How CDW Simplified Its Executive Compensation Plan
06/01/03
Board Alert
Following a lengthy period of high-speed growth, computer vendor CDW has settled into a lull as technology spending has bottomed out. That’s spurred the comp committee to reexamine the company’s pay programs.
The company had taken an ad hoc approach to executive pay for years, reacting to the firm’s rapid growth by adding new layers to its comp plan year after year. Now, the company is in the middle of a two-year transition to a comp plan that’s managed more methodically.
Two changes are going to be key to that more methodical approach to compensation.
First, the board is going to simplify the company’s pay structure and make it more comprehensible both to executives and administrators. The old plan had grown unwieldy as it continually expanded in reaction to CDW’s skyrocketing revenues and changing business during the tech boom.
During the Internet boom, CDW went from being a smallish, Chicago-area firm to crashing the Fortune 400. From less than $1 billion in 1996, sales soared to $4.3 billion in 2002. “When you have that kind of growth rate, your horizon is trying to get through the quarter without a heart attack,” says Art Friedson, VP of coworker services (HR).
“Now that we’re a $4-billion company, your horizon stretches a lot farther.”
Second, the comp committee wants to change CDW’s incentive programs because of the tight business environment. With sales rising at single-digit rates for the past two years, directors want officers to feel more pressure to boost company results. Individual bonuses will be tied much more closely to the company’s bottom line. As a result, bonuses that were all but guaranteed under the old plan will be tougher to come by.
The changes to the comp plan also come with benefits to executives. In exchange for signing a non-compete agreement, officers will get a severance package. Some executives’ salaries are going up because CDW will now target the fiftieth percentile for pay. And long-term comp awards will be targeted at the seventy-fifth percentile of
CDW’s peers, which gives executives consistently above-average stock awards.
To be sure, many comp committees are reviewing their executive plans amid declining revenues and shareholder scrutiny. But Paul Dorf, managing director of Compensation Resources, calls the decisions taken by CDW’s comp committee “a bold and deliberate step” and says other companies should follow. “I would be very supportive of the positions they’ve taken,” he insists.
Plus, many companies, especially start-ups, don’t take the time to really think through their compensation philosophies, say the experts. “Even if nothing that much has changed, you need to kind of look at your compensation strategy and either confirm it or change it every three to five years,” says Diane Lerner, senior consultant in Watson Wyatt’s compensation practice.
At CDW, the comp committee wanted to see how the company stacked up against others in its industry and of similar size. Particular attention was paid to Chicago-based companies, Friedson relates. The comparison group consisted of 18 firms including Dell, Insight Enterprises and PC Connection.
That analysis showed that CDW’s compensation was more complex than that of its peer group. Brian Williams, CEO of ad agency Element 79 and a comp committee member, says CDW had implemented an excessive number of different plans. “It was a little bit difficult to decipher all of them, and they seemed to be layered on top of each other,” William notes.
That lack of discipline was particularly true of the company’s stock option programs. CDW used to have several different option plans. Some plans set the exercise price at fair market value; others set an exercise price of a penny, and in some cases the exercise price was left to the comp committee’s discretion. Under the new system, the exercise price for all option grants is the fair market value on the day of grant.
“We’ve got it simplified so it’s basically the options, the annual incentive bonus and straight compensation,” explains Williams.
Furthermore, the company has made a clearer link between executive bonuses and the health of business. In the past, bonus calculations were based on several measures of company performance, although operating income predominated. Now, operating income is the only performance metric.
Now, with CDW shares trading at about half their mid 2000 level, the comp committee wanted to make sure executives get a bonus only if they boost the bottom line. “The plan didn’t have a floor before,” explains Friedson, noting that executives could theoretically receive bonuses even if they missed their performance targets.
In practice, he points out, that was a moot point because of the company’s boundless growth. Now, however, the bonus plan doesn’t pay out at all if the company’s performance doesn’t meet specific targets. “We’ve put in another measure of responsibility that wasn’t there before,” Friedson says. “If we misplan by a big amount, we shouldn’t be paying bonuses.”
Another change is that CDW is putting a slightly greater emphasis on base salary while de-emphasizing incentive compensation. That’s because falling stock prices have made stock options and other forms of equity-based incentive pay less attractive to employees.
