Page 413 - Bruce Ellig - The Complete Guide to Executive Compensation (2007)

Chapter 7. Short-Term Incentives 399

Low bonus potential in problem divisions may also be a significant retardant in getting
highly qualified executives to accept a transfer from a profitable division.
Some companies rely strongly on the noncommittal or “golden gut” approach of “Just
do a good job and we’ll take care of you.” Unfortunately, it is very difficult for an executive
to identify strongly with this type of organization inasmuch as specific objective results
related to bonus payment are nonexistent.
Companies with divisional allocations should be careful not to overpay profitable divi-
sions and underpay unprofitable ones. Is it logical to pay a highly profitable division more
than an unprofitable one if the former is losing market share while the latter is achieving a
miraculous turnaround? In many cases, relative performance is more important than
absolute. In addition, how much of the credit for success or failure should go to the present
management team? Were they the decision makers or were they simply in the chairs at the
time the results were measured? Consider the executive who never held an assignment for
more than three years, and in each instance, the unit showed marvelous results (only to sink
to lower depths after the individual’s departure). Was the executive the solution or part of
the problem?
Consider the division president who agrees to an unrealistic increase in employee wages
to settle a union contract and avoid a loss in sales. This action may place undue pressure on
other units of the company regarding the size of their settlements or increases to nonorga-
nized employees. In addition, one must ask whether it is possible to pass these increased costs
along in the way of price increases.
Because they can go up and down within a year’s time, short-term incentive programs,
more so than any other compensation element, provide the vehicle for reinforcing desirable
performance and penalizing undesirable results. Unfortunately, because of design flaws and
management reticence in administration, the degree of success in meeting this objective is
more apparent than real. Conversely, it is not logical to adopt a short-term incentive plan
where key decisions are few, results cannot be judged for years, only a handful of executives
make the decisions (except perhaps for an active committee system), and a comfortable
environment exists in which inadequate performance is seldom penalized.
Many plans fail because of poor performance appraisals and inadequate financial
controls. However, the surest way to ensure plan failure is to have those responsible for
administration not prepared to penalize failure (rewarding success is a problem only relative
to rewarding mediocrity). The CEO and compensation committee must firmly believe in the
incentive principle and be prepared to make it work. Lacking this conviction and resolve, the
best plan is doomed to failure.
Because of the complexities of corporate responsibilities today, the authoritarian CEO
is an anachronism; most decisions are reached by consensus among management commit-
tees. Given this climate, it is unrealistic to assume the CEOs will make unpopular decisions
regarding subordinate pay increases. Need for objectivity seems to increase with the dis-
tance from the rater and ratee! Most executives find it difficult to be objective with their
own subordinates but fully expect them in turn to pay their subordinates in relation to
attainment of objectives. Many a well-designed incentive plan has failed simply because it
has not recognized this basic truth.
Companies with bonus plans generally are reported to be paying 20 percent or
more for comparable positions than non-bonus-paying companies. For some companies,
these additions to the executive payroll are cost effective; for others they are additional