Developing compensation plans for managers or professionals is similar in many respects to developing plans for any employee. The basic aim is the same: to attract and keep good employees. And job evaluation – classifying jobs, ranking them, or assigning points to them, for instance is about as applicable to managerial and professional jobs as to production and clerical ones.
There are some big differences though Managerial jobs tend to stress harder to quantify factors like judgment and problem solving more than do production and clerical jobs. There is also more emphasis on paying managers and professionals based on results based on their performance or on what they can do rather than on the basis of static job demands like working conditions. And there is also the considerable challenges of having to compete in the market place for executives by some standards are paid like rock stars. So, job evaluation while still important usually plays a secondary role to non salary issues like bonuses, incentive, market rates, and benefits
Compensating Executive and Managers
Compensation for a company’s top executives usually consists of four main elements; base pay, short term incentives, long term incentive and executive benefits and perks. Base pay includes the person’s fixed salary as well as, often guaranteed bonuses such as 10% of pay at the end of the fourth fiscal quarter, regardless of whether or not the company makes a profit. Short term incentives are usually cash or stock bonuses for achieving short terms goals, such as year to year increase in sales revenue. Long term incentives aim to encourage the executive to take actions that drive up the value of the company’s stock, and include things like stock options; these generally give the executive the right to purchase stock at a specific price for a specific period. Finally, executive benefits and perks might include supplemental executive retirement pension plans, supplemental life insurance and health insurance without a deductible or coinsurance. With so many complicated elements employers must also be alert to the tax and securities law implications of their executive compensation decisions.
What determines executive pay?
The traditional wisdom is that company size and performance significantly affects top managers’ salaries. Studies show that company size and company performance explain only about 30% of the variation in CEO pay. Instead each firm seems to take a unique approach: In reality CEO pay is set by the board taking into account a variety of factors such as the business strategy, corporate trends and most importantly where they want to be in a short and long term. Anther study concluded that CEOs pay depends on the complexity and unpredictability of the decisions they make. In this study, complexity was a function of such things as the number of businesses controlled by the CEO’s firm, the number of corporate officers in each firm, and the level of R&D and capital investment activity. In practice CEOs may have considerable influence over the boards of directors who theoretically set their pay. So, while some CEOs may be paid like top athletes their pay is sometimes not based on the arms length market based negotiation that the athletes (or rock stars) are.
However we’ll see that shareholder activism has tightened the restrictions on what companies pay top executives. For example, share holders in pharmaceuticals firm Glaxo Smithkline voted to reject the board’s recommendation to pay its chief executive $35 million if he lost his job and to enhance the pension plans of both him and his wife.
Elements of Executive Pay
Salary is traditionally the cornerstone of executive compensation it’s element on which employers layer benefits, incentives and perquisites – all normally conferred in proportion to base pay. Executive compensation emphasizes performance incentives more than do other employees’ pay plans, since organizational results are likely to reflect executives’ contributions more directly than lower echelon employees. Indeed boards are boosting the emphasis on performance based pay (in part due to shareholder activism). The big issue here is identifying the appropriate performance standards and then determining how to link these to pay. Typical short term measures of share holder value include revenue growth and operating profit margin. Long term shareholder value measures include rate of return above some predetermined base, and what is known as economic value added.
Performance based pay can focus a manager’s attention. When heavy truck production tumbled, CEO Joseph Magliochetti saw sales of auto parts maker Dana Corp, drop by 6% and profits by 44%. At the end of the year he still got his $850,000 salary. But his board eliminated his bonus and stock grant, which the year before had earned him $1.8 million. The board said he had failed to beat the profit goals it had set for him.