Does China Have an Executive-Compensation Problem?

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Since China opened up to the world with its sweeping economic reforms in the late 1970s, and especially in the past decade as private-sector enterprises have mushroomed, the model of executive compensation in the country has increasingly mirrored ones in the U.S. and Europe.

How is it, then, that Chinese executives are paid only a fraction of the compensation earned by their American counterparts in companies of equal size in the same industries? Or are they?

In China, executive compensation above tens of millions of yuan (1 yuan equals 16¢) would be seen as astronomical and would cause an uproar. In 2007, the latest year studied, China Stone Management Consulting Group used compensation disclosures in companies’ annual reports to analyze data on executive compensation at China’s 200 largest public companies by market capitalization. They found that 64.8% of executives received compensation ranging from 100,000 to 500,000 yuan (about $16,000 to $80,000) and 19.5% between 500,000 and 1 million yuan ($80,000 and $160,000).

A public outcry occurred in 2008 when it was disclosed that the annual salary of Ma Mingzhe, chairman and CEO of Ping An Insurance Group, an insurance and financial-services company, was 66 million yuan ($10.5 million). Yet his salary was nowhere near that of UnitedHealth Group CEO Stephen J. Hemsley, who was listed at the top of Forbes magazine’s 2011 list of highest-paid American executives, with annual income of $102 million, including gains from exercising stock options.

On the other hand, executive compensation in China has always been shrouded in mystery. The majority of Chinese public companies — those listed in Shanghai and Shenzhen — disclose only the individual executive’s aggregate compensation. This number does not usually reflect actual aggregate compensation because it omits such things as hidden payments and extra bonuses. As such, it can represent just the tip of the compensation iceberg.

Are the figures disclosed in the annual reports of public companies in China accurate? What is the true picture of executive compensation in China?

Indirect Compensation

The main source of income for top executives in China is not the disclosed annual compensation or bonuses and dividends, but hidden payments.

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A typical executive in a state-owned enterprise can easily receive hidden income because the on-duty expense level has high elasticity. According to one executive interviewed by China Knowledge@Wharton, the cost of a normal business meal can range from a thousand yuan to tens of thousands of yuan. For overseas business trips, benefits can be obtained and transferred through flexible allocations and use of consumption rights, such as office expenses, travel expenses, entertainment expenses, communication expenses, overseas training fees, expenses of the board of directors and conference fees.

Top-level managers have even greater room to maneuver in than middle-level managers. According to the financial magazine Securities Markets Weekly, the giant petrochemical corporation Sinopec (Guangdong branch) spent millions of yuan on wine in April 2011 for its top executives. It is also common for state-owned enterprises to build housing for their employees.

These types of expenditures fall in the categories of on-duty consumption or incentives. In the U.S., similar on-duty consumption accounts for only a small part of executive compensation and is explicitly provided for in employment contracts. In China, such consumption is not transparent and has become the major source of income for many top executives.

The curtain can be pulled back in some cases: the regulations of the Shenzhen and Shanghai stock exchanges on disclosures in annual reports stipulate that on-duty consumption by executives is to be accounted for as an administrative expense. Hence the “administrative expenses” of public companies can offer a glimpse of the hidden income of some executives.

Using administrative expenses, as disclosed in annual reports, Gao Minghua, director of the Research Center for Corporate Governance and Enterprise Development at the Beijing Normal University, compared on-duty consumption and annual revenue, and listed the top 100 public companies in China in 2010 in terms of on-duty consumption as a percentage of annual revenue for the year. In 10 of the companies, the on-duty expenses exceeded the revenues.

A study conducted in 2011 by Professor Yang Rong of East China Normal University showed that the average on-duty consumption of all individual companies in the data set — the research was based on 1,320 listed companies examined between 2002 and ’09 — exceeded average executive compensation by two to 50 times and has been growing over the years. Indeed, with the exception of a slight decline in 2008 due to the global financial crisis, the growth curve for on-duty consumption at public companies in China soared between the years 2002 and ’09.

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