Effective Executive Compensation: Creating a Total Rewards Strategy for Executives

Overview

When it comes to creating an executive compensation program, it can feel like there’s little gray area between giving top performers too shiny a golden parachute, with exorbitant perks, and providing the company’s leaders with the incentive they need to continue doing their best. This book gives readers the techniques and understanding they need to design a rewards strategy that will motivate performers while benefiting the entire organization.

Taking a careful look at the ...

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Overview

When it comes to creating an executive compensation program, it can feel like there’s little gray area between giving top performers too shiny a golden parachute, with exorbitant perks, and providing the company’s leaders with the incentive they need to continue doing their best. This book gives readers the techniques and understanding they need to design a rewards strategy that will motivate performers while benefiting the entire organization.

Taking a careful look at the complicated state of executive rewards, this no-nonsense, practical guide provides readers with a complete methodology for motivating management to accomplish critical business goals. Eschewing a one-size-fits-all approach, the book uses case studies and examples to illustrate what factors should be considered—including environment, key stakeholders, people strategy, business strategy, and organizational capabilities—when designing a program that will benefit both their company and the people who fuel its success.

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Product Details

  • ISBN-13: 9780814410127
  • Publisher: AMACOM
  • Publication date: 3/15/2008
  • Pages: 544
  • Product dimensions: 6.10 (w) x 9.10 (h) x 1.90 (d)

Meet the Author

Michael Dennis Graham and Tom Roth are consultants at Grahall Partners, LLC, a consulting firm that designs total reward strategies for organizations. Both have over 30 years experience and together have worked on over 300 reward strategies. Michael has been a Consultant and or Practice Director for Watson Wyatt Worldwide, Towers Perrin, the Hay Group, Arthur Andersen Worldwide, Clark Consulting and Pearl Meyer & Partners and is the coauthor of Creating a Total Rewards Strategy. Tom Roth has worked at J.P. Morgan, Mckinsey & Co., Register.com, and Pearl Meyer & Partners.

Dawn Dugan is a freelance writer based in Hinesburg, Vermont.

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Read an Excerpt

Preface

The State of Executive Pay or Better Known as the Don Quixote Way

You can’t escape the controversy that surrounds executive pay.

These days, it’s impossible to pick up a newspaper, fan through a business magazine, or catch a TV news program without being subjected to excessive hand-wringing over how much the top executives at America’s largest corporations are being paid.

Much of what you read or see is hyperbole, exceptions to the norm being presented as the norm, guilt by inference, and maybe even a small amount of envy. And some of it is reality.

We say this not as mere onlookers, but as people who have been practicing the art and science of executive compensation for more than 50 years combined.

For most of those years, we’ve remained publicly silent on the issue. But not any more. It’s time to break the “code of silence.”

We hope that by doing so, they won’t revoke our memberships in the Compensation Consultants Guild, better know by the

Warren Buffet nickname of “Ratchet, Ratchet, and Bingo.”

So why the change of heart? Well, it certainly isn’t attributable to the compensation we’ll receive for writing this book (which could be wiped out by your average dinner and a movie). Nor to any expectation of fame that will follow publication.

We do not expect to suddenly be invited to important cocktail parties where our every thought, pronouncement a and expression will be hung on by important guests. Executive compensation consultants are usually relegated to the corner where the proctologists are gathered.

More likely, we’re writing this book because we are fed up with telling clients and consultants one at a time how the process of executive compensation consulting should occur. It is far more efficient to write a book to the profession, and to the

Boards and executives who hire those in the profession, explaining what we believe the vast majority of the compensation consultants have been missing the last 50 years. To the extent that others—the general public, academics, reporters a legislators—read this material in an effort to understand the issue, so be it.

The Problem

So what exactly is the problem? Simply put, most of America thinks that CEOs are overpaid. And it’s not a case of sour grapes where the little guy who is barely scraping by is incensed by the millions being raked in by corporate titans. One poll in early 2006 pointed out that this belief crosses into far more segments of the American population than you’d think.

