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 â€“ classifying jobs, ranking them, or assigning points to them, for instance is as applicable to managerial and professional jobs as to production and clerical ones.
There are some big differences, though. For one thing, job evaluation provides only a partial answer to the question of how to pay managers and professionals. These jobs tend to stress harder to quantify factors like judgment and problem solving more than do production ad 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. Developing compensation plans for managers and professionals therefore tend to be relatively complex. Job evaluation, while still important, usually plays a secondary role to non-salary issues like bonuses, incentives and benefits.
Compensation for a companyâ€™s top executives usually consists of four main elements: base pay, short term incentives, long term incentives, and executive benefits and perks. Base pay includes the personâ€™s fixed salary as well as guaranteed bonuses such as â€œ10% of pay at the end of the fourth fiscal quarter, regardless of whether or not the company makes a profit.â€ Short term incentives are usually cash or stock bonuses for achieving short term goals, such as year to year increases in sales revenue. Long term incentives aim to encourage the executive to take actions that drive up the value of the companyâ€™s stock, and include things like stock options; these generally give the executive benefits and perks might include supplemental executive retirement pension plans, supplemental life insurance and health insurances without a deductible of coinsurance. With so many complicated elements, employers must be alert to the tax and securities law implications of their executive compensation decisions.
What really determines Executive Pay?
Salary is the cornerstone of executive compensation; itâ€™s the element on which employers lay benefits, incentives, and perquisites all normally bestowed in proportional to base pay. Executive compensation emphasizes performance incentive more than do other employeesâ€™ pay plans, since organizational results are likely to reflect executivesâ€™ contributions more directly than those of lower echelon employees. Incentives equal 31% or more of a typical executiveâ€™s base pay in many countries, including the United States, United Kingdom, France, and Germany.
The traditional wisdom is that company size significantly affects top managersâ€™ salaries. Yet studies show that the usual standards like 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. Another study concluded that CEOsâ€™ pay depends on the complexity and unpredictability of the decision they make. In this study complexity was a function of such things as the number of businesses controlled by the CEOâ€™s firm, the number of corporate officers in each firm, and the level R&D and capital investment activity. Regardless of performance, firms paid CEOs based on the complexity of the jobs they filled.
In any event, shareholder activism has tightened the restriction on what top executives are paid. For example the Securities and Exchange Commission now has rules regarding executive compensation communications. The company must disclose the chief executive officerâ€™s pay, as well as other officersâ€™ pay if their compensation (salary and bonus) exceeds $100,000. One result is that boards of directors of directors must act responsibility in reviewing and setting executive pay. That, says one expert, includes determining the key performance requirements of the executiveâ€™s job; assessing the appropriateness of the firmâ€™s current compensation practices; conducting a pay-for-performance survey; and testing shareholder acceptance of the boardâ€™s pay proposals. The government also changed the federal tax code in the early 1990s to make CEO pay above $1 million a year nondeductible as a corporate business expense if the pay was not related to performance.
Increasingly, shareholders are rebelling at what they see as excessive executive pay, particularly when their companies are less than successful.
The bottom line is that boards are reducing the relative importance of base salary while boosting the emphasis on performance based pay. The big issue here is identifying the appropriate performance standards and then determining how to link these to pay. Performance-based pay can focus a managerâ€™s attention.