A Simple Approach to Understanding How Components of CEO Pay Fit Together
Richard Wagner is President Strategic Compensation Research Associates (SCRA) and Author/ Editor
of the "Executive Compensation 2004 Guide"
In seminars and speeches, I’ve had
some success with the use of the following "typical approach." It’s
designed to lay out, in simple terms, the variables of - and
influences on - executive and director compensation. It’s a
non-controversial approach, but when you "tally" the compensation or
the eventual accrued values, the results are telling. For example,
a new outside director with a retainer of only $40,000, would
actually earn $340,000 for his/her first year of service (15,000
options @$30 will be worth $300,000 if the company achieves the $50
share price expected by investors - 12% / year - 5 years hence).
The CEO has a
simple cash package of $400,000 salary and 50% to 150% bonus
Opportunity, plus a 3 year LTI targeted at 50% of salary per year,
and 50,000 stock options at FMV. The annualized package is actually
over $2 million – but only if shareholders gain over $2 billion of
market value.
To achieve that
in a stable market (P-E Ratio holds at 30 or P/Rev Ratio holds at
2.0), management must drive Net After Tax Earnings to $1.67 in five
years. Actually, that may require almost a doubling actual earnings
or revenue, since there may be as many as 10-15 million or more
shares outstanding due to dilution.
Executive, Director and Equity Compensation
A Typical Approach
| ABC Company: |
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Trading at $30.00/Share |
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100,000,000 Shares Outstanding* |
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*Holders: 60% Institutional
(including Mutual Funds, Taft-Hartley plans,
Int’l Investors, Reg.
Investment Advisers), 25% Street Name retail, 10% of
record (incl.
6% insiders), 5% other |
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Revenue:
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$1,500,000,000 |
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After Tax Earnings (NET):
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$100,000,000 |
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Earnings Per Share:
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$1.00 |
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P-E multiple: |
30 |
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Executive/Director/Management Stock Incentive (Option) Plan: |
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15,000,000 shares authorized |
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- Broad-based Stock
Plan for Management & Others |
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5,000,000 shares authorized |
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- Shareholder Rights
Plan (Poison Pill) |
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Outside Directors’ Pay |
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Three-year term, with classified board |
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Annual Retainer: $40,000
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Option Award: Initial 10,000 options at FMV, then 5,000
per year |
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CEO’s Pay |
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Salary: $400,000 |
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Bonus: $200,000 - $600,000 |
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(e.g., at Plan NET,
$200,000
at 120%
of Plan NET, $600,000
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Current Cash
$600,000 $1,000,000 |
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Long Term Incentive Plan - per year |
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(3-4 Yr Cash payout of $600-$900K, e.g.
@ EPS of
$1.30 in 3d yr = $600 K paid,
@ EPS of
$1.50 in 3d yr = $900 K paid) $200,000 $
300,000
|
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Earned per
year: $800,000
$1,300,0000 |
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(Range: Paid,
year 1, $700 K, year 2 $700 K, year 3 $1.3 M
up to:
Paid, year 1, $ 1.0 M, year 2 $ 1.0 M, year 3 $ 1.9 M)
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Stock Options (or other Equity) |
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(50,000 options/year @ $30)
$500,000 "B-S value" |
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Actual Value @ $50/share
$1,000,000 |
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Earned per year:
$1,300,000 $2,300,000 |
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PLUS:
- Supplemental
Executive Retirement Plan (SERP) at 50% of final average pay upon
reaching 25 years of service (est. $10 million plus)
- Opportunity
to defer salary, bonus and/or other components to retirement with
preferential interest rate or stock price gain, and with chance to
"cash out" early at a 10% "haircut" (est. accrued value - $5
million plus)
- Cash from
5-10 years of Stock Options (est. $6 million plus)
- Change of
control/severance protections of 2-3 times pay
- "Rabbi Trust"
funding (subject to general creditors only in event of bankruptcy)
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