Glance at GlaxoSmithKline's (GSK) last annual report, for example, and you'll see that its CEO, Sir Andrew Witty, was paid £3.9m in 2012 and his package for 2013 is £10.7m. Not a bad increase then? Look closer and you realise that this isn't comparing like with like. £10.7m is the maximum he'll get if GSK fires on all cylinders over the next five years. He's actually expected to get somewhat less.
In fact executive pay has two definitions: actual pay (what they get) and potential pay (the maximum they can get - and the one that often hits the headlines). Plunge in deeper and you'll find that pay's made up of a bewildering mish-mash of salaries, benefits, cash bonuses, deferred bonuses, share awards and performance conditions.
All Sir Andrew can rely on is a salary and benefits, together worth £1.1m a year. Consultants say that this is the going rate for running an £80bn multinational like GSK, and Sir Andrew gets this just for turning up for work. The rest depends on how well he does the job.
But paying for performance isn't easy. First, you have to assess the performance. And then you have to hang pay on to it. Whose performance, that of the company or that of the individual? And what's pay for? To reward past achievements or encourage future ones? And what sort of performance? Short-term gain or sustainable growth? Or both? Pay is expected to accommodate issues like these.
Sir Andrew's 2012 bonus of £0.9m depended on a mixture of GSK's 2012 profits and the board's assessment of his personal contribution (which included actions like making strategic acquisitions, recommending key people and making clinical research more transparent).
Now for a twist: he got half the bonus straight away but chose to defer half in shares for three years. The deal is that GSK will double what he's deferred if the group's future performance is good enough. So pay earned for past achievements has provided a stake for pay that depends on the future.
That's far from all. In 2013, he was also awarded £6m of GSK shares, subject to similar performance conditions, although some stretch over five years. How much will this be worth? The board expects him to end up with half, but the actual value will of course depend on the share price.
And to combat short-termism, there's another twist: GSK requires its CEO to hang onto these shares until he owns £4m worth. That's another risk for him - the GSK share price won't need to move by much for the gain or loss to be more than his net salary.
Throw in this shareholding requirement and in round terms, Sir Andrew is guaranteed £1m with another £10m riding on how well GSK and its share price performs in the future. Some assume (though reliable data to support this is somewhat lacking) that this amount of pay-at-risk incentivises recklessness. In fact, it's more about rewarding success and holding executives to account - they're responsible for company performance so they only get paid if it prospers. If they screw up, the company suffers, the share price drops and so does their pay.
But what will make GSK prosper? The strategy is threefold, with pay subject to a performance condition for each: cash generation; a continuing product pipeline; and expansion of growth businesses (such as vaccines, consumer healthcare and emerging markets).
And there's a fourth condition too, which pitches GSK's total shareholder return (the share price with dividends reinvested) against global competitors. This directly links executive pay to how good an investment their company turns out to be relative to others.
Throw in safeguards to avoid short-termism (the awards won't pay out early if the CEO leaves); allow the Remuneration Committee to claw back awards if they turn out to be undeserved; and to adjust the payouts for windfall achievements (such as gains from pandemics or exchange rate movements) and there you have it: a transparent pay structure hedged in by corporate governance. It has checks and balances to align pay with what shareholders want; is intended to reward long-term growth; and it aims to minimise rewards for failure.
But this sort of structure, which is typical of many companies, is hardly straightforward.
When the High Pay Commission looked into executive pay a couple of years ago, it weren't alone when it claimed: "...pay packages have become increasingly complex, damaging relations with shareholders, creating misperceptions and encouraging confusion and obfuscation".
But you can't have it both ways. If you want to pay executives according to how well they do their jobs, with safeguards to avoid undeserved gains, you can't avoid ending up with a web of pay elements similar to GSK's. Alternatives risk what HL Mencken, the sage of Baltimore, observed a century ago: "For every complex problem there is an answer that is clear, simple... and wrong".
