Evolution, Not Extinction, for Grandiose Executive Pay

Hefty executive compensation packages won’t be going the way of zoot suits or high-waisted jeans anytime soon.

But as the recession and bailouts have brought scrutiny to corporations and the financial industry, the future of executive compensation is changing.

Company executives and directors are concentrating on “keeping their bottom line in the black,” said April Peterson, assistant director of career services at Regis University.

“I wouldn’t be surprised if there’s a permanent reduction in base salaries,” she said.

When the economy improves, merit bonuses will likely increase again — at least for companies not forbidden by regulation to increase them.

Meanwhile, “organizations will become more efficient as executives focus on account management and retaining customers,” she said. “It’s more cost effective to retain existing customers than to (recruit) new ones.”

The change, then, could be positive for consumers and business to business companies, as top-level execs become “customer-service driven and focused.”

A 2009 Board of Directors Compensation survey, released during June by Compensation Resources Inc., showed that 81.4 percent of organizations surveyed did not increase directors’ compensation during the last 12 months.

Of these companies, 78.6 percent were privately held, 60 percent were Employee Stock Ownership Plans, 29 percent were publicly traded, and 11.3 percent were nonprofits.

About one-third of respondents formally evaluate board performance regularly. That’s a number likely to increase substantially.

“A lot of companies really don’t know what to do right now,” said Paul R. Dorf, managing director of Compensation Resources Inc.

The economy is, arguably, better than six months ago, but nowhere near where businesses and stockholders would like it to be. The American public ranges from fickle, to uncertain, to disgusted about excesses — perceived or real.

And corporations have responded — some more than others, of course.

“About 50 percent of companies indicate they’re cutting back on executive budgets,” Dorf said. “And a fair amount have asked management teams to take a pay cut, to get the point across — 10 percent is not unexpected, from small to big companies.”

And the old “Wall Street-type” of compensation — low salaries and “very high opportunity” to make money with incentives — is falling by the wayside as government regulations cap executive compensation for companies that receive federal funds.

In other words, executive compensation has turned upside down.

Not that executives are going hungry, mind you, but that the structure of compensation has changed, to avoid backlash and scrutiny.

The United States has “always had the philosophy, the mantra — that no one can argue with — of paying for performance,” Dorf said.

And that’s not likely to change.

Executive compensation is in “a tremendous flux right now,” because of the economy and inconsistent government regulation.

But Dorf expects that within three years, the “well-intended but ambiguous” rules enacted by Congress will eventually take effect — and executive compensation will be much different.

Performance bonuses will still be awarded, but the government and boards of directors will “establish upper limits or caps on potential earnings,” he said.

And executive requirements will be more sharply delineated.

Performance will be measured by whether it “increases value to shareholders,” and standards will include “socially and morally positive” behaviors (as determined by the board of directors).

Other changes include shorter vesting periods for stock options (five to seven years), which lowers the expense, and both stock options and restricted stock will “increasingly contain performance requirements that must be met before the award can be realized,” Dorf said.

As opposed to the past when stock options were granted in lieu of cash incentives that weren’t legitimately “earned” because of executives’ “lackluster” performance.

“Compensation packages are like physics — one action triggers another reaction,” Dorf said. “Companies will need to evaluate performance and set appropriate goals, so they’re able to award or not award bonuses, based on performance.”

Regulations will change, stockholders won’t tolerate the excesses of years’ past and even privately held companies will be scrutinized as never before.

“Companies had better know what they’re doing,” Dorf said.