2HRS2GO: Looking for simpler CEO pay

4 min read

Ponder this.

A guy leads his company to revenue growth of 38 percent. Operating income rises 20 percent. Net income increases 27 percent. The company's share of its core market improved to the number two position from number three in the previous year.

So what happens? The guy's pay falls 26 percent, an $870,000 drop.

Not that anyone should pity Michael Dell. Even with his fiscal 2000 pay cut, he took home $2.63 million from the computer company he founded and still heads as CEO and chairman.

In fact, Michael Dell's base salary rose slightly, to $850,000 from $844,231. But his bonus slid to $1.67 million from $2.61 million in fiscal ྟ.

Viewed from that perspective, it makes sense. After all, Dell saw its slowest growth and lowest margins in a few years. More significantly to most people reading this, the company's dropped 21 percent over the course of the fiscal year.

Given that Dell until recently has been such a go-go engine, you could reasonably surmise that its CEO's pay suffered as the company's growth rate did. But who really knows?

Have an opinion on this?

CEO pay packages are mysterious documents. The bulk of pay usually comes in the form of bonuses for hitting various goals fully understood by no one outside (or sometimes inside) the board's compensation committee.

Executive bonuses often depend on measures such as EPS growth, revenue expansion and/or stock price performance compared to peer companies, says Ron Bottano, a partner with SCA Consulting, a Los Angeles-based firm that specializes in employee compensation and its relation to shareholder value.

Rewarding executives for shareholder return sounds great in theory, but in the real world it's not so cut-and-dried. How do you find a peer company if you're in a relatively new field? What happens if the company's fundamentals are great but Wall Street happens to be in a bearish mood? Should an executive be punished because the stock market is having a bad hair season?

There are ways of managing everything. But it doesn't have to be so hard. It shouldn't be so hard. So consider this modest proposal for paying the boss: percentages.

Let's rip off the flat tax theorists and apply it to the corporate world. Pay CEO Joe a base salary comparable to executives at companies of similar size, then use a straight percentage of operating income to calculate the bonus. The approach is easy to quantify and measure.

Some companies already use percentage-based compensation, Bottano notes.

The simple method has its dangers. As a company becomes large, even a small percentage of revenue or income can result in absurdly huge payouts.

"Do you send that signal, or ratchet down the percentage as the company gets bigger? The challenge comes as an organization gets larger," Bottano says.

A flat percentage approach also ignores the shareholder effect of non-operating factors like M&A activity. Imagine the pay for Worldcom (Nasdaq: WCOM) CEO Bernard Ebbers if he were on a straight percentage system: in its first year, the MCI acquisition boosted Worldcom's revenue by 139 percent while dropping EPS by 778 percent. Obviously, pay-per-revenue or per-EPS ignores the larger advantages (and disadvantages) of heavy deals.

But you can work around the problems. Create a sliding scale so the percentage of income shrinks as the it rises to certain levels. Use percentages of numbers that measure the EPS and revenue growth including acquired company(ies) results from the previous year, rather than GAAP figures.

Hmm. It's starting to get complicated again.

Then again, the real compensation crime has nothing to do with bonuses and base salaries at all. Remember those stock options?

News hacks like me kvetch about lurid options packages that can run into the hundreds and hundreds of millions. A guy like Graef "Bud" Crystal rages about CEO options for a living. Bill Parish made a small splash a few months ago by singling out Microsoft (Nasdaq: MSFT) for its use of options, though the Redmond software giant actually relies on options compensation far less than many Internet companies.

There's nothing wrong with CEOs become wealthy, but there's no reason for throwing unearthly loads of free equity at them either, especially if they're already large shareholders like Michael Dell or Oracle (Nasdaq: ORCL) CEO Larry Ellison.

So here's another modest proposal: get rid of options and just pay cash. Record the cash as a real expense as the money is paid (as opposed to excluding "amortization related to stock compensation" from "pro forma" earnings).

Until the recent market slump, the elimination of options would've been laughed at. But a larger percentage of e-commerce companies are instituting cash bonuses instead of options, according to SCA's Bottano. "That convergence is occurring," he says.

In other words, dot-coms are growing up. 22GO>