Editor's note: This post originally appeared on the Sustainable Business Consulting blog.
By Kevin Wilhelm and the Sustainable Business Consulting team
The Securities and Exchange Commission (SEC) recently voted 3-2 on a proposed rule to link CEO compensation to company financial performance. The rule came from the 2010 Dodd-Frank Act, and while the information required in the rule is already publicly available, the rule would make it more transparent and simpler for stakeholders to find and understand.
The news surrounding this rule and other public calls for business transparency in the past few years got us thinking about our own firm, Sustainable Business Consulting (SBC). Our mission is to help companies realize the business value of integrating sustainability — including increasing transparency. But we also strive to live that mission internally. We believe that if we can test out and succeed with innovative transparency practices, then we can better help other companies achieve the same.
There are two specific practices of which we are especially proud: setting our CEO’s salary and implementing open-book financials. We want to share our journeys with you to establish each. We encourage you to reach out if you want to learn more about our experience or talk about setting out on a similar journey yourself.
One day toward the end of 2014, our CEO, Kevin Wilhelm, turned to our team and said, “You know, with all this press about the pay differential between CEOs and front-line workers, I want all of you to set my salary in 2015.”
That’s not something you hear every day, especially in today’s business world.
The vast difference between CEO and worker pay has been all over the headlines in recent years. In 2013, U.S. CEOs were paid a whopping 331 times more than the average worker. Perhaps more alarming than that number itself is how rapidly it has increased over the years. According to the Economic Policy Institute, the CEO-to-worker pay ratio in 1978 was 29.9-to-1, and CEO compensation rose by 937 percent between then and 2013, more than double stock market growth. Over the same period, workers’ pay grew by only 10.2 percent.
Without looking at the numbers, many of us have an understanding that CEO-to-worker pay ratio is high, but do we have a concept for how high it really is? A recent Harvard Business School study revealed that people’s perceptions of CEO salaries are far different from reality. Individuals surveyed in 40 countries estimated current CEO salaries to be about 10 times that of workers, and stated their ideal ratio would be about 4:1. That’s a little different from our 331:1 in the U.S., which also happens to have the largest ratio by far (the next highest is Switzerland at 148:1).
According to the same study, sentiments related to CEO compensation are fairly universal: “It turns out that most people, regardless of nationality or set of beliefs, share similar sentiments about how much CEOs should be paid — and, for the most part, these estimates are markedly lower than the amounts company leaders actually earn.”
Back to our company, SBC, and our challenge. We thought, “How can our small firm be part of a solution on such a large issue?” Kevin’s answer was simple — lead. SBC is a company that empowers its employees. And what’s more empowering to employees than deciding what your CEO’s work is worth to your company?
Like many ideas that seem simple on paper, the actual implementation was a terrifying prospect, not just for Kevin but actually for our entire team. None of us had ever done this — it had never even occurred to us! Who were we to say how much our CEO should make? Moreover, what if we set the salary lower than he was expecting? Would there be repercussions in our salary discussions? Or what if we accidentally blew the budget by compensating him too much? We knew this was important work, though, so we trudged through the discomfort and came up with a plan.
How did we do it? We researched traditional tactics and guidelines that Boards of Directors use to evaluate CEOs and came up with our own evaluation criteria. We decided on eight categories and assigned each a weight according to how important we thought they were to our organization. The three that rose to the top were knowledge and skills; relationships with clients, the community and suppliers; and business development.
Then we sat down and evaluated our CEO to truly determine his value to the organization.
We used the results from our evaluation to nail down Kevin’s actual salary number, and once again, what seemed like a relatively simple step got complicated. We had to get past the idea that we weren’t choosing the salary of anybody – this was our CEO.
We scored our evaluation results and determined which salary levels to assign to each range of scores. This involved digging in to our budget, forecasting the following year and perhaps most importantly, determining our own CEO-to-worker ratio that felt authentic to our organization.
It wasn’t easy, but we decided on a base salary ratio range between 1.5:1 and 3:1, depending on our budget in any given year.
The whole experience was invaluable. As a company that already fosters open communication and transparency, this formal process took it to a new level.
And while developing our own evaluation criteria and engaging in meaningful conversations with Kevin were important, perhaps the most significant step was the most simple: choosing the final salary ratio. So often, organizations engage in lofty conversations and make plans without taking action. It took courage and a few weeks of discussion, but settling on our CEO-to-worker ratio and implementing it allowed us to walk the talk and take a step toward a larger, societal solution to a major issue.
And Kevin’s feelings after the whole process? “It was a big leap of faith and a bit risky. I wasn’t sure how it would all play out, and in the end, what I might end up getting paid! Looking back, I’m confident we made the right decision, and our company is stronger for it. I invite other CEOs to follow our lead.”
It wasn’t until after the financial crash of 2008 that the SBC team, and its CEO, truly understood what it meant to be fully transparent.
Like many companies, as we headed into 2009, we faced a harsh financial reality. Many of our clients were telling us that they loved us, and that we had done exceptional work, but due to budget cuts on their end, we were not likely to have any work with them for the next year or two.
All of this put tremendous pressure on our company’s bottom line. Like most CEOs, I was stressed about how I was going to meet payroll while also trying to decide how much our financial situation I should share with my employees. I finally said, “The heck with it. If we won’t be 100 percent transparent, who will?”
So, on March 1, 2009, I opened up my books to every employee in my company.
I had never considered doing this before. In fact, although I had read case studies of other organizations doing it, I had never known anyone who had personal experience with this level of transparency. But with revenues declining and my not being able to sleep many nights, I felt that everyone would benefit from understanding the true economic reality. I figured that I had little to lose and much to gain.
We started with an honest and frank discussion about the state of the budget and forecasted revenues, and we talked about what that could mean for everyone. The employees, of course, had been feeling anxious, too, but our conversation provided them with the opportunity to speak frankly, share their fears and, most importantly, engage and feel empowered to help come up with a solution. “It made it so that there were no surprises,” said Senior Consultant Ruth Lee. “It showed trust through all tiers of the company and fostered a stronger team feeling that we’re all in this together.”
We immediately started brainstorming ways to save money, get new clients and improve our process efficiency. “By presenting the situation transparently, we could all ask ourselves what we could do,” said Lee. What was amazing was that this new level of transparency led to increased morale, a better financial understanding of the company by my employees and a feeling that we were all in control of the situation.
So, instead of me just saying, “No,” to new equipment purchases or ideas, together we would decide to hold off on a non-vital purchase for the next few months. In fact, in many cases it was my employees themselves who mentioned shifting some expenses into the future and canceling others. This financial transparency continues to this day in how we make shared decisions, and we make smarter financial decisions because we have more perspectives in the room.
What I learned was that if I trusted my employees and showed them respect, they would engage. None of this was easy, but instituting our open-book policy was a leap of faith that resulted in one of the achievements that I’m most proud of with my firm.
It has been eight years since our “experiment,” and open-book financials are now business as usual for us. This level of transparency now feels normal.
I invite other leaders to pursue the practice of open-book financials, or something like it, with their employees. It will be tough at first, but if you want to have the most engaged workforce and stakeholders in our ever-evolving business landscape, transparency is key.
Image credit: Flickr/Mackenzie Kosut
Kevin Wilhelm is CEO of Sustainable Business Consulting (SBC).