Final Update on the CEO Pay Ratio: Here’s What You Should Know Before the 2019 Proxy Season

July 19, 2018 Scott Allen

Now that we are halfway through 2018, we’re updating our CEO pay ratio analysis one last time to show you what has changed since our preliminary findings and our last update back in April. While there has been some media attention on pay ratio figures, there has been little in the way of a groundswell in response. As expected governance organizations have not made any recommendations based on the pay ratio, which likely has contributed to the lack of activity surrounding the reporting.

Furthermore, our clients tell us that the number of employee inquiries has been modest.

However, it will be interesting to see how companies modify their approach to the calculation of the ratio next year. Given that companies are not required to update the median employee calculation every year, they may choose to not make any immediate changes to their approach. We’ll also continue to monitor any shareholder activism related to Pay Ratio results and report back.

This will be our last CEO pay ratio update for the year, but you can arm yourself with the knowledge you need as you start to prepare for the 2019 proxy season.

Background

In 2015, the Securities and Exchange Commission adopted the CEO pay disclosure rule mandated by the Dodd-Frank Wall Street Reform and Consumer Protection Act, effective with the financial year starting on or after January 1, 2017. The intent of the Pay Ratio Disclosure rule is to provide shareholders with some sense of the relationship between CEO compensation and the typical employee and to bring more transparency around their pay levels. Public companies are required to report the ratio of CEO annual total compensation to the annual total compensation of the median employee. Though companies must calculate this ratio annually, they are required to identify the median employee only once in three years.

Our Findings

Among companies in Aon’s Compensation and Governance Professional (CG Pro) database so far this year, the median CEO pay ratio is 90:1. Not surprisingly, the larger a company’s revenue size, the higher the CEO pay ratio.

There is typically a strong correlation between CEO pay and the size of the organization, while other factors influence pay levels for non-executives, such as the median employee. In addition, larger companies are more likely to have foreign operations and roles in lower cost locations.

Figure 1

CEO Pay Ratio by Company Size

Source: Aon CG Pro Database 

The industries with the highest ratios are Retailing, Consumer Services, Automobiles & Components, and Food & Staples Retailing, based on the companies in CG Pro that have disclosed CEO pay ratio to date.

Figure 2

CEO Pay Ratio by Industry

Source: Aon CG Pro Database 

Industries with smaller pay ratios tend to be ones that are more likely to have U.S.-centric workforces and higher median pay. In comparison, companies that have a majority of the workforce consisting of part-time or seasonal employees tend to have a higher pay ratio as a result of the comparatively lower median employee pay. For instance, Weight Watchers International Inc. — which has a pay ratio of 5,908-to-1, mainly due to a high proportion of its workforce comprising part-time employees — leads to a significantly lower amount of median employee pay as compared to its CEO pay.

Alternative Pay Ratio

Disclosure rules allow companies to also provide an alternative ratio in addition to the required pay ratio. 172 of the companies (11%) chose to provide an alternative ratio, the median alternative ratio was 40% lower than the required ratio, and the average was 13% lower. Most often, companies excluded one-time equity awards from the calculations. Interestingly, the alternative ratio of 28 companies was higher than the required ratio.

Calculation Methodology

The methodology for determining the median employee is determined by each company, either by using the actual median employee, or statistical sampling. In addition, companies needed to determine what the employee data-set should be. Companies are required to include both U.S. and non-U.S., full-time, part-time, temporary, and seasonal workers. Non-U.S. employees are excluded only if they are from countries where privacy laws may prevent the company from complying with the rules, or in cases where Non-U.S. workers make up 5% or less of the total employee population (the de minimus exclusion). Companies are also able to apply a cost-of-living adjustment to the actual total compensation of the median employee.

Among the companies in this analysis, 2.5% reported using statistical sampling and only 1% reported using a cost of living adjustment. At this point companies do not appear to be seeing a benefit from the extra work required to use these two adjustments.

A Final Word

We used Aon’s Compensation and Governance Pro tool to conduct this analysis, and you can too. CG Pro provides proxy information for the Russell 3000 using a simple to operate self-service tool. If you have any questions, or would like to know how Aon and CG Pro can help your organization navigate the complexities of corporate governance issues, please contact us.

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