Question

7. You are a member of the senior executive group at your company. The company has a reputation of compensating its executives at a very high level. In fact your own compensation appears to be at least 50% above that of your peers in like companies. Due to pressure from the founder who has a controlling interest in the company and now lives in another state the company is considering developing an incentive system for all employees who other than the executives are paid significantly below the levels of peer companies. You have been able to achieve this pay structure due to the limited other job opportunities in the immediate area. In addition to concentrating compensation at the top of the org chart most decisions are also made at the highest levels and little or no planning or financial information is shared outside this group. You recently received input from a group of investors who are very vocal and have accumulated a significant amout of stock in your company. They feel that overall employee pay, the salary and benefits line on the income statement, in total is excessive and they are demanding this issue be addressed. You have been considering stock options, profit sharing and cash bonuses as alternatives for an employee incentive system. 1) Given these facts and the culture in your company and the pressure from investors and the founder discuss these two alternatives for an incentive system.

2) Which would you recommend and how would you fund the program?

Answer 1

1)

Alternatives for Profit Sharing are Stock Options and Cash Bonuses.

Stock options :

• This option is employed by the early stage companies in a fast growing Market. This option gives employees the right to buy company shares at a fixed price and the right can be exercised during a specified time period.
• There is no obligation to exercise the option and no financial risk and no consequent benefit unless the option is exercised.
• Although stock option is an additional benefit like perquisite , however it comes with tax liability and uncertainty till the time option is exercised
• Generally younger employees will prefer this plan.

Cash Bonus:

• This is a Cash payment given to Employees as a Bonus for their performance.
• This is paid either individually or to all Employees.
• This is subjected to tax liability foe employees.
• Generally older employees will prefer this plan

2)

• Due to pressure from the founder and a group of investors the company is considering developing an incentive system for all employees who other than the executives are paid significantly below the levels of peer companies.
• Also there is feeling that overall employee pay, the salary and benefits line on the income statement, in total is excessive and they are demanding this issue be addressed.Therefore, it is advisable to restructure compensation of Senior Executives and divide it into two components i.e Fixed and variable by offering them Stock Option linked with performance in addition to new basic fixed compensation.
• Employees who are paid significantly below the levels of peer companies shall be offered combination of Cash Bonuses and Stock Options. Which component will be higher will depend upon the review of employees opinion.
• Cash Bonuses are funded from the profits of the company.
• Stock Options are debits to debit to the expense account in the income statement.and as the company is profitable enough it can afford to pay in both forms.