Should shareholders decide CEO salary?

Feb 14, 2013

In this issue:
» Chinese monopoly over rare-earth resources continues
» Conflicting views on MGNREGA
» Rural development at risk as Centre is cash strapped
» SEBI freezes Sahara accounts
» ...and more!

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Asymmetry of information. While it is seemingly harmless, it can be a major cause of conflict in principal agent relationship. Especially if the party that has more information uses it for its own advantage. Classic example of principal - agent conflict is the one arising between business managers and shareholders. The shareholders are, in effect, principals as they are the owners of the company. Managers, on the other hand, are agents who manage the business on behalf of principal.

Generally, managers know more about the business than shareholders. So, there is asymmetry of information. As long as the agents carry their duties diligently without sacrificing the interest of stockholders, it is fine. But if the agents try to unduly benefit themselves from the information advantage then there is conflict.

Various examples where agents try to exploit their position against shareholders include excessive executive pay, changes in business expansion plans etc. But it seems that the shareholders have become more alert now. Take the case of two Swiss companies namely Roche Holdings and Nestle SA for example. Currently, their respective CEOs earn some of the highest salaries in the world. But shareholder activism is likely to change this soon.

The shareholders of both the companies have signed a petition which aims to limit fat pays to their CEOs. In fact, a referendum is being proposed whereby by compensation to top CEOs would be set by the shareholders themselves. It will also give them authority to block bulge bracket payments made to top CEOs when they leave the company. The industry lobby is strongly opposing the move believing that it will drive out taxpaying companies from the country. But there are very few supporters to this argument.

Now it is true that CEOs remuneration must be closely linked to their skill sets and wealth creation abilities. Warren Buffett, for example, showers praises on CEOs who are excellent capital allocators. But inability to justify their pay with adequate shareholder returns, can make CEOs look grossly overpaid . And shareholder activism around the world will no longer allow that.

We feel there is strong need for such kind of shareholder activism in India as well. And for that to happen, shareholders will have to think and act like owners of the company. They must get more aware about their rights and privileges. If not, they will be continued to be exploited in the name of minority.

Do you think shareholder activism in India can stop Indian CEOs from being over paid? Share your comments or post them on our Facebook page / Google+ page

 Chart of the day
As today's chart of the day shows, India's road network is predominantly governed by rural roads. Out of the total 3.3 m kms of road network spread throughout the country, rural roads account for approximately 2.6 m kms. This is 79.6% of India's total road network. District road network has total length of about 0.47 m kms, accounting for almost 14.1% of the total road network. However, State highways and National highways lag far behind. Collectively, they contribute 6.3% to India's total road network. Despite such a measly contribution it is interesting to note that National Highways carry about 40% of India's total road traffic. Thus, there is a strong need to expand the national highway network across the country.

To swiftly expand the national highway network, National Highway authority of India (NHAI) sets targets for itself on an annual basis. For this fiscal, the overall target is 9,500 kms. Out of that, only 1,000 kms of highways have been partly constructed/awarded till date. Thus, NHAI will have to finish awarding 8,500 kms within the next one and half month to achieve its target. And this appears quite challenging.

Data source: NHAI
* National Highway; # State Highway; $ District Roads

What comes to your mind when you think of the remote arctic circle on the island of Greenland? The snow covered Danish protectorate with a population of barely 57,000 hardly evokes any economic curiosity. But a recent revelation by Bloomberg Businessweek suggests quite the opposite. It seems the tiny economy is courting foreign investors to tap mineral deposits. Particularly now since the deposits are becoming more accessible as rising temperatures shrink the island's ice cap. And when it comes to tapping foreign natural resources, you can rest assured that China is in the reckoning.

Now, a British company wants to open a US$ 2.3 bn iron ore mine in Greenland. But the entity would be financed, built, and operated mainly by the Chinese. The key worry is that the project could make Greenland a flashpoint for tensions between China and Europe. For this project could unearth rare mineral elements used in manufacturing computers and other high-tech items. The European Union has urged Greenland to restrict Chinese development of rare-earth projects there. China already accounts for 95 % of the world's rare-earth mineral supply. As a result, the economy wields monopolistic power. However, the Greenland government is unwilling to give preference to Europeans over Chinese. Hence, it is possible that Chinese monopoly over rare-earth resources could get much stronger in the years to come.

