Compensation consultants whose firms engage in other types of business with the same client contribute to skyrocketing executive pay, according to Rep. Henry Waxman, a Californian Democrat and chairman of the House Oversight and Government Reform Committee. He released a nine-page report (see it here)written by the panel’s majority staff that outlines “pervasive” conflicts of interest and asserts that the more conflicts there are, the higher a CEO’s pay will be.

The report, which was the centrepiece of a committee hearing, says 113 of the Fortune 250 companies used consulting firms for pay guidance as well as other services in 2006. Fees for compensation work averaged $220,000, while those for other projects averaged $2.3 million.

That is, for every dollar the consultants were paid to advise on CEO and executive pay, they were paid $11 by the company management to perform other services to the company, according to the committee chairman.

The survey of six leading and allegedly “conflicted” consulting firms showed that CEO median salaries at companies who hired them for the most work were 67 percent higher than the median pay of CEOs at companies that did not use “conflicted consultants.”

Consulting firm executives at the hearing defended themselves. Representatives from Towers Perrin, Hewitt and Mercer said guidelines and protocols they follow prevent tainted compensation advice. They also asserted that boards of directors, not the consultants, make the final pay decisions based on market factors.

US audit firms were not investigated by the committee because, under the US Sarbanes Oxley Act, audit firms are barred from giving executive remuneration advice because of conflicts of interest. There is no such restriction on audit firms in Australia, where the four largest firms provide executive and board remuneration consulting alongside tax and audit services.

An academic who appeared before the committee advocates independent compensation committees hiring consultants who concentrate only on compensation. An expert witness called before the committee produced a job ad for an executive compensation consultant within one of the allegedly conflicted firms that stated one of the position requirements as “cross-selling consulting and other services to existing and new clients”.

The extent of potential for conflict in Australia is not known, as there is no requirement for companies to disclose whom their advisers are, what other services they provide, and the value of these services. Guerdon Associates is the largest of the few firms in Australia that advise exclusively on board and executive pay matters.

Another Guerdon Associates’ article on adviser independence can be found here. 

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