The headline from a Bloomberg News report says it all: “Affluent

Investors Agree With Most Americans: CEOs Are Overpaid” (1).

The story explained that in a Bloomberg/Los Angeles Times poll taken in February and March 2006, 84 percent of respondents that identified themselves as earning over $100,000 annually said they believe CEOs are paid too much. This may be the one thing that both rich and poor in American can agree on. Even

Warren Buffett, one of the richest men in America, has something to say about the state of executive pay in his letter to shareholders in Berkshire Hathaway Inc.’s 2005 Annual Report.

“Too often, executive compensation in the U.S. is ridiculously out of line with performance. The upshot is that a mediocre-orworse

CEO—aided by his handpicked VP of human relations and a consultant from the ever-accommodating firm of Ratchet,

Ratchet, and Bingo—all too often receives gobs of money from an ill-designed compensation arrangement,” he writes.

And the shrill noise continues today—as we write this preface, a presidential candidate is on the television making another harsh statement about CEO greed.

The rich may get richer in America, but clearly there is a limit to how rich the rich want the richest to become. How did we get to this point?

The Blame Game

The problem with executive pay is multi-layered and complex a and goes well beyond the sound bites and sensationalism of the media picking apart proxy statements for the most egregious examples of out-of-whack pay programs. But as

Americans, we’ve been raised on a steady diet of short news bites that boil down even the most convoluted story into a quick, easily digestible nugget. All the better to leave room for the pseudo-news about Britney Spears’ latest debacle, or stories about Dennis Kozlowski’s fantastic parties on the shareholder dime. That is what keeps people reading and tuning in.

So rather than view current circumstances as a set of outcomes from a series of systematic interactions of complex forces inside the context of a historical framework, Americans want it simple. We want someone to be credited for the success of a particular endeavor, or blamed for the failure.

So let’s take a look at the press coverage. When you pour through all the reports, you find that there are at least ten targets of blame for the shape of the U.S. executive compensation situation: the CEOs themselves, the economy, economists a the government and certain government agencies, the

Boards of Directors, customers, institutional investors, lawyers (we couldn’t leave out lawyers!), human resources people, and consultants (as consultants ourselves, we doubly couldn’t leave out consultants!).

Greedy CEOs Are to Blame!

In some cases, it can be argued the CEOs cashing lavish paychecks are themselves to blame for the state of executive pay.

After all, these are the guys (and yes, they’re mostly guys) who go after the exorbitant pay days.

Greed can cause CEOs to simply not pay attention to the curious things going on around them. We have all heard former

Enron Chairman Kenneth Lay repeatedly defend himself by saying that he “wasn’t aware of the details” of what was happening in his company. These executives keep their heads in the ground, and then profit from it.

The billion dollar stock option cache is not hyperbole. William

McGuire, the CEO of UnitedHealth Group Inc., was granted stock options that were backdated that added up to $1.6 billion in unexercised options at the end of 2005. Yet McGuire somehow thought it was okay to point out that this money didn’t come out of the premiums of health care recipients. The money came out of the pockets of shareholders instead!

Regardless of the source, he also admitted that the sum is “a lot. You can’t get away from that” (2).

This issue of backdating options is not limited to Minnesotabased health care CEOs. As of the end of 2007, the Securities and Exchange Commission had opened investigations on hundreds of companies because it looked as if they had backdated options of their executives. CEOs are resigning over the issue a and restatements of previous years’ financial reports are becoming common. According to other reports based on statistical analysis, as many as 1,200 companies may have followed the modern version of the Aztec Two-Step, something we like to call the Backsteppin’ Backdating Boogie!

So the media blame the CEOs and we can’t argue with that a even though it’s easy to assume that they are, to some degree a victims of media hype. These stories make for good copy and a like a car accident, it’s hard for us to turn away from them.

The Economy Is to Blame!

In industries where business is booming—the way oil, housing a and defense are right now—economic windfalls are to blame for the largesse of the lucky executives in these fields.

These CEOs take cover behind a screen of “it’s not my fault.”

