Rethinking Compensation

Dec. 21, 2004
Heightened scrutiny and changing demographics will alter the makeup of wages-and-benefits packages for executives and laborers. Is your company ready?

The $6,000 shower curtain has closed on corporate excess. Lavish parties, vacation homes, baubles and traditional stock options are being replaced by federally scrutinized compensation packages. Board members are buffing up on accounting standards, and companies big and small are rethinking how they do business. Additionally, the U.S. workforce is changing drastically. Baby boomers, one of the largest generations, are hitting retirement age, and the generation that follows is one of the smallest. A severe worker shortage is expected. The convergence of these trends is spawning a rethinking on how companies pay employees, both those in the executive suite and those on the plant floor. Experts see compensation becoming more customized based on a company's goals as well as workers' individual needs and preferences. Is The Board On Board? Presently, the rethinking on executive pay is more painful and immediate for most companies than the looming worker shortage because of new regulations and expectations that evolved from the shocking corporate mismanagement of companies such as Tyco Ltd. and Enron Corp. "Executive compensation right now is in total disarray, and I say that because the compensation committees of the boards of directors are trying to figure out if the way they are currently doing it is satisfactory, would it pass the governance test, or are there better ways of resetting executive compensation each year?" says Peter V. LeBlanc, senior vice president, Sibson Consulting, Raleigh, N.C. There is a lack of confidence in the decisions that are being made in corporate halls on pay, and that needs to change at all companies, LeBlanc says. "A lot of companies have been complying, they have been thoughtful, responsible in their decisions. We hear about the bad companies -- and that's a small number. Unfortunately that small number of excessive examples is the sensational stuff you read about, that's not the average manufacturing company." However, all companies will find closer scrutiny of their compensation decisions because of those few scandals. Indeed, the Sarbanes-Oxley Act of 2002 is designed to increase the quality of corporate financial reporting, and the Financial Accounting Standards Board's efforts are changing how companies account for employee stock options. Additionally, the IRS has begun an audit initiative that focuses on whether executive compensation guidelines are being followed. According to Brent Longnecker, president of Longnecker & Associates, Houston, "The IRS is auditing two dozen companies as a focus-group approach, and after they determine what they've got, probably every publicly traded company will have as part of an audit attack the issue of executive pay. "I think the IRS is going to find some interesting issues on those eight topics that they are going to go after. They are going to tighten up certain definitions of things that are interpretive right now in IRS tax code, and they are going to find a lot of money." The eight topics: nonqualified deferred compensation, stock options, family limited partnerships, fringe benefits, split-dollar life insurance, golden parachutes, offshore employee-leasing arrangements and 162(m) deductions. Two areas of special interest are perks such as private planes, housing and deferred compensation plans, and stock-option arrangements that may allow for the underpayment of taxes on the gains. "There is no defense if you are found in non-compliance with the IRS, and you owe money," says Longnecker. "All that means is that taxpayers will have to subsidize you being a cheat. How are you going to make an argument that you were ripping the U.S. off?" Arthur Kroll, chairman and CEO of KST Consulting Group Inc., a New York-based firm that specializes in executive compensation, says that it's important for a board's compensation committee not to look so much at what they did in the past, but plan for the future because they will be under intense pressure to justify their compensation decisions. "I think executive directors will be doing a lot more. Audits will be more careful, and the audit committee will function better," says Kroll. "We won't have towsy-wowsy type directors as we witnessed in Enron -- seemingly ignorant of what was going on. But that doesn't mean that they can discover fraud either." New Models Emerging According to LeBlanc, executive pay generally has been determined through an executive pay report of peer companies that are considered to be good reference points. Unfortunately, those companies tend to pay as much as the company in question. It's basically letting the competition set your pay. "It's like being a hamburger company and going out and seeing what five other hamburger companies are charging for their hamburger and then averaging that together and pegging pay against that," explains LeBlanc. "Instead of looking at the full menu of products, look at which ones you really need to sell -- that's a competitive way to think about products. But a lot of these boards haven't been coached to think that way. They've been coached to think about what other companies pay. They've been very concerned about losing their top people, and the No. 1 concern is retention." As for the future of executive compensation plans, Longnecker believes that tailored compensation packages will be more popular