'Say on pay' takes effect: Now what?
Kathleen Brush has been a CEO, president and chief marketing officer for several global companies over the last 20 years. She is currently a global management consultant and the recent author of Leadership: Get Ready for the Latest Global Challenges.
Shareholders don't need to grumble anymore about over-paid, underperforming executives. Effective Friday, the "say-on-pay" provisions in the Dodd-Frank Wall Street Reform and Consumer Protection Act start giving shareholders a vote on pay.
Yet the grousing isn't over. It has now shifted to board members, who say they are concerned about armchair-quarterback shareholders second guessing their informed expertise. The protests of board members--whose selection often has more to do with connections and camaraderie than managerial credentials--may have less to do with ill-informed or inexperienced shareholders and more to do with boards' embarrassment. The government is essentially stepping in because such boards failed to self-regulate their responsibility to maximize the value of other people's money.
It is promising that many boards have commented that "say on pay" is encouraging them to focus more on tying pay to performance. One popular proposal is to lengthen the time period for assessing the work executives are doing. This would minimize the number of unfair payouts tied to the effects of bubbles, opportunistic behaviors and state subsidies, which are today's hot buttons. It would be a pity, though, to squander a chance to more fundamentally right the wrongs of a historically faulty practice--and one that has frequently been at odds with maximizing shareholder value.
To fix the more systemic problems with executive pay, boards need to embrace that their most important job is motivating the type of executive performance that creates real value; and their most powerful lever to do this is a carefully designed pay package. This means they cannot exclusively rely on simple values or ratios. All these do is set the stage for a plethora of case studies, such as On the folly of rewarding A but hoping for B.
It's easy for executives motivated by shorter-term profitability to lose sight of issues that can influence longer-term health. It's just as simple for executives whose pay motivates longer-term revenue to fritter away funds under the banner of investing for growth tomorrow. Granted if tomorrow never comes, executive pay is punished; but this is scant consideration to shareholders who lost their savings.
The key to designing a pay package is to make sure that it is driving maximum shareholder value both today and tomorrow. Too many packages fail to account for how pay influences performance. For example, they start out with big fixed salaries--but no one is motivated by a fixed entitlement. Add to this a severance payment that provides comfort for life, and the code has been broken on why so many companies perform poorly. Executives are rewarded first for showing up and next for leaving.
The best packages give weight to the variable portion, and they zero in on motivating productivity in combination with innovation. When executives focus on delivering products and services that consistently compete in terms of both innovation and price, the byproduct is that they end up maximizing shareholder value today as well as tomorrow. Investors love companies they can count on to continually deliver competitive products, because they know that continually rising revenue, profits and share prices come along for the ride.
To maximize productivity, executives must be pros at motivating employees to create more from less, aficionados of process, good stewards of company resources, and masters of organization and subtle control. Pay metrics must zero in on assessing the outcomes from these behaviors.
Productivity plotting along a healthy competitive course is a promising performance indicator but not sufficient. It is child's play to drive productivity at the expense of innovation by decimating the R in R&D. To minimize the possibility of damaging value tomorrow, productivity metrics must be matched with metrics monitoring innovation.
At the same time, to keep innovation constant, executives must motivate employees to maintain a steady supply of marketable products. Too many companies are one or two trick ponies that deliver stellar results until their star products age. When pay is tied to innovation this possibility is minimized.
Board members are busy, yet creating executive pay packages is their most important job and it can never be rushed. "Say on pay" allows shareholders to hold boards accountable for designing pay packages that can motivate a range of leadership behaviors that will maximize short- and long-term shareholder value. Shareholders need to make their voices and votes heard. If they don't, they'll be back to grumbling about over-paid and underperforming executives, but this time with only themselves to blame.
January 21, 2011; 2:35 PM ET |
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