Assignment 11 Flashcards
Describe Compensation Considerations in terms of salary:
The salary incentive is the most important in not-for-profits because of stautory limits on incentives. At the other end of the spectrum, for-profits with publicly traded stock tend to place the lowest emphasis on the salary element.
It serves primarily to determine eligibilty for the other pay elements. Market stage also influesnce the salary element. In the early or threshold stage, cash is scarce and, therefore, salaries are de-emphasized. However, they will take on more importance in later stages.
The specific characteristics of each organization will dictate how salary is important in attracting, retaining and motivating key employees. In other words, sarlay is typically an important tool in attracting a person to an organization. However, in the threshold for-profit company, it is probably de-emphasized because of the shortage of cash and the availabilty of incentives.
Describe compensation considerations in terms of employee benefits:
In the absence of meaningful incentives, not-for-profits place high importance on employee benefits. The presence of a medical plan, time off with pay, and some type of pension plan may be even more important than salary in the threshold stage.
Nonetheless, the relative importance of employee benefits in most companies is low with regard to attracting employees, is moderate with regard to retaining employees, and is low with regard to motivating employees. These ratings make it more difficult for not-for-profits to attract, retain, and motivate executives.
Describe compensation in terms of perquisites
The perqs essentially begin where employee benefits end. As defined earlier, there are two types of employee perqs. These are restorative and additive. The first restores something taken away by statutory limitations, typically pension payments. The second is something that is in addtion to exhisting benefits.
Perqs, like benefits, are typically of higher importance in the not-for-profit compensation program, especailly business-related perks such as a very nice office or car. A special supplemenal pension plan would be very atttrative to a second career executive.
As with benefits, perks are not particularly effective in attracting, retaining, or motivating key employees. In for-profits, perks are typically of low to moderate importance in the early stages of the market cycle.
Describe compensation in terms of Short-Term Incentives
Not-for-profits have a difficult time satisfying the IRS that a short-term incentive plan is consistent with a nonprofit tax status. Therefore, the short term incentive is not simply of low importance, it is usually non-existent.
Since these incentives are an important part of the package for many executives, not-for-profits have a distinct disadvantage in attracting, retaining, and motivating executives However, individuals may be attracted to nonprofits for more altruistic motives, namely, giving back to a defined community, than for the pay.
Conversly, the for-profits line up much better with those executives interested in extrinisc compensation. However, companies in the early stages of market development have to overcome cash shortages and appeal in other ways.
Privately held companies have somewhat higher emphasis on short-term incentives in the early stages of market development because of greater limits on long-term incentives, namely, no publicly traded stock.
Describe compensation in term of long-term incentives
Long term incentives are essentially nonexistent in not-for-profit companies. Privatley held companeis are somewhat better off. They do have stock but lack the public trading forum, thereby restricting the use of tax-advantaged stock plans.
This is not so with publcily traded for-profits. For them, stock options are the major compensation device in the early stages of market developement because of their accounting and tax treatment. Other forms of stock plans take on importance beginning with the later stages of the “growth” phase.
Explain the verbalization of the signfigance of the market cycle:
The first step in developing a compensation philosophy begins with the market cycle. Examples of how the market cycle is converted intor compensation design statements include:
- Threshold. Given the importance of using cash to market the business and the desire to focus everyone on the possibilty of signfigant sucess, the heavy emphasis is on longer term incentives, and more speficially, stock options. The other 4 compensation elements will be increased only to the extent absolutely necessary. .
- Growth. As the company is more established and enjoying increasing sucess, salaries and employee benefits should be competitive to similar companies. Given that the long term picture still looks good, long term incentives should continue to receive top attention. Stock options are still dominant, although various types of performance-based stock awards should be adopted where apprpriate. Short term incentives need to be structured to reward both individual and unit performance.
- Maturity. Given that our new products are essentially extenstions of existing products, it is important that we place high emphasis on short-term incentives, both indivudal and group, in order to maximize sales as well as reduce costs.
- Decline. Our shrinking revenue means it is essential to reduce fixed payrolll costs, which include salary, employe benefits and perks, and increase the emphasis on short term incentives with a primary focus on reducing costs. Long term incentives should be shifted to interal measurements, since the company stock price will return little, if any, apprecaitoin.
- Turnaround. Because it is important to return the business to a growth stage, it is essential we place high emphasis on both short term and long term incentives. The former will be focused on both individual and group success. The latter will be a combination of stock options and performance stock awards.
Explain the importance of attracting, retaining, and motivating objectives with respect to developing a compensaiton philosophy.
