1、DESIGN A SUCCESSFUL COMPENSATION SYSTEMAugust 17,20192TODAYS DISCUSSIONnCompensation Philosophy What is a comp philosophy?Why do we need one?How to develop one for your companynCompensation Systems What makes them successful?Four fundamental components Program design examplesnAfter the Design Whats
2、Next Tips for effective administration Managing change3COMPENSATION PHILOSOPHYWhat is a compensation philosophy?nArticulates what the company believes about how its employees should be treated financiallynProvides guiding principles for designing cohesive compensation programsnLays out what is impor
3、tant to the companynCommunicates a consistent and clear messagenShould be backed up by the companys actions4COMPENSATION PHILOSOPHYYour stated philosophy should reflect the companys intentions and set expectations for employees.Example statements:nEfforts will be recognized,but results will be rewar
4、ded.nEmployees with the greatest level of sustained performance receive the greatest rewards in pay.nSolid performers will be targeted at 50th percentile.Top performers will be targeted at 75th percentile.nBy linking pay opportunities to clearly outlined individual performance objectives,we offer ev
5、ery employee an equal chance to succeed.nAll employees should share in the financial success of the company.nOur compensation programs are globally focused,locally competitive.nWe want all employees to think like owners,which is why we award stock options to every employee.5COMPENSATION PHILOSOPHYWh
6、y do you need an explicit compensation philosophy?nManagers might be making compensation decisions that are not in the best interests of the company as a wholenThere may be an implicit philosophy that isnt consistent across the company Look at employee communications over the years Informally survey
7、 top managers of the company What do the current compensation programs look like and what do they“say”about the companys beliefs?Does the corporate culture offer any clues?6COMPENSATION PHILOSOPHYHow do we develop a compensation philosophy?nInterview senior management and Board of Directors Business
8、 objectives,current and future Desired employee behaviors to accomplish those objectives Competitive environment and desired positioning Recruiting or retention issues Pay elements and desired mixnOutline current rewards programs Where are we now?Where do we want to be?How do we get there?7COMPENSAT
9、ION PHILOSOPHYWhere PositionedCurrentDesiredBase SalaryIncentive PlanProfit SharingStock Options401(k)Health&Welfare ProtectionAlternate Fridays OffTraining/Education AllowanceWhat We OfferWhy We OfferExample:Comp Philosophy Worksheet8COMPENSATION PHILOSOPHYWhen might your compensation philosophy ch
10、ange?nLeaving start-up phasenMajor change in your business modelnBusiness and headcount growth that outpaces expectationsnFollowing a merger or major acquisition9COMPENSATION SYSTEMSWhat is a successful compensation system?nSupports the companys compensation philosophynEnables the company to compete
11、 for the talent it needs to be successfulnProvides sustainable compensation programsnAllows the company to meet its financial goalsnFlexible enough to accommodate changes in the company or marketplacenMotivates and rewards complementary objectives over the short and long term10COMPENSATION SYSTEMSFo
12、ur fundamental reward categories make up the typical compensation system:nBase SalarynAnnual IncentivesnLong-Term IncentivesnBenefits&PerquisitesBaseSalariesAnnualIncentivesTotalRewardsBenefits&PerquisitesLong-TermIncentives11BASE SALARYBeing CompetitivenWhat does“competitive”mean?Winning the talent
13、 contest Winning the business contestnHow do you know if your company is competitive?Surveys of compensation for your particular industry Association websites or studies Outside offers made to employees Making counter-offersExit interviews New hire salary history12BASE SALARYBeing CompetitivenWhen i
14、s it okay to pay above competitive?Check your companys performance Losing mission critical employees or prospects Remember,base salary decisions are difficult to undonWhat if you cant afford competitive base salaries?This is where a bonus plan can make a difference Do you have any kind of equity com
15、pensation to offer?What about other rewards?Quality-of-life:flex time or every other Friday offCareer development:training or education allowanceCorporate culture and work atmosphere13BASE SALARYStaying On TargetnPut some structure around salaries Group jobs together with similar market salaries and
16、 internal value Set a minimum,midpoint,maximum range for each grouping Low end of range:inexperienced or newly promoted employees Middle of range:fully-competent employees with consistent performance Upper end of range:superstars who are experts at their job and show sustained overachievement14Examp
17、le:Salary StructureAnnual Base SalarySalaryEntryCompetitiveExpertGradeFromToFromToFromTo7$117.6$143.7$143.8$169.9$170.0$196.06$90.5$110.6$110.7$130.7$130.8$150.85$69.6$85.1$85.2$100.5$100.6$116.04$55.7$68.1$68.2$80.4$80.5$92.83$44.5$54.4$54.5$64.3$64.4$74.22$35.6$43.5$43.6$51.5$51.6$59.41$28.5$34.8$
