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Company Characteristics Drive Executive Compensation Choices

Martin Babinec, Founder, President and CEO, TriNet

Determining the right mechanisms for compensating executives is a complex proposition with potentially large impact on your organization. Executive compensation drives decisions that flow through the entire company including how your team balances resources for achieving short-term objectives against investing for long-term value in the business. Maintaining this balance is not a clear-cut path, with further complexity created by the wide range of executive compensation options and the necessity to stay within current and future means of the company to fund programs over an extended time.

In addition to reading this article, consider reading the entire eVenturing Collection on Executive Compensation, which profiles numerous alternatives. The choices fall into three categories: cash, company equity, and perquisites. Within each category exist many different variations, most of which reward achieving near-term goals or building long-term value in the business. You won't adopt all, or even a majority, of these programs. Your challenge: Examine choices through the prism of long-term business goals.

Ultimately, the unique characteristics of your company guide the choices you make. By thinking through your company attributes you'll be setting the stage for looking at executive compensation through the lens of what makes sense for your unique situation.

Four factors to consider as relevant company characteristics include your current stage of company development, plans for future growth, intended liquidity path for company equity, and overall management philosophy around sharing both financial information and rewards.

Company Size + Maturity = Raised Bar for Compensation

If you're leading a growth company, the assumption is you already have an executive team. But now ask yourself the hard questions:

  • Are all of your key slots filled with the right talent to carry your company to the next level and beyond?
  • Is the compensation competitive in the marketplace for the executive talent you're seeking to attract? How concerned are you about retaining high-producing executives?
  • Are top performers asking for a chance to share in the company's equity?
  • Do you have a defined process to ensure consistency in determining compensation across different roles on the executive team?
  • Is there a clear connection linking the results an executive produces with the amount of compensation received?

The larger a company grows, the more these questions surface and demand attention. If you're competing with larger companies for executive talents, then chances are your executive level candidates may already be used to their compensation having more components than simply base salary, annual bonus, and standard benefits.

As a company matures beyond a startup, cash flow should fund a range of cash-related incentives for the executive team. Both the amount and the predictability of the cash flow will influence which types of cash compensation vehicles make sense and the design of the payout mechanism. For example, an executive bonus pool may be funded by the company's attainment of an annually budgeted profitability target, with a pre-determined formula for the pool to expand if the target is exceeded.

Growth and Future Liquidity Paths Drive Long-Term Incentives

While all businesses express concern about increasing revenue, some companies are more committed to growth than others. The level of commitment is a key component in selecting and designing executive compensation.

If concerns about growth (and commensurate rewards for achieving it) are the province only of the chief sales executive, conflicts may emerge. Executives involved in production and support functions may end up without enough incentive to prioritize areas such as new product development, ramping new customer acquistion, or other critical revenue enhancers for the long term. A growth agenda requires sharing challenges and rewards that result from dealing with an ever-increasing volume of business.

One surefire way to keep executive focus on growth is having a predetermined path for selling some or all of the company's equity. It's been my experience that having outside shareholders, who depend on you for an eventual liquidity event, help keep executive focus on growth strategies. The result is a much more growth-oriented path.

Another benefit of having a defined liquidity path is that a range of equity incentives is opened up for the executive compensation program. Conversely, if your private company has no plans for providing a path to liquidity, equity incentives for your executive team won't be worth much and you'll be losing out on a powerful incentive to building a great company.

Be Not Afraid There is Much Power in Sharing

Willingness to share equity is but one decision that entrepreneurs have to make about their personal outlook. At a philosophical level, the basic question is about how much of the business is really about you versus others—especially to the extent that you recognize the material contributions of others in building your company's success. When you reach the stage of having an outside board of directors, the issue will be moot because the board should oversee executive compensation on behalf of all shareholders. Until that time, you alone will be making the all-important call of how much of the company's resources you pull out for yourself versus rewarding other team members or reinvesting for growth.

A true executive compensation program should include all executives on a defined playing field with pre-determined standards to which both individuals and the company can be held accountable. While payoff amounts of a particular program element may vary from one executive to another, the design of the program itself should be applied across the entire team—including you as the entrepreneur. Such an arrangement also highlights the need to share company financial information with the team remove the guesswork. Chances are if you're not sharing detailed financials already, your team is probably thinking that you're taking more money out of the company than you are anyway.

Take Advantage of Others Experience

You'll find many factors to consider, and that's where eVenturing can help. Other articles highlight experiences of entrepreneurs and service providers who've wrestled with specific components across a wide range of executive compensation strategies. For programs mentioned, a wealth of additional information and resources is available to advance your understanding of the key issues. In addition to online and service provider resources, ask your entrepreneur friends about their experiences with specific programs.

You have a lot riding on designing how executive compensation works for your team and company. The alternatives are vast, and the right choices are dependent on your unique company characteristics such as growth stage, growth and liquidity paths, and overall philosophy of sharing. As you advance, controlling the structure and effectiveness of your company's own executive compensation program evolves. When fully aligned with your business goals, the right choices in your executive compensation design drive long-term company success.

© 2007 Martin Babinec. All rights reserved.

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