Why “Pay For Performance” Is a Sham

In his latest column for Forbes online, Drucker Institute Executive Director Rick Wartzman writes about the concept of “pay for performance.”

Wartzman points to a piece in last week’s Wall Street Journal, which trumpeted the fact that more than half of the compensation awarded to 51 CEOs last year was tied to their companies’ financial results or stock price. That was up from 35% in 2009, according to Hay Group, a consulting firm.

“But this also raises a question,” Wartzman writes. “How is ‘performance’ being defined? . . . Meeting financial targets, while obviously vital, is an awfully narrow way to think about executive performance. Indeed, [Peter]Drucker believed that there were at least four other criteria that should be used in creating a ‘scorecard for management.’”

Wartzman then highlights these four: how successfully capital has been invested; how effectively people have been hired and promoted; how innovation has been managed; and how well business planning has been carried out.

“Drucker decried the surge in CEO pay,” Wartzman says. “He thought that, among other problems, it undermined the spirit of the organization.

“But Drucker also would have frowned on the formulas being used to justify such outsize compensation,” Wartzman adds. “Unless companies do more than track financial metrics when rewarding their CEOs, ‘pay for performance’ will continue to be a misnomer.”