Is your CEO being overpaid for underperformance? New research suggests it’s possible, and moonshot pay packages may make it worse.
After Tesla awarded Elon Musk billions in stock options in 2018, dozens of companies created similar “moonshot” packages. According to the Wall Street Journal, companies including KKR, Rivian Automotive, Roblox and Robinhood Markets crafted $100 million-plus packages designed to produce breakthrough results.
The results were disappointing. WSJ reported that half the CEOs forfeited much or all of their awards. Only four, including the co-CEOs of global investment firm KKR, met all their targets. Where targets are still being measured, CEOs have earned only about a quarter of the total on average. Shareholder returns trailed the S&P 500 at three-quarters of the 20 companies that created such packages in 2020 and 2021.
The pay parade continues
Herman Aguinis, a professor of management at The George Washington University School of Business, has documented what he calls “minimal overlap between high earners and top performers” in CEO compensation. His research reveals what he called in a LinkedIn post “systemic overpayment and underpayment” driven by flawed assumptions.
Recent market data suggests this isn’t just an academic observation. It’s playing out in real time with measurable consequences.
Despite evidence that extreme incentive packages don’t deliver results, CEO compensation continues to rise. According to Pay Governance’s analysis published by Harvard Law School’s Forum on Corporate Governance, median S&P 500 CEO compensation reached $16.1 million in 2023, up 14% from the prior year.
The report attributes this to strong total shareholder return (TSR), which increased 26% in 2023. The pattern is consistent, according to the research. When TSR is positive, CEO pay increases, on average. When TSR is negative, CEO pay stays flat.
But TSR often reflects market conditions more than CEO actions. How much of any CEO’s raise rewarded skill versus luck?
The power law in CEO compensation
Aguinis’ research explains both the moonshot failures and broader pay inflation. He says compensation systems assume normal distribution when reality follows a “power law.”
Here’s what that means: Traditional compensation assumes CEO performance follows a bell curve, where most people cluster around average and exceptional performance is rare but predictable. Pay at the 75th percentile for 75th percentile performance.
But Aguinis shows that CEO performance actually follows a power law distribution, where a tiny fraction of people hold the vast majority of resources. In CEO performance, a small number create vastly disproportionate value compared to their peers.
Compensation also follows a power law, according to Aguinis, just a different one that doesn’t correlate with performance. This results in an environment where some high performers are underpaid, some low performers are overpaid and the middle is random.
Benchmarking exacerbates this. Paying at market percentiles means benchmarking to a market that can’t accurately price performance.
Aguinis argues for “tailored approaches that reflect individual performance.” But the Journal‘s data shows even bespoke packages failed 75% of the time.
CEO compensation and HR leadership
If billion-dollar companies can’t get CEO compensation right, what can other organizations do to be more balanced? Here are some points to consider at your own company, according to these experts.
Are your incentives actually incentivizing?
The moonshot failures used sophisticated, multi-metric plans designed by experts. Your sales commissions and retention bonuses likely have the same flaws, with less visibility into failure.
Are you rewarding performance or conditions?
Harvard’s data shows CEO pay tracks TSR, but 2023’s 26% rise reflected broad market performance. Do your bonuses reward individual contribution or favorable conditions that employees didn’t create?
Do top performers get top pay?
Aguinis suggests they don’t at the CEO level. Plot your performance ratings against total compensation. Is the correlation as strong as your philosophy claims?
Are you benchmarking to a broken market?
If market pay doesn’t reflect performance, using market data imports someone else’s dysfunction.