18、34.9$41.2$41.3$47.5BASE SALARY15BASE SALARYStaying On TargetnConduct an annual review of base salaries Ensures we stay on the mark for our desired positioning Helps us win the talent we need to be successful Credibly reassure employees that salaries are keeping up with the market Credibly reassure m
19、anagement that we are responsibly managing our compensation dollars16BASE SALARYStaying On TargetnSystematic merit and promotional increases Links individual performance review to salary progress Enables precise management of increase budgets;less guesswork Gives managers tools to assess trade-off d
20、ecisions Minimizes abuse of promotions17BASE SALARYExample:Merit Increase MatrixPosition in RangeEntryCompetitiveExpert3-5%1-2%0%0%5-7%2-3%0%0%Did Not Meet Goals7-9%3-4%0%0%RatingExceeded GoalsAccomplished GoalsDeveloping18ANNUAL INCENTIVESA well-designed annual incentive plan should meet several ob
21、jectives:nProvide a systematic approach to incentive pay that links company and individual(or team/department)performancenAllow employees to benefit financially when company meets or exceeds its short-term goalsnSupport and reinforce the financial planning and goal setting processnStrengthen and sup
22、port the individual performance management systemnUse companys cash wisely Not a fixed cost like base salaries Provides cash awards only when company performs well Limits cash payments when company does not perform well19Example:Annual Incentive PlanHere is an example of a simple,three-step annual i
23、ncentive plan.For this plan,there are three things that determine annual bonus payouts.Lets walk through the mechanics of a plan like this.EvaluateCompanyPerformanceEstablishTotalCompanyBonus PoolDistributeBonusesBased onIndividualPerformance123ANNUAL INCENTIVES20ANNUAL INCENTIVESExample:Annual Ince
24、ntive Plan Establish target incentive levels for participants Each participant is assigned a target incentive award expressed as a percent of base salary.If base salaries are below competitive,we might use incentive targets that are higher than competitive.For private companies that dont have stock
25、options to offer,we might also use higher than competitive incentive targets.1.*Incentive targets for illustration only*PositionLevelTarget Incentive(%of Salary)Executives50%Directors25%Managers15%Professional Staff10%Non-Exempt5%21ANNUAL INCENTIVESExample:Annual Incentive Plan Define company perfor
26、mance objectives Two key measures used to create an award payout matrix-Net income or net income growth year-over-year-Revenue or revenue growth year-over-year-Pre-tax profits-New or repeat customers Payout matrix defines the relationship between the performance targets and the resulting bonus pool
27、funding Determine minimum company performance required to fund the bonus pool,the target performance level,and the maximum or cap22Example:Annual Incentive PlanDefine company performance objectives A hypothetical payout schedule is shown below.At target company performance,the bonus pool will be fun
28、ded at 100%of each participants target incentive percentage.To reach the minimum performance threshold,this company needs to achieve 80%percent of both targeted revenue growth and pre-tax profits.*Payout schedule for illustration only*Revenue Growth(as a%of target)80%80%85%90%95%100%105%110%115%120%
29、120%0.0%100.0%106.3%112.5%118.8%125.0%131.3%137.5%143.8%150.0%115%0.0%87.5%95.3%103.1%110.9%118.8%125.0%131.3%137.5%143.8%Pre-Tax110%0.0%75.0%84.4%93.8%103.1%112.5%118.8%125.0%131.3%137.5%Profit105%0.0%62.5%73.4%84.4%95.3%106.3%112.5%118.8%125.0%131.3%(as a%of 100%0.0%50.0%62.5%75.0%87.5%100.0%106.3
30、%112.5%118.8%125.0%target)95%0.0%43.8%54.7%65.6%76.6%87.5%95.3%103.1%110.9%118.8%90%0.0%37.5%46.9%56.3%65.6%75.0%84.4%93.8%103.1%112.5%85%0.0%31.3%39.1%46.9%54.7%62.5%73.4%84.4%95.3%106.3%80%0.0%25.0%31.3%37.5%43.8%50.0%62.5%75.0%87.5%100.0%80%0.0%0.0%0.0%0.0%0.0%0.0%0.0%0.0%0.0%0.0%ANNUAL INCENTIVE
31、S23ANNUAL INCENTIVESExample:Annual Incentive Plan Determine bonus pool Once the company has assessed its overall performance at the end of the plan year,target incentives are adjusted upward or downward using the matrix.If this company achieves 95%of its profit goal and 105%of its revenue goal,the“i
32、nitial”incentive awards will be funded at 95.3%of target.*Payout schedule for illustration only*Revenue Growth(as a%of target)80%80%85%90%95%100%105%110%115%120%120%0.0%100.0%106.3%112.5%118.8%125.0%131.3%137.5%143.8%150.0%115%0.0%87.5%95.3%103.1%110.9%118.8%125.0%131.3%137.5%143.8%Pre-Tax110%0.0%75
33、.0%84.4%93.8%103.1%112.5%118.8%125.0%131.3%137.5%Profit105%0.0%62.5%73.4%84.4%95.3%106.3%112.5%118.8%125.0%131.3%(as a%of 100%0.0%50.0%62.5%75.0%87.5%100.0%106.3%112.5%118.8%125.0%target)95%0.0%43.8%54.7%65.6%76.6%87.5%95.3%103.1%110.9%118.8%90%0.0%37.5%46.9%56.3%65.6%75.0%84.4%93.8%103.1%112.5%85%0
