It Starts At The Top
As I continue to think about the issues
that led to our recent financial woes and the implications of
compensation programs, I am more convinced than ever that there needs
to be a fundamental shift in how we look at rewarding employees for
their individual performance and the collective performance of the
company. To do this we must first take a step back and find the core
issue and then decide how to address it.
I mentioned in my last blog that greed and poorly structured
compensation programs contributed significantly to the financial crisis
we are now dealing with. While I still believe this, I also believe
that greed is something hard-wired in human beings. We each deal with
this in our own way, but this is not something we can change.
Societies and governments, over time, have dealt with this by creating
laws, regulations, controls, etc. to provide checks and balances to
keep things in line.
While we could create more rules to govern compensation programs, I
believe there is a more positive and proactive way to provide a new
direction for designing compensation programs, and it all starts at the
top with the board of directors.
It’s not just a compensation issue, but more fundamentally, it’s an
alignment and accountability issue. How do we align compensation
programs and payouts with the right performance metrics of a business
and the return to investors and then hold executives truly accountable
for their performance against these metrics?
Years ago there was a trend to look at long-term shareholder value
creation as a way to set performance metrics for a business. While it
seems like we’ve lost sight of this, I believe it is time to come back
to this principle and make it an even more fundamental cornerstone of
Companies clearly need to demonstrate short-term performance, but
the key to success for any company is long-term growth. This is what
provides the most value to investors. Unfortunately, what we’ve seen
in recent years is a lot of focus on short-term business results (or
perceived results) and the huge compensation payouts resulting from
these short-term results.
I believe we need to look at the key drivers of success for
businesses and their industries to determine what performance will
yield long-term growth and returns. This is possible and I’ve seen the
data to prove it. By looking at a particular industry, it is possible
to understand what metrics are highly correlated to long-term value
creation. In other words, if you consistently perform well on these metrics, statistics will show that the value of the company will go up.
So, it starts at the top. Boards should require their management
teams to understand these metrics and focus their business goals and
objectives around these metrics. While many companies say they use
metrics that are tied to business success, I question how many have
gone through the rigor of analyzing these metrics to understand if they
truly drive long-term value creation.
Once these metrics are identified it is imperative to align
executive compensation to these metrics. The next step is to roll
these metrics down throughout the organization and align all
compensation programs to them. All employees should know what they can
do to help the company achieve long-term growth.
Finally, boards must hold executives accountable for the performance
on these metrics and compensation should be tightly aligned with
whatever performance is achieved.
Stewart Gill, Principal
Jackson Hole Group