Four Key Trends in Executive Compensation

“We’re overpaying him, but he’s worth it.”
– Samuel Goldwyn, 1882-1974, Movie Producer

WHAT TO EXPECT IN COMING MONTHS AND YEARS: A short time ago I was asked by a reporter working for a national business magazine to assist in providing background material for an article on “2006’s hot topics in executive compensation.” Working with her, and thinking about two recent talks I’ve given on Executive Compensation topics, four key trends came to mind.

Considering the Wall Street adage that “The trend is your friend,” I decided to share with our Working Wisdom Newsletter “friends” these four key trends, where they seem to be taking us, and what you can do to keep yourself “ahead of the curve.”

1. Transparency: It seems each day or so we hear of another senior executive retiring and being given a retirement (or severance) package worth hundreds of millions of dollars, and everyone expresses surprise and dismay. Last year, most of the members of the Compensation Committee of the New York Stock Exchange Board of Directors claimed not to know that Dick Grasso’s retirement gave him some $185 million. Not bad for a not-for-profit organization; imagine if the NYSE was a profit-making enterprise?

Why do we hear expressions of such shock and awe in this era of comprehensive financial disclosure requirements? Why should any such surprise take place? Spurred on by regulatory authorities, more and more compensation committees are setting down guidelines that require near-total visibility not only of anticipated compensation payouts, but maximum potential compensation payouts based on best-case scenarios. Deferred compensation plans, supplemental executive retirement plans (“SERP’s”), and equity-based executive compensation plans are all being re-evaluated, and re-estimated, with an eye toward giving compensation estimates that are designed to keep everyone advised of true compensation payouts. Even the value of executive perk’s, like free health clubs and use of corporate jets are being evaluated, and counted, by some companies as compensation. As they say, “Sunshine is the best antiseptic.”

2. Pay for Performance (Not “For Pulse”): Imagine a restricted stock grant that vests 1/3 per year. All you need to do to collect your “prize” is to stay alive and employed until the vesting dates. Where’s the incentive? Where’s the required performance? Is there any reason to try harder, to take chances, to make waves, or to think outside the box?

Now imagine a restricted stock grant that requires that you and your division meet certain pre-established objectives, each a measure of identifiable success, in order for your stock to vest. Not only must you stay alive and employed, but you have to achieve results, as well.

The big push for “pay for performance” is coming from the investment community, including mutual funds and hedge funds, where many live by the credo “You only eat what you kill.” That is, “no results, no lunch.”

3. Consistency with Shareholder Interests: Should senior executives be granted guaranteed bonuses whether or not profits justify them, or be given equity awards that serve merely to diminish or dilute shareholder returns? Or should such awards be designed instead to be more in line with shareholder interests, such as a bonus that is paid only when the revenues permit, or an equity award that requires an investment of the executive’s own cash?

The institutional investor community is especially behind the increasing push for a rationalization of the interests of senior executives and shareholders. It is perhaps in this trend that we see the most creative, ingenious, experimental steps being taken, encouraged by the notion that the best performers are the ones who are most “invested.” After all, no one changes the oil in a rented car. In this area, growing concerns about good corporate governance practices have definitely overlapped with growing concerns about integrity and confidence in our equity markets.

4. Reasonableness: In early April, 2006, Lee Raymond, ExxonMobil’s CEO won approval for his retirement package that totaled, after 13 years of service to the company, $400 million. Over his 13 years of service, that calculates to a rate of compensation of $147,000 per day. Public employee pensions own a great deal of stock, and are increasingly flexing their shareholder-activist muscles. Rightly or wrongly, a primary target has become “fat cat” executive payments in an era of belt-tightening. One public pension fund announced this month that it is pushing for bylaw changes in all companies it invests in that limits executive severance packages to three times annual compensation. Some even suggest limiting a CEO’s total compensation to a specified multiple of the corporation’s average yearly wage. While seemingly revolutionary to some, to others it reflects a return to more traditional American values.

LESSON TO LEARN: These four trends in executive compensation are expressions of tectonic movements in social policy. Like the movement of the earth’s continents, they are the result of great pressures that build up over time, and though they march ever so slowly, are prone to sudden jolts, fits and starts.

SkloverWorkingWisdom™ stresses three components of a good working relation, what we call “The 3 C’s”: (1) Clarity (which is another way of saying Transparency), (2) Commitment (which is illustrated by assured reward if and when performance justifies), and (3) Community (which is the essential win-win, or alignment of interests.) It’s no wonder that what we stress to our clients, which is based in simple, positive values, is what we are seeing developing in the larger society. Practical and principled living always wins out in the long term. That’s what SkloverWorkingWisdom™ is all about.

WHAT YOU CAN DO: The smart moves for a long while will be to consider how your compensation is structured, to align your own compensation goals and requests with these trends, and to be – and be seen – as “ahead of the curve” and a leader in the movement. Effective steps you can take include these:

1. Review your own compensation structure: Where do you stand in relation to the four trends? Is your compensation in line with them, or in a structure destined to be changed in the future. Become intimately familiar with your compensation plans, including those regarding bonus, commissions, deferral, savings, disability, stock or stock options, retirement and severance.

2. Consider what you’d lose if your compensation were changed or terminated today. Remember that important life lesson: “Change is inevitable (except from your kids when they come back from the mall.”) Every compensation plan can be changed or modified, nearly all without prior notice to you. And you can reasonably expect to have your compensation plans altered or replaced in the near future. Might you give added consideration to exercising stock options now? Might retirement be accelerated if the new retirement plan will have new, restrictive payment caps applicable to those who retire later? Is this a good year to take additional deferral opportunity?

3. Show your significant value to superiors and colleagues by sharing your insights. Knowledge is power. Foresight is advantage. Those “in the know” are very good to know. You might consider reaching out to others in your industry to see what compensation changes they’ve seen at their company. And you might consider raising your knew insights and knowledge about these issues with your friends at your company. Your “perception of value” to your superiors, especially, can make or break your career. Improving their opinion of you, and of your value to them, is a key component of your negotiating power at work.

4. Consider volunteering to sit on committees looking into these issues. If opportunities arise to be part of the wave, grab them, because those who help make things happen are those who can affect how they happen. Important changes are coming about, inevitably, and this is an opportunity to expand and enhance your own “unique human capital” to others.

5. Bear in mind that proximity to revenue provides job security. In all probability, changes in compensation plans will reflect changes in views regarding who is important, and who is expendable. See who is to be rewarded by these changes, and consider working more closely with them. If, for example, sales commissions are to become capped, or exclusive territories are to become non-exclusive, movement away from pure sales roles might be a good idea.

Empower Yourself at Work.

SkloverWorkingWisdom™ emphasizes smart negotiating – and navigating – for yourself at work. Ensuring that you are paid well, paid fairly and without negative effect on your working relation, is essential. But more than luck is necessary to make that happen. . . It always takes forethought, care and prudence.

Always be proactive. Always be creative. Always be persistent. And always do what you can to achieve for yourself, your family, and your career. Take all available steps to increase and secure employment “reward” and eliminate or reduce employment “risk.” That’s what SkloverWorkingWisdom™ is all about.

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