Investor G. Mason Morfit, chairman of the board compensation committee at Valeant Pharmaceuticals International, offers these suggestions for shareholder-friendly pay packages:
* Make top managers buy lots of stock with their own money.
* Tie equity grants to total shareholder return.
* Be generous on the upside, but tough on the downside.
* Don't grant equity automatically every year.
* Don't backslide -- no bonuses if executives miss targets.
* Scrap 'entitlement' perks like car allowances and club dues
J. Michael Pearson paid plenty to become chief executive of Valeant Pharmaceuticals International in 2008. He'll be paid plenty more if he succeeds.
Mr. Pearson's unusual pay package wins praise from compensation critics, who say it may offer a model for other public companies. Directors of the midsize drug maker required him to buy at least $3 million in stock, forgo routine annual equity grants and hold many shares for years before selling.
No single element is unique, but the combination is rare -- for a public company. G. Mason Morfit, chairman of Valeant's board compensation committee and main architect of the package, says he wanted to mimic executive-pay deals at businesses controlled by private-equity firms. Mr. Morfit is a partner of ValueAct Capital, an activist hedge fund whose 22% stake makes it Valeant's biggest stockholder.
Pay experts say the deal gives Mr. Pearson incentives to boost long-term value for investors. For example, the 49-year-old CEO only gets to keep certain restricted shares if Valeant's share price increases at least 15% a year through February 2011. Mr. Pearson can't sell most restricted shares or exercised stock options for two years after they vest.
"It goes a substantial distance toward addressing my concerns about executive-pay arrangements," says Lucian Bebchuk, a Harvard law professor and frequent pay critic.
"Many companies would benefit from imitating this or moving in this direction," adds Steven N. Kaplan, a University of Chicago business professor and pay researcher. "More pay for performance is a good thing."
http://online.wsj.com/article/SB125106931496352353.html
Hold-till-retirement requirements provide executives with counter-productive incentives to leave the firm in order to cash out accumulated options and shares and diversify risks. Perversely, the incentive to leave will be strongest for executives who have served successfully for a long time and whose accumulated options and shares will thus have an especially large value. Rather than supplying retention incentives, equity compensation with hold-till-retirement requirements would have the opposite effect.
A similar distortion arises under any arrangement tying the freedom to cash out to an event that is at least partly under an executive's control. Following the requirement adopted by Congress in February as part of the stimulus bill, Treasury's new regulations mandate that TARP recipients preclude executives from cashing out granted shares before TARP funds are repaid. To the extent that TARP recipients adopt the regulations' minimum restrictions on cashing out, executives would have incentives to return TARP funding even when they shouldn't be doing so.
To avoid the above problems, the period during which vested equity incentives may not be cashed out should be fixed. For example, when an executive's options or shares vest, one-fifth of them could become unblocked, and the executive would subsequently be free to cash them out, in each of the subsequent five years. Because the blocking period would be fixed, the executive's actions wouldn't be distorted by a desire to accelerate the cashing out of equity incentives. And as long as the executive is working for the firm and options and shares continue to vest, the executive would always have an incentive to care about the company's performance several years down the road.
The devil, as is often the case, is in the details. Well-designed blocking periods can do a great deal to curtail the perverse incentives that we have seen – and to provide executives with desirable incentives to enhance the long-term value of their firms and shareholders.
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Edward Deming writing, about 14 points needed to transform management and the corporation, believed performance appraisal were counterproductive and simply bad management. In his point #3 called – Evaluation of Performance, Merit Rating, or Annual Review- and he proposed their eradication. Deming writes, “The performance appraisal nourishes short-term performance, annihilates long-term planning, builds fear, demolishes teamwork, nourishes rivalry and politics… it leaves people bitter, crushed, bruised, battered, desolate, despondent, dejected, feeling inferior, some even depressed, unfit for work for weeks after receipt of rating, unable to comprehend why they are inferior. It is unfair, as it ascribes to the people in a group differences that may be caused totally by the system that they work in.” In other words, commitment is destroyed.
It is commonly understood that performance reviews, pay for performance, and incentive systems have little to do with the motivation, but they are successful in punishing employees and rupturing relationships. In addition many studies point out that rewards actually undermine the very process they are intended to enhance. In agreement, Deming believed that extrinsic motivators were a fallacy. When asked the question, “Is money a motivator?” he replied, “It is not!” He believed the same applies to all forms of extrinsic motivators, they do not motivate. When it comes to intrinsic motivation the relationship between reward and motivation is more complex. For example, offering rewards for easy tasks or just completing a task may lower intrinsic motivation. It is a mistake to assume that employees are motivated in predictable ways by differential rewards and punishments.
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