Put a Cap on CEO Pay

Peter Drucker thought the top exec shouldn't get more than 25 times the average salary in the company. Here's why

For a guy whose astute counsel helped to make so many CEOs rich, Peter Drucker had an intense loathing of exorbitant executive salaries.

He hated high CEO pay on every level: what it said about the individual as a leader, how it undermined the smooth functioning of the organization, and the way it tore at the fabric of society as a whole.

Drucker's strong feelings on the subject—he once termed sky-high CEO compensation "a serious disaster"—are well worth revisiting in light of the news that the men who sat atop Fannie Mae and Freddie Mac (FRE) (BusinessWeek, 9/10/08) could be eligible for as much as $24 million in severance and other benefits after being ousted from their positions. Last week the federal government was forced to step in and rescue the faltering mortgage giants in a move that could cost taxpayers billions.

Although it wasn't immediately clear whether the two departing CEOs, Fannie's (FNM) Daniel Mudd and Freddie's (FRE) Richard Syron, would actually walk away with all that dough, the prospect of such a windfall has resonated on the Presidential campaign trail and helped to stoke a national debate about executive pay.

Drucker's stance on the issue, articulated consistently over many years, was controversial. But it was rooted in his belief that the best leaders are those who understand that what comes with their authority is the weight of responsibility, not "the mantle of privilege," as writer and editor Thomas Stewart described Drucker's view. It's their job "to do what is right for the enterprise—not for shareholders alone, and certainly not for themselves alone."

Last year, according to a report just issued by the Institute for Policy Studies and United for a Fair Economy, S&P 500 CEOs received pay packages worth, on average, $10.5 million. That was 344 times the earnings of the average American worker.

What Drucker thought was more appropriate was a ratio around 25-to-1 (as he suggested in a 1977 article) or 20-to-1 (as he expressed in a 1984 essay and several times thereafter). Widen the pay gap much beyond that, Drucker asserted, and it makes it difficult to foster the kind of teamwork that most businesses require to succeed.

"I'm not talking about the bitter feelings of the people on the plant floor," Drucker told a reporter in 2004. "They're convinced that their bosses are crooks anyway. It's the midlevel management that is incredibly disillusioned" by CEO compensation that seems to have no bounds.

This is especially true, Drucker explained in an earlier interview, when CEOs pocket huge sums while laying off workers. That kind of action, he said, is "morally unforgivable."

Notably, Drucker wasn't opposed to rewarding some people like kings. "There should, indeed there must, be exceptions," he wrote. "A 'star,' whether the super salesman in the insurance company or the scientist in the lab who comes up with a half-dozen highly profitable research breakthroughs, should be paid without any income limitation."

But the chief executive has a special duty to show that he or she is "just a hired hand," Drucker said, invoking the words of J.P. Morgan. "That's what today's CEOs have forgotten."

Not all of them, of course. Last year, Costco Wholesale (COST) CEO 2 Next Page