Not all wage gaps are equal

In the face of draft legislation that will require disclosure of wage differentials within companies, a look at why a one-size-fits-all set of benchmarks is impractical.

Various factors can have a significant impact when comparing measures of remuneration inequality. The topic of executive pay, its merits, and its relativity to the pay of other staff members continues to be at the forefront of remuneration debates.

The search for an ideal balance between equity and allowing the free market to dictate what is required to attract and retain top talent has been marred by the reality that these are often competing ideals.

In a perfect world, from a societal point of view, it would be ideal for the wage gap to decline, bringing the salaries of general staff and senior management closer together. This is however not practical, particularly within the largest organisations as the competition for these talented senior staff members is often not only contested by local firms, which raises the stakes of what is required to secure their skills.

In his departmental budget speech on May 18, Trade and Industry and Competition Minister Ebrahim Patel announced that draft legislation of a new bill, which will be finalised in the next few months, will require disclosure of the wage differentials within companies. Patel’s statement is silent with regard to how this will be reported and what it will be measured against.

However, care should be taken when interpreting and comparing these ratios both domestically and abroad. The desire to improve societal equity should not come at the cost of reducing competitiveness (such as driving away scarce talent by setting the targets too low) and should consider what is being measured and how it should be interpreted.

The following are some considerations that will play a significant role when comparing measures of remuneration equity/inequality:

1. Which calculation methodology is used?

Comparing the CEO’s pay to the lowest paid employee or comparing the CEO’s pay to the median salary of a general staff worker will yield different results. The CEO compared to the lowest paid worker often makes for more sensationalised reporting but is computationally easier to calculate than the median of all general staff workers (for reasons such as how to treat part time staff, should outsourced staff be included and so on).

Other variations of these methodologies such as the 10-10 ratio, Palma ratio or Gini coefficient also exist. The methodology used should not only be locally comparable but also internationally comparable given the mobility of highly skilled individuals and their ability to work outside of the local economy.

2. What industry is the company part of?

All industries have their own unique nuances that can alter the values of the remuneration ratios. For example, agriculture makes use of a higher proportion of unskilled and semi-skilled workers in relation to an engineering consultancy. This would alter the proportion of staff paid at lower job grades as one would expect these unskilled and semi-skilled workers to be operating within job grades that are appropriate for their skill level.

For this reason, it is important that the industry within which the company operates is taken into account when viewing their wage gap.

3. Economic conditions across different countries

If these ratios are to be comparable with other regions of the world, then it is imperative that they are viewed in the context of the economy within which they operate. For example, a country with a higher minimum wage will have a stronger chance of outperforming (in terms of the wage gap) a country with a lower minimum wage as this will impact the staff remuneration figure that senior management is being compared against.

Similarly, the tax regime of each country can play a role as it determines how much the staff member’s package is worth to them in the form of their net remuneration. For example, if ‘CEO X’ earns $2 million and faces a flat tax rate of 50% then the net remuneration is $1 million. If ‘CEO Y’ earns $1.5 million but lives in a territory that does not tax personal income, then their net package is still worth $1.5 million and is worth more than what CEO X is earning, despite their before-tax positions.

4. The size of the organisation

Executive remuneration and company size have a positive correlation. This is not because executives are remunerated for the company’s size but rather because the grade of the job, at executive level, within such organisations is higher than that of smaller organisations (pay rises in line with job grade).

This is not necessarily true for general staff such as a cleaner. Within a larger organisation there will usually be more cleaners, but they will be operating on the same or similar grade to cleaners within other organisations. This means that the size of the organisation raises the top part of the ratio (executive remuneration) but does not guarantee that there will be any difference in the base of the calculation (general staff remuneration).

5. The remuneration mix

The mix between the guaranteed and variable portion of pay not only has an impact on the quanta but also on the way the pay is perceived.

If a CEO receives all of their remuneration in guaranteed pay then the incentive to meet targets is not as strong compared to when they have a high exposure to variable remuneration which is dependent on performance. For this reason, variable remuneration should be viewed in the context of its performance. For example, if a CEO performs 200% better than their targets and receives their maximum payout, which is 50% more than their on-target pay, this extra 50% should not be viewed as excessive or unjustified.

No simple set of benchmarks

In summary, when comparing the ratio of executive pay to that of general staff members, it is not as simple as determining a one-size-fits-all set of benchmarks that all organisations must adhere to.

There is undoubtedly a need to reject excessive, unjustifiably high executive remuneration; however, this should be determined on a case-by-case basis rather than through the issuance of a blanket statement rule. Within publicly listed organisations, this is where the shareholder’s vote on the design and implementation of the remuneration policy is of critical importance in monitoring the justifiability of executive remuneration.

Perhaps an alternative approach to implementing a targeted wage gap approach is to rather provide the shareholder’s vote on remuneration with more consequences that hold the remuneration committees accountable for their approach to their remuneration policy,

Written by:

Bryden Morten
Executive Director, 21st Century

Chris Blair
CEO, 21st Century