Within the context of the market stage, one has next to look to the respective improtance of the attracting, retaining and motivating objectives. Examples of how these are converted into compensation design are :
- Attract. Our short term incentives will be featured in attracting the top talent we need. This will include bonuses to compensate for any unvested compensation from the current employer, but with clawback features should the person leave us within 5 years. the short term incentives will also calcluate at least half of the bonus opportunity based on individual performance.
- Retain. Our long-term incentive plan will consist of annual stock option grants with cliff vesting and annual grants of multiple-yers performance -share plans.
- Motivate- In additon to annual incentives based on group performance and long-term incentives based on corporate performance, the annual incentive offers an opportunity to earn at least half of the award based on individual perforamcne.
Describe how to determine the degree of risk to build into the pay program
The normal rule is the higher the risk, the greater the reward for success. Examples of how degree of risk is converted into compensation desgin statements include:
- Low Risk- Total compensation will be int he 60th percentile of defined competition, as will annual cash compensation, but salaries will be at least equal to the 75th percentile. Long term incentives will be at the 40th percentile or less
- Moderate Risk- Total compensation as well as each of the 5 elements will be positioned at the 50th percentile of defined compensation
- High risk- Total compensation will be at the 60th percentile of defined compensation, Salary, employee benefits, and perks will be at the 40th percentile and both short term and long term will be at the 75th percentile
One would exepct that an increase in risk would result in an increase in the use of incentives. Certainly, this is desirable from the shareholders’ viewpoint. To the extent this is not true, it might suggest management has had a very strong say in plan design.
Does an organization really want incentives?
Designing short and long term incentive plans takes a lot of time and effort. A company must not only be willing to put in the time and effort, but also believe performance can be exprssed quantitavely. This is easy for financial data.
For qualitative goals it is more difficult. It is fairly easy to determine if timetables are set and deadlines are met. It is more difficult to assess how well it was done. Performance goals set at the begginning of the year need to be updated during the year and factored into the incentive plan.
Goal setting will be more difficult as individuals learn how to “low ball” their targets, making it easier to receive incentive pay. The imporatnce of factors outside the executive’s control need to be assessed and a determination made as to whether or not such factors should affect the incentive payout.
Incentives must not only help the org acheive its mission and vision, they must be consistent with the culture of the org. In addition, the relative importance of short and long term incentives must be consistent with the product life cycle.
What are the advantages and disadvantages of incentive pay?
The overriding advantage of incentive pay is that it meets the objective of pay for performance. In other words, payment will be in direct relation to attainment of identified objectives. When these objectives are financial, it lowers pay for poor finaicial performance and raises it for good financial performance. The absence of incentive pay is the most costly to the organization for poor performance and the least expensive for good performance.
Disadvantages of incentive pay are:
- Incentives discourage teamwork and cooperation
- Incentives do not make high performers work harder
- Incentives punish those who do not meet their objectives/goals
- Incentives creast a risk-aversion mindset
Many people think they are communicating when in fact they are simply
discolsing. Discolsure is a one-way message. Communication requires an indication by the receiver that the message is understood. If not understood, there is an interchange between sender and receiver until the message is understood. Too many people are satisfied in simply sending what they belive either meets their obligaitons and/or is sufficiently clear to require no further effort. At the minimum, the sender should indicate to the receiver willingness to meet and discuss if there are any questions.
Guidelines for developing a strong communication process:
- What information is being communicated? Is it past, present and/or future? Does it deal with plan changes or simply an update status report?
- Why is the information being provided? Is it legally required or a voluntary action? Is it to show results or possible outcomes?
- Who is to receive the information? Is this going to executives, other employees, shareholders, customers, suppliers or the community?
- When is the information to be conveyed? Automatically upon attainment of a date or event or in response to a request?
- How is the information to be conveyed? Will it be face-to-face, via image, or voice response? Report format or interactive?
- Where is the information provided? Is it at a meting or a location?
Why does one bother with voluntary disclosure programs?
First and foremost, how can one expect the pay delivery system to channel and maximize individual effort without clearly disclosing what will be rewarded? Clearly communicating all relevant plans so that eligible candidates understand them usually involves greater detail than that required by SEC and othe overseers. Having justified this level of disclosure, many compnies find it suffiecient, pointing out the need to calibrate different performance levels and their payment amounts.
Clearly, describing pay delivery system is also essntial when trust is low. In this situation, it is not an end but a means to build trust. Recipients will be watching carefully for consistency between words and actions. The perception of reality is more important than reality itself. One must question whether open pay systems and pay for performance are complementary or conflciting objectives.
Having ensured that legal disclosure requirements are met, the company needs to determine what additional information it
will provide, when, to whom and in what level of detail. The basic reason for additional disclousre is to make certain the executive understands the plan. This is especially important if the individual needs to make a decision at some point.
