chapter 14 - compensation of special groups Flashcards
Who Are Special Groups?
So far compensation programs have taken a similar approach:
- Understand the work (job analysis)
- Understand the internal value of the job/work (internal alignment/job evaluation)
- Understand the external value (market competitiveness)
- And determine compensation accordingly
Characteristics of special groups
1. Tend to be strategically important
2. They don’t quite fit the basic or traditional model
3. Positions tend to have built-in conflict (exhibit 14-4 and 14-5)
These groups receive special treatment in the form of:
- Add-on packages not received by other employees
- Compensation components entirely unique in the organization
- Supervisors
Issues:
- The issue is generally around fairness of pay
- Because supervisors are typically exempt positions, so not paid overtime (OT), and they are expected to focus on output, not hours
- The challenge: their subordinates are non-exempt, it may cause pay issues; WHY?
- What incentive is there for taking on supervisor responsibilities?
Solutions:
- Higher base than subordinates (5-30%)
- Pay overtime
- Add variable pay – this is the trend
Corporate Directors (Board Members)
In exchange for providing their expertise and assuming risk, Directors are well paid
- These are busy people with typically full schedules, so their needs to be some benefit to encourage them to commit their time
- Typically, $35K (private companies) to $350K+ annually
- Paid in cash and equity – generally paid quarterly
- Generally, Board members commit ~50-100 hours per year of their time; 4-6 Board meetings that can be several hours up to two full days, reviewing materials, ad hoc calls and meeting, etc.
Executive Compensation
CEO compensation components are same & different from those of non-executive
Job analysis not basis for valuing position; instead use external comparables
Focus – aligning CEO pay and company performance (pay-for-performance)
Heavy focus on STI (Short Term Incentives and stock-based compensation (equity or Long-Term Incentives)
- More pay at risk in form of LTI (Long-Term Incentives)
- Far fewer “perks”
Components of an Executive Pay Package
Elements of Exec Pay
- Base salary
- Short-term (annual) incentives or bonuses
- Long-term incentives (equity)
- Benefits
- Prequisites
- Base salary only accounted for 8.7% of CEO pay in 2020
- Long- and short-term incentives accounted for 75% and was 7.8 times salary
- The ratio of CEO to worker pay of 302 is a bit of “apples to oranges” comparison
- But CEO pay in large companies has grown faster than worker pay.
Executive Pay: Base Salary & Annual Bonus & Equity/Stock
Base Pay:
- Job evaluation still play a role in determining base pay but other sources are much more important
- A common approach of compensation committees is to identify competitors and set pay level between the best and worst
- Pay is reviewed and determined by the Compensation Committee
Short-term incentives:
- Companies tailor plans to their own objectives and strategies
- Annual bonus plans typically are a mix of financial measures (profit, revenue, and cash flow) and non-financial measures (strategic, individual or discretionary measures)
- Over the last several years and decade, short term incentives (annual bonuses) have become a smaller portion of executive pay; WHY? Time horizons have shifted and bonuses reward short-term results, and the goals is long-term value creation (so more pay is now shifted to long-term incentives)
Long-term incentives:
- Majority of companies use a combination of stock options, restricted stock units and performance awards
- Shareholder advisory services (like ISS) like to see “pay at risk” so prefer awards that have a performance criteria, not just vesting based on time
Executive Benefits and Perquisites
Beyond the typical benefits, many executives also receive additional perks, although not as many as they used to receive:
- Additional life insurance
- Annual physicals
- Tax planning/filing assistance
- Non-qualified deferred compensation plan
ERISA and tax code restrict benefits too far above other workers
- Plans may have to cover 80% of employees, provide determinable benefits, or meet vesting and nondiscrimination requirements
Tax and regulatory agencies require a value on “perks”
- Many executives use drivers, private jet services; COVID impact
Popular Perks Offered to Executives
Note decline in number of
companies offering perks
most common is automotive parking but there’s been a sharp decrease
CEO Pay and Company Performance
Research suggests CEO pay and company performance are strongly aligned
- The pay-performance relationship is often not optimally studied
- After correcting, the authors found strong relationships between CEO return and total shareholder return
There is concern over CEO pay structure leading to bad behavior
- Heavy use of bonuses and stock-based compensation may lead to taking too large of risks
- The Dodd-Frank Wall Street Reform and Consumer Protection Act:
- Improves accountability and transparency in the financial system
- Proposes to end “too big to fail” and ending bailouts
- Aims to protect consumers from abusive financial services practices
Say on Pay (Shareholder Votes)
The Dodd-Frank Act requires that shareholders vote to approve or disapprove the compensation plan for its five highest paid executives
- The vote is nonbinding
- In 97-99% of company votes, shareholders approved executive pay
Even though the required vote is non-binding, most companies view a no-vote as a public relations disaster
- ISS recommends approval of the say on pay vote 90% of the time
- It is also important to note that large shareholders can influence executive pay
Explaining Executive Compensation
Critics’ arguments
- Levels of compensation not justified under any circumstances
- Pay in other countries are much lower
Counter arguments
- Executive compensation is a reflection of changes in the market – like other positions, it’s tied to the external competitiveness to compete in the marketplace
- Executives earn compensation by linking pay to performance
- High risk, high reward
- ESG – Environment, Social and Governance (social responsibility) starting to be a significant focus for executive pay
- Scientists and Engineers in High-Technology Industries
Special compensation problems:
- A graduate’s knowledge is valuable but over time (and now even more quickly) it becomes obsolete
– There is a parallel between pay increases and knowledge obsolescence LEARN TO EARN
- When salary plateaus arise, many think about moving into management or learning new skills: think about a product – would you pay the same for an iPhone 7 as a newly released?
- So if wages don’t increase, what other mechanism can engage these important workers? Interesting work, cutting edge technology, training, etc.
- A dual-career ladder provide two ways of progressing in an organization
IBM Dual Ladders
The managerial ladder offers a promotion path with increasing responsibility; the professional track rises with increasing technical responsibility
management ladder vs technical ladder
- Sales Forces
- Generally, sales professionals require high initiative and low supervision (they’re often field-based)
- Sales compensation very reliant on performance-based incentives tied to individual performance
- Standard compensation not designed for this
- For top-level sales representatives, the incentive-based pay generally 30-70% of total compensation (sometimes 100%)
- If the product is in high demand, there is a higher mix of base pay with a smaller incentive component WHY?
- If the sales actions and ability of the salesperson is important, incentive (or variable) pay increases WHY?
Designing a Sales Compensation Plan
- Phenotype of a Salesperson: What do you think?
- Organizational Strategy: salespeople follow the money, so the performance desired must be built into the incentive plan (e.g., new accounts, market share, profitability, etc.)
- Market Maturity more mature, more standard and focused on customer satisfaction and retention versus product adoption
- Competitor Practices: sales folks focus on pay and tend to benchmark, so external competitiveness very important
- Economic Environment: Sales forces expand during good economic times and contract during recessive environments
- Products Sold: nature of product, type of customers sold into has significant influence on designing pay plans:
Products with high barriers to entry need compensation with a large base-pay component, minimizing risk
Products with low barriers to entry use a higher incentive component
