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How big a risk does a business face when the CEO earns princely sums—especially if that pay package far outsizes those of other executives at the company? Part of the answer has to do with succession planning and grooming future leadership, according to a recent white paper by ISS Corporate Services Inc (ISC). Executive pay amounts to “what is today the most critical issue in corporate governance,” says Subodh Mishra, ISC vice president and author of the report “Bridging the Pay Divide: Trends in C-Suite Pay Disparities.” Indeed, ever since the 2008 financial crisis, a number of battle lines have been drawn over executive compensation. The president, regulators, shareholders, and Occupy Wall Street protesters alike have all taken aim at corporate salary levels that they have deemed excessive. But the ISS paper comes at executive pay from another angle: the consequences of CEO turnover for a company. Last month, for example, the outplacement firm Challenger, Gray & Christmas Inc. reported a “recent uptick in CEO turnover activity,” when 108 CEO departures in September demonstrated a four percent increase over August numbers, and “the highest number of departures since September 2010, when 111 CEO changes were announced.” Whether a solid replacement waits in the wings might have a lot to do with pay-gap multiples—that is, the bigger the difference in pay between the chief executive and the next highest-paid executive at the company, the greater a risk there may be that the board of directors is not adequately preparing a successor. “If you have a pay-gap multiple that is too large,” says Mishra, it “may suggest that there is not a strong No. 2 in place.” The report focused on the pool of Russell 3000 companies and analyzed the total direct compensation received by the top five highest-paid executives from fiscal years 2008 through 2010. The ratings agency Moody’s suggests that “pay-gap multipliers in excess of three times the pay of the second highest-paid officer” may indicate that a company is “CEO-centric,” posing risks to CEO succession and the company’s debt rating. The findings: the average pay-gap multiple has come down in the past three years, while the bulk of that change occurred between 2008—when the average stood at 3.9—and 2009—when it dropped to 2.2. That’s not simply because CEOs took a pay cut. Their average total direct compensation did decline by 10 percent from 2008 to 2009; yet more interestingly, Mishra notes, pay gaps shrunk because other senior executives received a “marked spike” in their salaries. That is: “The second highest-paid executive saw, on average, a 53 percent increase in total direct compensation during the same period,” the report states. At S&P 500 companies, that trend is even more marked. CEOs at bigger corporations took an average 6 percent cut in total direct compensation, while the second highest-paid executive received an average 82 percent bump in pay. In terms of succession planning, “these are good numbers,” says Mishra. It means corporate boards are taking action to both retain and recruit top-notch talent by, in effect, “paying more to ensure that they’ve got a deep bench,” he says. “It’s the kind of trend line we want to see,” he adds. See also “Using Talent Management to Secure a Company’s Long-Term Survival,” CorpCounsel, September 2011.

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