Mahatma Gandhi National Rural Employment Guarantee Act (MGNREGA). This has been one of biggest job guarantee schemes for the rural masses. Has the scheme had a positive impact? This is a highly debated matter. In fact, members within the Union Cabinet differ in their views about the scheme. On the one hand are Finance Minister P Chidambaram and Agriculture Minister Sharad Pawar. Both believe the scheme has adversely affected availability of labour for agriculture. As per them, people find it more lucrative to enrol themselves for MGNREGA instead of working on agricultural land. Moreover, they are also of the opinion that not all the work done under the MGNREGA leads to the creation of productive infrastructure. As such, the Finance Minister has been pitching for a cut in the scheme's budget.

But Rural Development Minister Jairam Ramesh has a contrary view. According to him, the scheme has indeed had a positive impact. He points out that decline in agricultural labour could not be blamed on MGNREGA because the trend had begun prior to the launch of the scheme. In his view, migration and urbanisation are the real reasons for that. Moreover, he opines that the scheme has, in fact, helped improved agricultural productivity by supporting marginalised farmers. As per him, some of the major benefits of the scheme include better wage rates, including narrowing of the gender gap, increased avenues of work for the marginalised, increased agricultural production and productivity, attention to water-related works, etc. As such, he has been pushing for expansion of the scheme.

The sorry state of affairs that the government's finances are in was bound to have an impact on developmental activities in the country. The latest victim in this regard is the rural development ministry. Development of the rural regions has always been the top priority on the UPA government agenda. But so strained are its finances, that the ministry will set to see a decline in central assistance for the first time in the past 4 years. Indeed, the allocation is expected to decline by 0.8%. The government so far has been struggling to bring its fiscal deficit down. Although a roadmap to lower it had been outlined, it has been unable to stick to its targets. It was heavily banking on the disinvestment programme which has seen poor response this fiscal on account of weak market sentiments. Tax revenues have not been able to do much in bridging the gap. Meanwhile, the government is reluctant to let go of subsidies (which is linked to vote banks) especially when elections are around the corner. In all of this, much needed investments required in infrastructure, rural development and education are pushed to the sidelines. All in all, it looks a like a few tough years ahead for the government.

Sahara India is no stranger to controversies. The brand has been a key sponsor of the Indian cricket and hockey teams for years. It is a household corporate name across India, particularly in the smaller towns and cities. But, the promoters have very little reputation to uphold. The capital market regulator Securities and Exchange Board of India (SEBI) seized bank accounts and properties of two Sahara Group companies and its promoter Subrata Roy. These include various real estate special purpose vehicles (SPVs). Plus land development rights in Aamby Valley. The regulator has come down heavily on the group in an investor refund case of Rs 240 bn in convertible debentures floated by various group entities. The Sahara Group reiterated that it owed only Rs 51.2 bn to investors, a far cry from what it actually does. Banks holding accounts of the companies have now been told to move funds to a prescribed account opened to refund investors who had purchased the debentures. Well, we sincerely hope these investors get their hard earned money back. We hope it doesn't become another Kingfisher Airlines saga.

When you have a lot of excess capital to invest and are looking at beating the markets - when they are performing well - what would you do? Expand your investment palette. Or look at other assets classes. Isn't, it? This is what was happening a while ago, with India's affluent i.e. the high networth individuals (HNIs). Investment in exotic and innovative assets classes such as art and wine funds or betting on yachts for that matter seemed to have been the trend back then. However, with uncertain times being witnessed across economies, these HNIs seem to be following the back to basics mantra. As such, simple investment tools such as mutual funds, fixed income, gold and real estate are being preferred now. While uncertainty is one aspect, it is believed that investments in innovative asset classes have completely dried up and more so, that investments in these avenues have not paid off.