than ever. He likens the practice to what 401(k) plans started to offer workers in the 1970s. "As opposed to you the company dictating what I'm investing in, you'll give me the ability to do research and invest in what I want, even though it might not be as much. The fact that I have control makes me feel better." Longnecker believes that executive pay customization will follow the same path, allowing companies to get more bang for the buck. "A company might say, here's the pay salary that you can have from this range to this range. If you choose the higher base, you're going to get a lower bonus. There's a way to take base, bonus, benefits and long-term incentives and perquisites and say here's a template of what we'll allow you to work off of. "That said, I think you'll see a trickle down of customization to key executives pay packages and possibly key employee pay packages." Retaining executives isn't the only concern that companies are faced with. Rank-and-file demographics are shifting, and the manufacturing industry will be the hardest hit. "By shear numbers, you have the largest generation [baby boomers] we've had followed by one of the smallest generations [Gen X] we've ever had," says Alex Sussman, senior vice president and National Retirement Practice leader at Segal Co., New York. "If you translate this into jobs, by proportion there are going to be more jobs to fill than there are people to fill them." Especially troubling is the generation that follows the Gen Xers: Gen Y. While this generation, which was born in the late 1970s, is 70 million strong, their work interests don't include labor. "I don't think Gen Ys are looking for production line jobs; their interests are different," says Sussman. "The number of people going to college in that generation is way up." This generation will be looking for research jobs or white-collar work, not manufacturing. Agreeing with Sussman, Bob Critchley, strategic consultant, Global Relationships and Acquisitions, DBM, New York: "There is a dramatic shift happening in the demographics. The next 10 years in the workplace will be quite unrelated to the last 30, because the last 30 we had this constant flow of boomers coming into the workplace. There's always been an adequate, plentiful supply of labor." According to Sussman and Critchley, a change in work/life and compensation packages can help manufacturers keep on keeping on. Despite the recent economic turmoil and tarnished images the manufacturing industry has had to deal with, work/life benefits have remained in tact. And for good reason -- once the economy shifts, companies can't afford a mass exodus of workers. Understanding that the "new" workforce won't buy into the job-for-life pitch is a crucial step for attracting a retaining employees. "They've seen what happened to Mom and Dad," says Critchley. "They've seen them work for an organization that said trust me, you've got a job for life. They've seen them stressed, and they've seen them commit their life to a company that didn't repay them. Now they are saying they want a better balance in their life." With all that has happened the last few years, companies need to rethink their work/life benefits packages. These packages need to complement their workforces. "Companies should be looking at every piece of their demographics and what the needs are there," says Richard F. Federico, vice president of work/life and communications, Segal. "For example, do people put a high value on flexibility in the workplace? A high value on any kind of a family-care program whether it be for children or for elders? Do they put a high value on EAP services to reduce stress or offer legal assistance and financial planning? Or do they look at employee benefit services like concierge programs?" Federico adds that the manufacturing environment is skewed toward an aging workforce, and elder care may be a good option to offer. "We're not talking long-term care, we are talking about on-site geriatric counseling." Agreeing that elder-care will be a major concern for workers, the Society for Human Resource Management (SHRM) notes that productivity will drop if employers don't address the issue. "The increasing need for elder care is an inevitability," says SHRM President and CEO Susan R. Meisinger. "Employers have an opportunity to either anticipate and manage it in a way that benefits both the employer and employees, or let it smack them in the face a few years from now, dragging down productivity and increasing turnover as a result. Organizations simply can't afford to ignore the cost of this reality." As for attracting new workers, especially those just out of school, offering more vacation time can help. "Starting vacation time is a big deal," says Federico. "If you offer two weeks, and your competitor offers three, where are they going to go?" Some companies already understand the importance of tailored work/life benefits. It's a way to make them competitive in what some experts say is going to be an employee market. Whether they offer workers time off to tend to children or parents, concierge services to help make the most of their time or health-care and retirement plans that are customized for their age, many companies know a happy workforce is a productive workforce. "We've seen in the last 10 years an environment where the employer rules and sets the rules of what employees must do," says Critchley. "I think we're going to move to one of employee empowerment."

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