The COVID economy has likely caused you to rethink your compensation approach and forced you to confront some difficult questions: Should incentive compensation play a larger or smaller role in your pay strategy going forward? What’s more important—rewards for short or long-term performance? Better yet, should you even be offering incentives at all given the current uncertainty in the business environment?
VisionLink and EBS would like to help you answer those questions. In this webcast, you will learn why incentive plans are more important than ever and how they should be engineered in a post-COVID business world. We will show how the right approach to value-sharing can help you succeed any economy and inspire a balanced result in your employees’ performance.
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What is the “New Economy?”
Post COVID
Uncertainty
Nature of business has changed
The “job to be done” has evolved
Expectations are different
Many unknowns
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Key Question
How would your
compensation
strategy have been
different had you
known the coronavirus
economy was coming?
10. 1010
Answer of Most Business Leaders
More flexibility
Fewer high-cost
guarantees
11. 1111
Flaws Revealed by COVID-19 Economy
Unbalanced Pay Offerings
Heavily weighted to guarantees
(salaries, benefits)
Heavily weighted to short-term
performance rewards (bonus or
other STIP)
12. 1212
Where We Are
The Post COVID Reality
Incentive compensation is more essential
now than ever before, because companies
need agile pay strategies that will work in
any economy
13. 1313
But . . . “Incentive Plan” Headaches
How many times have we revised our
incentive plan in the last five years?
What does our incentive plan cost?
How is our incentive plan paid for?
How do we measure the success of our
incentive plan?
How much of our incentives reward short-
term performance and how much reward
long-term? Is that the right balance?
What metrics drive the value of our
incentive plan? Are they the right ones?
What ROI are we getting on our incentive
plan?
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Now
How should we define value creation
going forward?
What should be our philosophy about
value sharing?
How should we balance guaranteed vs
variable compensation?
Is it more important to reward short or
long-term value creation?
What kind of value-sharing plans should
we have?
What metrics should we use for short-
term value sharing? What about long-
term?
How do we reward value creation while
protecting both cash flow and shareholder
value?
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The 4 Keys of Incentive Compensation Success
1. Replace incentive
plans with value-
sharing
2. Use the right metrics
3. Balance short and
long-term value
sharing
4. Make value-sharing
self-financing
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The Wrong Premise
Historic Approach: Influence
Behavior Through Careful
Selection of Plan Metrics
Reward your employees for achieving
results that are as close as possible to
their job duties.
“Select the best metrics” for each
employee or at least for every
department.
Assume that all the collective mini-
improvements will roll up into
shareholder value creation.
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“Let’s change behavior”
“…when financial incentives are
applied to increase…motivation,
intrinsic motivation diminishes. A
meta-analysis of 128 independent
studies conclusively confirmed this
effect.”
(“Stop Paying Executives for Performance,”
HBR, February 23, 2016)
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20. 2020
Transition from Incentives to Value-
Sharing
The premise should be to promote value
creation and value-sharing:
▪ “When you help us create value you
participate in that value”
▪ Define value creation around the
shareholders’ most important goals
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Not Just Profit but “Productivity Profit”
Productivity profit is that
surplus that can be
attributable to the
contributions of your people,
not just the contributions of
capital.
24. 2424
Core Changes Shift from “Incentives” to “Value
Sharing”
Took away local measurements
driving management incentive
plans—all paid on same metrics
▪ “We live together and we die
together”
Aligned everyone behind
company success
▪ “I call it ‘pay the company first.’ ”
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25. 2525
Pay the Company First
“Basically, up to the company’s
operating profit target, all of
the profits go to the company;
and only after that target is
met, do we start funding the
incentive pool.”
Example: If UL’s target is
$80 million--
100% of first $80 in
profit goes to company
The next $20 million
goes to the incentive
pool
From there on, 50/50
between company &
incentive pool
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Pay the Company First
Once value creation is defined,
compensation can follow a formula
for sharing value in a way that aligns
key producers with the company’s
business plan and priorities.
