Executive compensation, also known as executive pay, refers to remuneration packages specifically designed for business leaders, senior management and executive-level employees of a company. Executive compensation includes benefits such as salaries, perks, incentives, insurances etc.
“A COMPELLING PAY PACKAGE, WITH SHARP EMBEDDED INCENTIVES”
Executive compensation is a vital business tool. It is the way that a business access the key talent which transforms inert money into a vibrant business.
The two main questions are:
Those questions are easy to ask but hard to answer.
The HOW MUCH question is an issue of QUANTUM. Normally this is determined by pay benchmarking against peer companies and similar jobs.
That means determining which peer companies are relevant; how similar the job match actually is; determining from pat data the figures from the peer companies; a statistical analysis of that data and decision on:
PAY POSITIONING and PAY MIX
Positioning against market is a judgement. Too low and the pay is unattractive; too high and the cost is more than can be easily justified.
Pay mix is the split between fixed pay and incentive pay, between current pay and deferred pay and also the mix in incentives between short and long term, and the use of cash and equity as pay vehicles
Aside from the commercial drivers there are other aspects of much importance. In particular CORPORATE GOVERNANCE norms. Institutional shareholders and their proxy voting agencies have an extensive set of DO and DONT rules for executive compensation. These rules have built up over decades are in general terms are intended to prevent excessive and unjustifiable pay to executives.
FAT CATS PAYMENTS FOR FAILURE
.. and other headline grabbing monikers.
Executive compensation policy sets the framework. In the UK policy for a listed company must be approved by a binding vote from shareholders at least every three years.
Annually, an advisory shareholder vote indicates shareholder views of pay practice. A lost vote will trigger a binding advisory vote the following year. A poor vote outcome (less than 80%) will trigger instead an Investment Association flag, and the need for the company to respond as to why the vote was low, and their intended response.
Both short- and long-term incentives are commonplace. Often the value on offer exceeds fixed pay; sometime by a multiple. So the design is important.
The obvious decision is what metric of metrics to select. But there are multiple decisions. The use of cash or equity, the targets, the pay-out curve, the eligibility, the rules on change in control and good bad leavers, among others.
Rewarding executives requires informed judgement. Remuneration committee members do not need expert knowledge, but they do need data to make informed decisions. First, on levels of remuneration, on the link between remuneration and performance, and on the structure and cost of all elements of the executive packages.
Remuneration committees need to have a thorough understanding of their company and the forces that shape directors’ remuneration.
REMUNERATION COMMITTEES SHOULD CONSIDER THE FOLLOWING FACTORS
- Business model and the income statement, balance sheet and cash flow dynamics
- Performance record and prospects
- Sector and company size
- Key performance measures of success and their interdependencies
- Company cultures and values
- Current arrangements and talent needs
- Stakeholder interests
- The market for top talent