Underpaid CEOs Are More Likely to Fire Employees

From implementing strategic policies to motivating employees, a chief executive officer or CEO plays a crucial role in the effective running of a company. In companies, one of the major motivating factors for better performance at workplace is higher pay. A research, however, has found that CEOs who are paid less than their peers are four times more likely to engage in layoffs.

The research by the Rutgers School of Management and Labor Relations and Binghamton University in the US analysed if the CEO pay was related to layoff announcements made by the C-suite executive themselves. The researchers examined the data that included CEO pay and layoff announcements made by Standard & Poor's 500 firms from 1992-2014 in the financial services, consumer staples and IT industries.

After adjusting the analysis for a number of factors that could influence a layoff (industry conditions, company size, firm performance, etc.), the researchers found the "underpaid" CEOs were four times more likely to announce a layoff, even when all of those other factors were accounted for.

Layoff Fears

Scott Bentley, assistant professor of strategy at Binghamton University, says in the research, "In terms of strategic decisions that a CEO can make that could lead to higher pay, layoffs are one of the easiest to do. Relative to other decisions such as mergers or acquisitions, layoffs typically don't need the approval of shareholders, the board or regulators, and they don't take years to do. Layoffs can be determined overnight."

"In a way, CEOs are just like any other type of employee. They are going to compare their pay to those around them. The difference is that the average employee can't make strategic decisions for the company that influences their own pay. Executives can," he adds.

Pay Cuts Or Job Layoffs?

What surprised Bentley the most was that the relationship between lower pay and the likelihood of layoffs disappears when a CEO is paid more than his or her peers.

"Right around the point where CEOs are paid equal to their peers, the effect kind of goes away. We found that there's this huge dropoff in the likelihood of announcing layoffs once your pay is relatively the same as, or more than, your peers," says Bentley.

On average, researchers found CEO pay generally increased in the year following a layoff when firm performance also improved.

"While there are some instances where pay increased when performance decreased, we found that if the company and the shareholders don't benefit from the layoffs, neither does the CEO in most cases," Bentley explains.

The findings highlight the importance of corporate governance and aligning the interests of the CEO with shareholders and employees.

"While we can't necessarily restrict a CEO's behavior or motivations, there may be ways to restrict the extent to which they are rewarded or impacted by decisions such as layoffs," says Bentley.