Executive Compensation Gone Mad

By Will Ashworth | June 07, 2010 AAA

On August 10, former Aeropostale (NYSE:ARO) CEO Julian Geiger will receive a supplemental executive retirement payment of $16.5 million. This is in addition to the $34.9 million in total compensation he received over the past three years. The man is definitely going to be able to enjoy his retirement. Thankfully, for shareholders, Aeropostale stock gained 12.3% annually over this period, compared to negative 11% for the S&P 500. Don't misinterpret my recognition of its stock's excellent performance as an endorsement of the company's compensation policy. Far from it. In my opinion, SERPs are just as evil, perhaps more so than deferred compensation.
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Pensions for Royalty
Executive compensation expert Graef Crystal believes SERPs should disappear entirely, and explains how these pension benefits came to pass in a recent article. The Employment Retirement Income Security Act of 1974 made it impossible for companies to pay executives more than $75,000 a year in pension benefits. While a janitor could receive 60% of his $30,000 final pay in annual pension benefits, the CEO could only receive 25% (max. $75,000) of his $300,000 salary. In order to make things right, companies were allowed to create SERPs to make up the difference. Unfortunately, what was intended as an act of fairness has turned into a giant slush fund for already prosperous executives, and shareholders are always the one's who pay.

Fair Pay
Crystal did an interactive study for Bloomberg in May that looked at the 2009 pay of S&P 500 CEOs relative to the performance of their stocks. If a company's stock and revenues were higher, so too should be the CEOs pay, Crystal reasoned. He called this redistribution of compensation "fair pay" and the results are quite astonishing. In total, about $2.7 billion in compensation would have moved around under his method, with Alan Mulally of Ford (NYSE:F) deserving the highest pay of all S&P 500 CEOs and Frank Baldino of Cephalon (Nasdaq:CEPH) deserving the least. The most underpaid CEO, according to Crystal, is Eric Schmidt of Google (Nasdaq:GOOG) who received just $245,322 in 2009 compared to what he should have received under fair pay, which is $17.4 million. In the retail world, one of the most underpaid CEOs, according to Crystal's model, is Blake Nordstrom of Nordstrom (NYSE:JWN) fame, who's paid just 26% of his fair pay based on shareholder returns. The most overpaid retail CEO - Glen Senk of Urban Outfitters (Nasdaq:URBN) earned 238% of his fair pay. However, in fairness to Mr. Senk, $25.6 million of his $29.9 million in total compensation were performance stock units that won't vest until 2015 at the earliest, so it's definitely not money in the bank. In addition, Urban Outfitters doesn't have any deferred compensation or executive retirement plans, so it is definitely better than many when it comes to transparent compensation.

Top 10 S&P Retailers by Fair Pay
Company CEO Pay as % Of Fair Pay Total Equity Return
Office Depot (NYSE:ODP) 21% 116.4%
Nordstrom (NYSE:JWN) 26% 180.4%
AutoNation (NYSE:AN) 33% 93.8%
Gap (NYSE:GPS) 34% 72.5%
O\'Reilly Automotive (Nasdaq:ORLY) 44% 24.0%
Tiffany & Co. (NYSE:TIF) 61% 100.3%
J.C. Penney (NYSE:JCP) 65% 52.7%
Limited Brands (NYSE:LTD) 67% 151.7%
Radio Shack (NYSE:RSH) 67% 65.5%
Big Lots (NYSE:BIG) 68% 111.2%

SERP Madness
Some of the worst offenders when it comes to fair pay also happen to pay out quite generously when it comes to SERPs. Donald James, CEO of Vulcan Materials (NYSE:VMC) received $11.1 million in total compensation in 2009. According to Crystal's model, he should have got just $1.5 million and his SERP is valued at $14.3 million. Obviously, CEOs aren't paid for stock performance; Vulcan's stock dropped by 21.7% in fiscal 2009. Then there's the case of Midwestern bank Marshall & Isley (NYSE:MI). It's managed to lose nearly $3 billion in the last two fiscal years, yet CEO Mark Furlong has accumulated benefits in his SERP worth $2.4 million. That's some trick.

The Bottom Line
When my grandfather retired as President of Famous Players Theatres (at the time a division of Paramount) in 1970, they gave him a watch and a party. It was a nice party, mind you, but that was pretty much it. Today, CEOs are given so much unnecessary compensation it's impossible for companies to stop feeding the habit. In many ways, it's worse than drugs because at least with drugs there's a rational explanation for the addiction. Executive compensation, on the other hand, is clearly irrational. If you own a stock with a SERP or deferred compensation plan, I'd recommend dropping it like a hot potato. If a CEO can't get by with $10 million in annual pay, he or she isn't cut out to run any company. Period. (For more stock analysis, take a look at 4 Stocks The Insiders Are Buying.)

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