sizeable investment.
According to the WSJ, Treasury reported that "[o]verall pay" at these three companies will remain "frozen." Moreover, the CEOs of the three companies "didn't request pay increases." As Acting Special Master for Treasury put it:
The overall CEO compensation packages payable by AIG, Ally Financial and GM have not increased. Although there has been some modification in the mix of stock salary and long-term restricted stock for the CEO group, the overall amount of CEO compensation is frozen at 2011 levels.
The approach likely forestalls public criticism of the government. But is it the right decision? GM, for example, had a good (great) year. As the WSJ reported:
The Detroit auto maker earned $7.59 billion in 2011, a 62% increase from the prior year, and the biggest profit in its 103-year history on the strength of its once-unprofitable North American business. Sales in its two biggest markets, China and the U.S., continue to expand. Chinese volume rose 12% and the U.S. 11%, both in March.
Indeed, GM has argued the pay restrictions may cause competitive disadvantage. "The pay restrictions make our jobs a lot harder when it comes to recruiting and retaining the best talent in the business," GM spokesman Jim Cain said on Friday.
The point is not to criticize Treasury. Given the political constraints, the matter looked well handled. But it is a consequence of pushing compensation matters to the federal level and may be a harbinger of things to come.
What would prevent this from continuing? A tougher standard applied to compensation decisions at state law, as one Vice Chancellor mentioned. If states were tougher on the issue, there would be less pressure to federalize the matter. But this long term view is unlikely to be adopted. Federalization will, as a result, continue.