Executive pay and compensation packages are a hot topic in todays world of business and public analysis. Many top executives in the United States are seen as more highly compensated than is necessary, while other Americans are struggling to make ends meet. Even so, the cost of executive compensation continues to increase despite efforts to curtail this type of company spending.

Despite the fact that the cost of compensation is steadily increasing, a company´s performance often depends on the performance of a good Chief Executive Officer (CEO). Therefore, it is often necessary for a company to pay its CEO handsomely, usually well above the market rate, in order to retain him or her as one of the company’s most prized assets.

This paper analyzes this notion and gives an in-depth look into the concept of pay for performance for senior executives such as CEOs. It is important to note that a company’s Board of Directors, shareholders and compensation committee are responsible for executive compensation package proposals presented to prospective CEOs, and they are charged with weighing possible risks against benefits for any particular package presented.

CEO Compensation

There is a consensus in America regarding executive compensation and it is the philosophy that it is better to align executive compensation with performance. It is reasonable, considering that it just makes sense that paying an executive more for better performance is motivational to the executives (Ferracone 2010).

As analyzed by Gomez-Mejia, Tosi & Hinkin (1987), compensation for CEOs is as follows:

Compensation has three distinct components: salary, bonuses, and long-term income. The last includes a wide array of deferred compensation benefits like pensions, profit sharing, stock options, IRAs, and bonus deferrals (60).

The above quote outlines the totality of the basic CEOs compensation package, not including any added benefits or perks the company deems is necessary to attract and retain their chosen CEO executive. However, the bottom line is whether or not the executive is capable of handling the responsibilities of being the top executive for the firm.

According to Lewellen, Loderer, Martin & Blum (1994), senior executives are responsible for their corporations’ sound investment and financing decisions and also to ensure that their firms’ shareholder and investor interests are well taken care of; however, there is concern by many shareholders and investors that their corporate executive may not do was is expected. This brings up the issue of whether there is a correlation between the size of senior executive compensation packages offered and the firm’s financial performance standing.

A positive correlation between the two can result in a reduction of overall costs for a large corporation (Lewellen, Loderer, Martin & Blum 1994). This is significant, given the fact that many smaller firms are competing in the marketplace with larger firms that can afford better executive compensation packages.

Similarly, Gomez-Mejia, Tosi & Hinkin (1987) suggests that economic theory concerning executive compensation is based on the human capital theory, and it relates to a company’s size as being associated with how difficult a top executive’s job is.

It is further noted that organizational size and the CEO’s compensation package should be closely related and based on the complexity of the jo