Pay Them What They're Worth

Presidents Council Article

Our headquarters city of Charlotte played host this past weekend to 120 top business executives from around the country, a veritable "Who's Who" of corporate America. The fact that the legendary investor Warren Buffett was in town along with other business luminaries was headline news, of course, but the purpose for the gathering was even more worthy of note. According to David Gergen, the former presidential advisor and moderator of the forum, "This is a response first and foremost to the huge collapse that has taken place among many of the public in the leadership of corporate America. The stock market is down three years in a row, which is unprecedented. The scandals really were a wake-up call to corporate America. We have to rebuild confidence." To that end, this esteemed group committed its time and attention in closed-session workshops throughout the weekend to a number of important issues facing the business community.

The issue of executive compensation was high on their list of priorities. As Mr. Buffett stated in his keynote address, "What happened with CEO compensation in the last ten years is clearly what the American investor is upset about." However, in addressing the rapid rate of growth in executive compensation over the past five years, he noted that "the major damage was not done by the crooks. It was done by good people, honest people, decent people . . . The CEOs in America basically drifted. They drifted into situational ethics. It got out of hand." He went on to state that American executives earn 180 times as much as their employees, a ratio which has increased fourfold since 1980 according to a leading consulting firm. "The CEO gets very rich and stays very rich", he continued, noting that the investors and the employee group typically bear the burden of the extravagance.

As one considers this vast disparity, it's readily apparent that we need to take a more objective look at our own compensation practices. And, when you consider that the nation's second-richest man earns an annual base salary of only $100,000 from Berkshire Hathaway, his advice carries strong credibility. Pay people what they're worth, he stated in so many words, but make that determination based on their contributions to the corporation. Provide the opportunity for people to earn a competitive income, but tie that income potential directly to whatever growth metrics are needed to properly evaluate their efforts. This may result in decreasing base salary ranges for some employee groups and increasing them for others. If, however, incentives to produce are included in the program, it is likely that overall productivity will increase. As Mr. Buffett predicts, "If ratios get back to where they were ten years ago, there will be a sea of change."

Despite the fact that Mr. Buffett's remarks were directed primarily to the more senior levels within an organization, his message has application across the entire spectrum of corporate compensation. Pay them what they're worth. Compensate your employees for what they contribute to your organization. Evaluate what each function adds to the overall efficiency and profitability of the company, and provide a competitive wage structure. If a function does not contribute measurably, consider how to restructure its responsibilities to increase the level of contribution (you might even want to ask the employees in the function how to make those improvements). Provide a reasonable, competitive base salary and structure an incentive plan that will reward employees for their contributions in their defined areas. Such a plan might include incentive bonuses, revenue or profit sharing plans, variable contribution 401K plans, stock incentives, or any number of other creative, cost-effective programs.

This message has great validity for our industry. Although the vast majority of us are not guilty of many of the excesses cited by Mr. Buffett, we have permitted "situational ethics" to take over in a number of areas in compensation management and other problems could logically ensue. Just consider the facts. As senior management compensation grew exponentially during the "economic bubble" of the mid- to late-90s, few seemed to notice since payroll costs remained relatively constant as a percentage of growing sales. However, when the business expansion ended, many companies realized that they were faced with significantly higher "fixed costs" of payroll than ever before. As a result, many of them responded "situationally" in the face of the more difficult business environment. This has been particularly evident in two areas. First, in an attempt to contain costs, positions were eliminated. Employees who were actually contributing to growth and profitability were "downsized", often in areas where contributions were more long-range or where the metrics for evaluating productivity were not in place. In other instances, employees more senior in age and experience were either eliminated or replaced with younger employees who were often less costly, but lacking in experience. In both situations, companies typically lost the momentum they could have maintained by restructuring job responsibilities and compensation.

As Schaffer Associates assists a number of client companies in our industry in recruiting key management and in building teams for the future, we regularly see evidence of a second problem. Again, in an effort to keep burgeoning payroll costs controlled, employers will often attempt to recruit new employees at the lowest possible compensation levels. Such "situational" or opportunistic hiring strategies have been somewhat successful over the past years as the talent pool has remained relatively full, especially of unemployed candidates, but the pool is beginning to run dry as noted in my last article. As a result, we have seen candidates hired at below-market compensation levels, only to see them leave for better opportunities just a few months later. And, this trend promises to continue. As all of us know, the cost of employee turnover is significant, and we must focus on keeping it at an absolute minimum. So, in recruiting and hiring, we need to be aware of the economic value of the employment position in the marketplace. Just as with the products and services we offer, we must be aware of the competition. We compete for talent with a wide variety of other companies in a variety of industries, and the programs we offer must provide an incentive for employees to both join and stay with us.

In summary, our future growth and profitability will likely be influenced in part by our commitment to effectively pay them what they're worth. To meet this challenge, compensation programs will in all likelihood need a comprehensive overhaul. To achieve this seemingly daunting task will demand time and energy, but it will be time and energy well spent. If proper incentives are in place and if the right people are selected, the economic future of our companies will be bright. Two big "ifs", but definitely achievable. And the results will be worth the effort.