The Indian share markets have been trading in a volatile manner today. After opening weak, the indices bounced in to the green for some time before falling again. At the time of writing, BSE Sensex was down by 27 points (0.1%). Auto and capital goods stocks witnessed maximum selling pressure. With respect to other Asian stock markets, all were in the green zone except Singapore.

 Today's investing mantra
"Mimicking the herd invites regression to the mean." - Charlie Munger

Click here to read our series on 'Lessons from Charlie Munger'

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13 Responses to "Should shareholders decide CEO salary?"

Thiagarajan R

Feb 22, 2013

Yes.The shareholders have every right to decide CEO salary. Now it
is customary to receive ballot paper every time to revise CEO
salary by all share holders. But most of the shareholders never
cast their votes. If they feel it is too fat then they should cast
their vote against. Then only it is possible to stay the fat
remuneration inconsistent of their ability


Ragini Ghanekar

Feb 18, 2013

I want to write about Rural Development Ministry. If rural development ministry want to implement various development schemes it does not need rural enmployment guarantee scheme. It can use the same budget towards development schemes and complete the projects at competitive rates. There is no need to reach the target of employment guarantee. It should reach the target of rural development and should have evidence to prove that they have build the projects and in which way it has improved agricultural production and the lot of rural people. And also they should make sure that these projects are maintained and not washed our in the next monsoon.



Feb 15, 2013

Share holders'activism is nascent in India. Remuneration of a CEO naturally should be proportional to the benefits offered to share holders. But how this is executed is a mute question.


T. Ramachandran

Feb 15, 2013

Actually, shareholders are helpless when company sends resolutions for approval. They have only one option to go along with other sjareholders, i.e, say yes.

The Companies Act should suitably amended to fix minimum and maximum salary and perks payable to the CEO based on the share capital, volume of business etc. There should also be clause to provide certain per centage of profit as incentive to the CEO in addition to the salary and perks already provided. The loss making public limited companies should not be allowed to substially increase the salaries of CEOs, as it is really a burden on the shareholders whose money is blocked in the company. Company Law Board should take care of the interest of the common / ordinary shareholders by making suitable amendments in this respect. Otherwise, the salaries of CEOs are fixed by the companies' directors according to their mutual convenience and interest.



Feb 15, 2013

If an employee works for organisation elevation he should be regarded for that and vice versa it is nothing but gives sense of ownership which is required to bring best possible contribution from an individual thence shareholder's involvement in deciding CEO salary will result for the same, But the main questions arise here is that equal consideration to be given to institutional as well retail shareholder to vindicate the participation by all.



Feb 15, 2013

I share the view that salaries of directors of public limited companies should be decided by the shareholders. Very often undeserving candidates take huge salaries while the shareholders lose money. Perhaps, SEBI can suggest a system for shareholders participation in deciding exective salaries.


HG Sharma

Feb 15, 2013

Share holder activism is a long pending necessity . It is true that minority status makes every them feel helpless,but jointly their voice can be echoed. This need an association of share holders in each company. Along with investors literacy a collective movement needs to be heralded.A collective Representative of minor share holders(presently not represented in Board) shall be involved in fixing CEO's remunerations , and minutes of meeting shall enumerate what is the rational in fixing duties ,responsibilities and matching remunerations.


Ravi Kant

Feb 14, 2013

shareholders have not thinking too much on this issue in india .But if they aware about this by literature or seminar
by govt. then only this happen here. ofcourse knowledgeble CEO must be paid high. Thanx for such type effort from you.


mk k dubey

Feb 14, 2013

your point is well taken.but same thing is happening with 125 crore shareholders of indian parliament.asymmetery of information provides asymmetrical powers in the hands of so called agents.This system can be eradicated only by forces like Mahatma Gandhi (peacefully) or God (ASYMMETRICALLY)? Otherwise we can only give it a try to any concept of such activism.



Feb 14, 2013

A Shareholder must know the Business in which he is buying shares. But it is not so always.

All shareholders deciding the issue would be a democracy!

Democracy is not successful if voters are not responsible!

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