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When the plan isn’t effective . . .
Most employers re-double their
efforts to find the “right metrics”
More metrics (KPIs) are added to
the plan formula to focus
employees on behavioral
outcomes
Employees focus on the KPIs
rather than the big picture
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Metrics Focus
8 Problems
1. Impossible to link every metric to true value
creation.
2. Multiple KPIs create confusion and sap
motivation.
3. A focus on behavior incentives can lead to the
opposite behavior.
4. Difficult to find metrics for every position.
5. Results may be manipulated or loopholes
exploited.
6. Impossible to equalize metrics across individuals
and departments.
7. Unintended and unanticipated negative
consequences.
8. Pursuit of “perfect” metrics is a time waster.
https://www.vladvisors.com/why-most-bonus-
plans-fail-report 29
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Outcomes, not Methods
"You cannot hold
people responsible
for results if you
supervise their
methods.“
(Stephen R. Covey)
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"You cannot hold
people responsible for
results if you pay
them for their
methods.“
(VisionLink)
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Ways to Treat Individual Performance
Component of the
allocation
Discretion
Modifier
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Problems
Full (or even partial) discretion may lead to charges of
unfairness or even discrimination
▪ “Why was he paid more than me?”
Lengthy list of employee goals may be hard to track fairly or
accurately
▪ “I didn’t get that done because you asked me to focus on something
new”
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Individual Performance Solution:
Spot Bonuses
What about employees who made
special contributions over the course
of the year?
Create a discretionary reserve
inside of plan funding
Reserved for “exceptional”
performers only
Point to clear contributions (the
reason for the award)
Immediate recognition (not end
of the year)
Eligibility criteria
Budget a “reserve” to fund these
awards
They don’t have to be big ($500).
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Clarity, Achievability, Meaning
Every employee understanding:
▪ How individual performance can
influence variable pay
▪ That end-of-year awards are a
celebration of team results
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Dual Focus
Peter Drucker once wrote that the
manager’s job is to keep his nose to the
grindstone while lifting his eyes to the hills.
He meant that every business has to
operate in two modes at the same time:
producing results today and preparing for
tomorrow. (Ken Favaro, Strategy+Business)
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9 Long-Term Value Sharing Alternatives
Stock Option
Performance Shares
Restricted Stock
Phantom Stock
Option
Performance
Phantom Stock
Phantom Stock Profit Pool
Performance Unit
Strategic Deferred
Compensation
43. 4343
Grant Equity or
Not Equity?
Full Value or
Appreciation Only?
Yes
Appreciation
Stock Option
Full Value
Performance Based?
Yes
Performance Shares
No
Restricted Stock
No
Reward for Value
Increase or Financial
Performance?
Value Increase
Full Value or
Appreciation?
Appreciation
Phantom Stock
Option
Full Value
Performance Based?
Yes
Performance
Phantom Stock
No
Phantom Stock
Financial
Performance
Appreciation-
Performance Based or
Employee Directed?
Performance
Based
Reward for Profit/Cash
Flow or Other Metrics?
Profits
Allocation or
Objectives Based?
Allocation
Profit Pool
ObjectivesOther Metrics
Performance Unit
Employee Directed
Strategic Deferred
Compensation
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This solution leads to . . .
Ownership Mindset: The need to focus
on both short and long-term outcomes
Financial Alignment: Owners and
employees rewarded for the same
results
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Create a Balanced Pay “Portfolio”
The role of each pay component in
relation to others within the
comprehensive compensation
strategy is coordinated and clear.
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The Total Rewards “Pie”
In an “investment” evaluation, you determine “how much” should be
allocated to “which assets.”
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The 4 Keys of Incentive Compensation Success
to Value-Sharing
1. Replace incentive
plans with value-
sharing
2. Use the right metrics
3. Balance short and
long-term value
sharing
4. Make value-sharing
self-financing
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Total Rewards Perspective
Now, let’s enhance
the value of the
executive pay
proposition and
strengthen retention.
Which slice on the left
can do that for us?
