3 Expectations CEOs Should Have of their Company’s Pay Strategy
October 11, 2019 •
By Ken Gibson
Most chief executives have growth ambitions for their businesses that are unfulfilled. Seldom do they think their companies are achieving their full potential. This feeling is exacerbated by the pressure these leaders feel to perform well against the intense competition they face. Their frustration is heightened when the people around them don’t exhibit a shared vision of the company’s future or an equal commitment to its fulfillment.
One of the primary reasons this is happening is because their organizations have not succeeded in creating a unified financial vision for growing their businesses.
Large incentive payouts are being made each year, but they are not tied to clear performance metrics (improved profits, increased revenue, etc.).
Key employees are being paid high salaries, but very little of their compensation is “at risk” (variable/incentive-based). As a result, the company has a high fixed-pay commitment. If they have a soft revenue year, they are economically vulnerable.
There are several compensation arrangements in place that are “ad hoc”; they don’t fit into a standardized pay structure, because none has been constructed.
There is no stated philosophy that is guiding the company’s decisions about compensation. By extension, there is no cohesive pay strategy in place designed to drive clearly defined outcomes.
There is no accountability built into the company’s rewards approach. There is little to no examination of the ROI the business is generating on the enormous investment it is making every year in compensation.
Because these issues have become so significant, chief executives are realizing they need to be more involved in defining the impact they want their organization’s compensation strategy to have. At VisionLink, as we work with these business leaders, we suggest three outcomes they should expect their rewards plans to produce:
1. Attract Top Talent
To grow a business in a hyper-competitive business environment, organizations need to be able to recruit the best people. To attract that talent, their value proposition cannot be just adequate. It must be irresistible. And at the heart of an irresistible value proposition is a compelling pay offer.
Every business leader is finding it harder and harder to find the strategy leaders they need to achieve their growth ambitions. This is because there is a scarcity of highly skilled, well-educated individuals available in the talent market. Scarcity breeds competition—lots of it. Hence, the need for a pay plan that is impossible to refuse when it comes time to make an offer to a key recruit.
2. Create Growth Partners
Business leaders are no longer looking for employees to fill positions in their companies. They are seeking catalysts (people who have transformative talent) who can fulfill roles and own the results associated with those roles. They want growth partners. These are individuals who chief executives can rely on to look at the company’s potential they same way they do, are just as passionate about seeing that potential fulfilled as they are and have the ability to “make it happen.”
This implies the pay strategy the company puts in place will reinforce the outcomes associated with the roles people are being asked to fulfill. For example, it needs to reward both short and sustained performance so the company’s “growth partners” will focus on achieving this year’s results without sacrificing the long-term targets the company also needs to hit.
3. Increase Shareholder Value
“How can a compensation plan improve shareholder value?” you ask. “Is that even possible?” It’s a fair question. But yes, not only is it possible, it’s critical.
Shareholder value is improved when the company consistently hits the targets it has set in its growth model. The pay strategy should be reinforcing and rewarding the achievement of those outcomes. And a company knows this is happening when its productivity profit is improving. This is also how it measures the ROI it is generating on its compensation investment.
Productivity profit is the net operating income a company produces after accounting for a capital “charge” against its earnings. It represents profits attributable to the performance of human capital at work within the company. The capital charge is a means a company employs to protect the capital investment owners have tied up in the business. It is a percentage of the shareholder’s capital “account”; the value of the owners’ total investment in the company (stock value, debt and other assets contributed). By accounting for a capital “charge” against profits, the company is defining a value creation threshold for the business which must be achieved before any value sharing occurs.
What this means in practical terms is that if a company’s productivity profit is improving, then its people are driving the right kinds of results. Because it has defined a threshold that must be met before any kind of variable compensation payout is made (value-sharing), it can anticipate the financial commitment it can “afford” to make to its growth partners while maintaining an improving return to shareholders. And here’s the kicker: As long as productivity profit continues to increase, business leaders can provide unlimited earnings opportunities to their people without sacrificing shareholder value.
If chief executives will enforce these standards for the pay strategies their companies deploy, they will find much of their frustration from unfulfilled growth ambitions will diminish.
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Ken is Senior Vice-President
of The VisionLink Advisory Group. He is a frequent speaker and author on rewards strategies and has advised companies for over 30 years regarding executive compensation and benefit issues.
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