34、.0%31.3%39.1%46.9%54.7%62.5%73.4%84.4%95.3%106.3%80%0.0%25.0%31.3%37.5%43.8%50.0%62.5%75.0%87.5%100.0%80%0.0%0.0%0.0%0.0%0.0%0.0%0.0%0.0%0.0%0.0%24Example:Annual Incentive PlanAssess individual performance Early in the year,managers and employees set three to five performance objectives for the empl
35、oyee(or team/department).To be eligible for an award at the end of the year,employees must perform at a level equal to or greater than“Meets Objectives”.Poor performers dont receive an award,even if company meets goals.Each level of performance has an associated multiplier that is used in the final
36、award calculation.Exceeds ObjectivesHighest level of performance that can be reasonably expected.Meets ObjectivesLevel of performance the company expects for the position.Corresponds to the 100%of target level.Below ObjectivesPerformance falls below the minimum acceptable level.THRESHOLDANNUAL INCEN
37、TIVES25ANNUAL INCENTIVESExample:Annual Incentive Plan Calculate incentive awards$100,000 x20%x110%x1.05=$23,100BaseSalaryTargetIncentiveAwardCompanyPerformanceFactorIndividualPerformanceMultiplierIndividualIncentiveAward26LONG-TERM INCENTIVESThe goal is to design a well-balanced set of programs that
38、 motivate and reward complementary objectives over both the short term(one year)and long term(three-to-five years).nTwo categories of long-term incentives Cash-BasedLTI cashPerformance unitsStock appreciation rights Equity-BasedStock optionsRestricted stockStock appreciation rights27LONG-TERM INCENT
39、IVESCash-Based IncentivesnRequire ability to set long-term company and individual goals(3 to 5 years)nGoals are often expressed relative to industry or peer company performance on various measures:Growth Revenues Profitability Total return to shareholdersnGood performance linkage,but potential drain
40、 on cash flownProvide a retention hook longer than the annual incentive plannEnable private companies to compete with stock option grants28LONG-TERM INCENTIVESLTI Cash PlansLong-term cash-based plan,designed to pay out after 2-3 years based on attainment of performance measures.nPlans generally have
41、 overlapping cycles,which maintains the retention value of the plan from year to year and does not create a down year after the first 3-year period,as payouts are made each year after the first plan cycle is complete.Year 1:Plan Cycle 1 starts.Year 2:Plan Cycle 2 starts,Plan Cycle 1 continues.Year 3
42、:Plan Cycle 3 starts,Plan Cycle 2 continues,Plan Cycle 1 pays out.nThe plans can use internal metrics,external metrics,or both to determine payouts.29LONG-TERM INCENTIVESLTI Cash PlansnSetting performance goals three years in advance can be difficult.nThese plans typically require a cash outlay,whic
43、h can be intimidating for companies with limited cash.However,the cash impact can be managed by:Designing self-funding plans with payout contingent upon earnings,among other performance measures.Discounting the value delivered to reflect the lack of market risk to the employee.Paying the awards in s
44、tock(typically net of taxes)rather than cash.30LONG-TERM INCENTIVESPerformance Unit PlanLong-term performance plan denominated in units and paid in cash.nEmployees earn“units”based on the attainment of company defined performance goals over a given performance period.nEither the value of the units o
45、r the number of units to be granted is determined prior to start of the performance period.nPerformance period is generally greater than 2 years and less than 5 years.nEligible employees must remain with the company for the duration of the performance period to earn the units.nEmployee is taxed when
46、 the units are earned and the company receives an equivalent value tax deduction.31LONG-TERM INCENTIVESPerformance Unit Plan nExample:Target award of 10,000 units dependent on 3 year profit and revenue growth versus goal Actual award can range from 0 to 20,000 units depending on performance Unit val
47、ue is fixed at$10.00 Performance exceeds the goals at the end of the period,and the employee earns 15,000 units At a$10 per unit value,the employee receives$150,000 in cash32LONG-TERM INCENTIVESPerformance Unit Plan nAdvantages:Links company and employee performance with long-term payouts Can pay ou
48、t in cash or sharesnDisadvantages:These are generally complex plans and communication may be difficult A weak performance review process may create a sense of ambiguity on vesting conditions33LONG-TERM INCENTIVESStock Appreciation RightsRight to receive appreciation of stock price over specified bas
49、e price,paid in either cash or stock.Like options,except that rather than paying to exercise the option,the participant is paid the gain in either cash or stock.nAdvantages:Can mimic options without using shares For employees in countries with significant regulatory or tax burdens on options Account
50、ing charge equals only the appreciation in the stocks valuenDisadvantages:May involve cash cost to company,if gain is paid in cash rather than shares Relatively complex and may be difficult to communicate to employees34LONG-TERM INCENTIVESEquity-Based IncentivesnAllow employees to benefit financiall