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Non-Qualified Deferred Compensation
A Standard Component of a Total
Rewards Package
▪ Complements the incentive plans
▪ Provides tax-deferred savings of
awards:
− Either short-term (e.g., 3 years)
− Or long-term (until retirement)
▪ Provides control over the timing of
the taxation
▪ May also provide state income tax
savings
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Company Contributions / Investment Options
Company Contributions
401(k) restoration or other matching
Discretionary profit sharing
“Notional” Investment Options:
Comparable to the 401(k) line-up
Custom, industry-specific funds
A collared index fund linked to an equity
index with downside protection
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Distribution of Benefits
Timing
Retirement or other separation from
service
A specified in-service date
Death, disability, in the event of a
financial emergency
Upon a change in control
Form
Lump sum
Installments
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Distribution of Benefits (Cont.)
Changes in Distribution Elections
An initial distribution election can be changed if the
election is made:
▪ 12 months in advance of the originally scheduled date
▪ The new distribution date is at least 5 years later.
For example: Original in-service date is 1/1/2025:
▪ A subsequent deferral election could be made:
− Anytime before 12/31/2023 and,
− The new distribution date is 1/1/2030 or later.
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Deferral of Equity Compensation
RSUs and PSUs
Taxed upon vesting
A plan can be designed to allow:
▪ The deferral of taxation upon vesting of the RSUs and PSUs as well as
▪ Optional diversification (e.g., reallocation to a notional S&P 500 fund).
The deferral and diversification of RSUs/PSUs is of significant interest today as
it provides:
▪ Control over the timing of taxation
▪ Mitigation of concentration of net worth risk
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Informal Funding
Objectives
Benefit security for participants
Appropriate asset / liability matching
Mitigation any related P&L impact
Reduction of the long-term cost through tax-
advantaged financing
Funding Assets
An optimal combination of mutual funds and COLI:
Mutual funds for short-term benefit cash flows, and
COLI for longer-term benefit cash flows
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Informal Funding (Cont.)
Impact of Tax Cuts & Jobs Act
Reduction in the corporate tax rate to 21%
Elimination of the corporate AMT
Moves the breakeven point
May require an adjustment to the optimal mix of mutual
fund and COLI funding.
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Benefit Security
Rabbi Trust
Benefit security device most commonly used to:
▪ Provide the maximum protection without
triggering negative tax consequences
▪ Does not protect from bankruptcy or
insolvency
▪ Does provide for the segregation of funds for
the payment of benefits and,
▪ May provide protection from the refusal of
successor management to pay benefits after
a change-in-control.
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Benefit Security
Deferred Compensation Protection Trust
Pooling of risks among 20 or more
participants from different companies
Pay an annual fee (generally 1.0%) for
5-year commitment
Trust assets invested in Treasuries and
distributed at end of 5-year term
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Total Rewards Focus (Cont.)
Supplemental Benefit Programs
Personal financial planning
Supplemental life and disability coverage
Long-term care
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Summary
Total Rewards Focus
A non-qualified deferred compensation plan:
▪ Complements the incentive plans to provide:
− Control over the timing of taxation
− Long-term, tax-advantaged savings
Other supplemental benefits programs:
▪ Can enhance value for key employees
▪ Differentiate the compensation and benefits package from
competitors
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Case Example
Imagine you have senior
leaders seeking stock in
the company
After discussion, you
determine that a
phantom stock plan will
work better
The plan can produce
significant value for
employees, but not
without tax exposure
You add a deferral plan
allowing postponement
of cash distributions (as
well as from salaries and
bonuses)
Employees can continue
to compound value until
retirement on a tax-
preferred basis
Your leadership pay
program is better aligned
with shareholder
objectives and you’ve
created a strong retention
hook
70. 7070
Take advantage of a one-half hour
consulting call with a VisionLink or EBS
principal at no charge.
Indicate interest on final survey.
Request a copy of our slides
and complimentary
consultation.
We value your input.
Consultation Offer & Survey