Components of Executive Remuneration
For the purpose of remuneration, an executive is considered to be an individual who is in a management position at the highest levels. Specifically, this category includes presidents, vice-presidents, managing directors and general managers. Their remuneration generally comprises five elements. They are:
4. Long-term incentives
5 Perquisites (perks)
Salary is the first component of executive remuneration. Salary is supposed to be determined through job evaluation and serves as the basis for other types of benefits. But job evaluation may be only a partial solution because executives must be paid for their capabilities-for what they can do-rather than for job demands. This is the reason why norms of wage and salary fixation are generally not observed while fixing salaries for executives.
Salary as a component of total remuneration is not significant as it is subject to deduction at source and is also capped by government regulations. In order to make good the cuts and ceilings, executives are offered hefty incentives and attractive perks.
Bonus plays an important role in today’s competitive executive payment programs. This type of incentive is usually short-term (annual) and is a definition of performance is crucial.
There are almost as many bonus systems as there are companies using this form of executive remuneration. In some systems, the annual bonus is tied by the formula to the share price or the return on investment. Other bonus plans are based on the subjective judgement of the board of directors and the chief executive officer.
More complex systems establish certain targets, for example, a 10 percent increase in corporate earnings from the previous year, and then a bonus pool after the target is attained. The bonus is then distributed, either in accordance with a preset formula or on the basis of subjective judgements. Executives deserve bonus because they have much more opportunity to influence organizational success than non-managerial staff.
Some companies pay commission to their executives and going by the figures, commission constitutes a major share in executive remuneration. But the Companies Act puts a ceiling on the amount of commission payable to executives.
If bonus constitutes a short-term benefit, stock options are long-term benefits offered to executives. Companies allow executives to purchase their shares at fixed prices. Stock options are valuable as long as the price of share keeps increasing. The share price crashes when the company starts incurring loss, and executives stand to lose in the process.
Stock options are attractive to shareholders too. First, an option is not a bonus. Executives must use their own resources to exercise their right to purchase the stock. Second, the executives are assuming the same risk as all other shareholders, namely, that the price could move in either direction. Options are a form of profit sharing that Jinks the executive’s financial success to that of the shareholders.
Finally, stock options are one of the few ways to offer large rewards to executives without the embarrassment of “millions of dollars of obvious money changing hands.” Nevertheless, the risk factor in this type of incentive may be too great for it to be attractive to executives.
ESOPs (Employee Stock Option Plans) have lost their sheen. The companies which championed the cause of stock options have reverted back to cash incentives. Organizations still opting for stocks are few and far between. Global economic recession has hit stock markets. With share prices crashing by the day, no more are the ESOPs attractive to employees. Employees are more worried about job security than the so called long-term incentives.
Perks constitute a major source of income for executives. In addition to the normally allowed perks like provident fund, gratuity and the like, executives enjoy special parking, plush office, vacation travel, membership in clubs and well-furnished houses. Perks take care of all possible needs. Executives are rarely required to spend money from their pockets. Their holidays, servants, telephone bills and even electricity and gas bills are taken care of by their companies.
Typically, perks to executives include the following. But the list is not exhaustive.
• A company provided car
• Accessible, no cost parking
• Limousine service, the chauffeur may also serve as a bodyguard
• Kidnapping and ransom protection
• Counselling service, including financial and legal services
• Professional meetings and conferences
• Spouse travel
• Use of company plane and yacht
• Home entertainment allowance
• Special living accommodations away from home
• Club memberships
• Special dining privileges
• Season tickets to entertainment events
• Special relocation expenses
• Use of company credit cards
• Medical expense reimbursement; coverage for all medical costs
• Reimbursement for children’s college expenses
• No- and low-interest loans.
There are two more components of executive compensation as well. One is pension and the second is termination benefits. Some companies have pension scheme in place, either specially designed for executives or open to a wide range of employees. In the US, a certain part of the compensation is often deferred until the executive reaches retirement age.
Many companies provide termination benefits for executives, either as a lump sum or in the form of continued payment of compensation after the expiry of a contract. The termination clauses may preclude payment if the termination of the contract is caused by the executive, in the event of unilateral termination of contract, for example, or as the result of a serious fault of the executive.