President Barack Obama announced a plan this week that would limit executive compensation at companies seeking large amounts of government aid. The plan includes placing a $500,000 cap on the annual salary of senior executives and restricting the cashing in of stock incentives until government assistance is repaid.

But will the limits create a leadership void at these firms? Professor Nahum Melumad said that some of the proposal’s terms could hinder recruitment and retention.

“You need the best talent money can buy and that may be difficult without the right award,” said Melumad. “Currently the administration is saying that a company may pay a large amount in the form of stock options, but that executives will be allowed to exercise those only after the government has sold its equity positions. That may be too long a period to retain any incentive impact and to attract top managers."

“A better way might be to have executive compensation consist of two key components: a ‘reasonable’ base pay and an additional component that is a function of improved company performance,” Melumad said. “The latter should have significant upside potential to attract top managerial talent.”

Professor Sudhakar Balachandran points out that even if firms aren’t too concerned about losing talent, they’re still faced with the challenge of motivation.

“There have been some arguments that there will be an exodus, but I am not too worried because the job market and prospects are tougher now,” he said. “In the past we’ve seen turnover when a firm’s retention mechanisms fail. But today, if someone wants to leave, where would they go?”

“If there’s no upside potential, you now have to worry that people will not work hard or smart, but instead that they will just show up and check off the boxes,” said Balachandran.

Photo credit: White House/Pete Souza