Their companies did fabulously and they profited, which is what “pay for performance” is all about, right? Well, not exactly.

Here’s how The New York Times business reporter Gretchen

Morgenson wrote about the issue: “Linking executive compensation to a company’s results was supposed to align managements’

interests with those of shareholders and to bring fairness to pay practices. But when a company does well mostly because of a rising commodity price rather than managerial genius, pay-for-performance becomes an unfunny joke” (3).

The same article quotes Harvard law, economics, and finance professor Lucian Bebchuk as saying that the rising oil prices that have fueled the executives’ windfalls “had to do with the

Iraq War and the Chinese demand, but it certainly did not have to do with the managers’ own performance” (4). If you are anything like us, you’ll contemplate this particular contributor to the problem every time you empty your wallets to fill up your SUV.

In some ways, economic windfalls in booming industries are to blame for out-of-control pay days for executives. But there is something fundamentally wrong with the way the rising tide is lifting all boats, without factoring out elements of success that have nothing to do with the way executives are performing or the decisions they are making.

Economists Are to Blame!

Occasionally, economists will try to weigh in on the state of executive pay. But economists are notoriously bad at crafting the simple sound bite that Americans crave.

Until Steven Levitt, economist and coauthor of the wildly popular book Freakonomics, takes a crack at executive pay, we’re left with this, a passage from a Massachusetts Institute of Technology Department of Economics working paper. The authors call this a “simple assignment framework.” It’s the beginning of their research on CEO pay hikes.

“There is a continuum of firms and potential managers. Firm

n P [0;N] has size S (n) and manager m P [0;N] has talent T (m). As explained later, size can be interpreted as earnings or market capitalization. Low n denotes a larger firm and low m a more talented manager: S’ (n) < 0, T’ (m) < 0. In equilibrium, a manager of talent T receives a compensation w (T).

There is a mass n of managers and firms in interval [0; n]” (5).

There’s much more to this paper, but we couldn’t find the right characters on the keyboard to reproduce it here. Since we’re entirely in the dark on what this means, let’s blame the economists.

Whatever they say to defend themselves won’t be understandable a anyway.

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Table of Contents

Contents

Introduction

CHAPTER 1

Business Environmental Impacts

CHAPTER 2

Key Stakeholders

CHAPTER 3

Vision, Mission, and Values

CHAPTER 4

Business Strategy

CHAPTER 5

Organizational Capabilities and People Strategy

CHAPTER 6

Total Reward Strategy

CHAPTER 7

Total Reward Architecture

CHAPTER 8

Executive Total Reward Strategy Components

CHAPTER 9

Base Salary

CHAPTER 10

Short-Term Incentives

CHAPTER 11

Mid-Term Incentives

CHAPTER 12

Long-Term Incentives

CHAPTER 13

Wealth Accumulation Incentives

CHAPTER 14

Executive Benefits

CHAPTER 15

Executive Perquisites

CHAPTER 16

Development Rewards

CHAPTER 17

Director’s Pay

CHAPTER 18

Final Thoughts

CHAPTER 19

Case Study 1

CHAPTER 20

Micro Case Study

CHAPTER 21

Books We Love and That Should be on Your Bookshelf

INDEX

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  • Posted June 29, 2009

    more from this reviewer

    Powerful, flexible tool kit for aligning executive pay

    Compensation can align the interests of a company's CEO with those of its shareholders. Michael Dennis Graham, Thomas A. Roth and Dawn Dugan show you how in their insightful book on effective executive pay, a package they call the "Total Reward Strategy." They explain how to use compensation to get great executive performance, instead of just handing out hefty paychecks and hoping for the best. They demonstrate how each piece of a pay package can focus top executives on the tasks that matter most. Consultants Graham and Roth tapped their considerable experience and expertise to produce a book that is not just a marketing piece. Because it combines readable writing (given the contribution of freelancer Dawn Dugan) with rigorous analysis, getAbstract recommends their book to all interested business readers as well as CEOs, directors, consultants and other professionals directly involved in executive compensation issues.

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