When it comes to compensating executives at any company, the tried-and-true strategy is to provide a combination of salary, and then stock options or bonuses that somehow tie their pay to the company’s performance. A simple enough idea, but the devilish complication, as usual, is in the details — so much so that it takes a lawyer to write an executive compensation contract that won’t backfire in some way.
Two lawyers who specialize in the thorny area of executive compensation are Amy Pocino Kelly and Mims Maynard Zabriskie, partners in the Philadelphia headquarters of the Morgan Lewis law firm. On Wednesday, May 6, at 8:30 a.m. at Morgan Lewis’s office at 502 Carnegie Center, the duo will lead a discussion on practical solutions for compensation and executive benefit programs. The New Jersey Technology Council program is $25 for nonmembers and free for NJTC members. For more information, visit www.njtc.org, call 856-787-9700, or E-mail firstname.lastname@example.org.
“Overall the theme is motivating and retaining key employees,” Zabriskie says. “With the economy improving, executives have more job opportunities now and are more willing to leave. For companies to keep who they have, they need to provide appropriate motivation.” For public companies, that almost always means stock options. For private companies, it could mean equity, a metric that shadows the company’s value, or some other program based on financial metrics.
“The key is to understand what the company is trying to accomplish,” she says.
Business owners or leaders may think they can design a good compensation structure because it is such a straightforward business function. “But there are a lot of potential pitfalls,” Zabriskie says. “You really need technical, expert advice on any significant employment agreement.”
A poorly designed compensation program can have unintended consequences. Kelly says incentive programs must consider accounting rules, tax laws, and how the compensation plan is disclosed to shareholders. There have been lawsuits recently over how well executive compensation plans were described to shareholders, Kelly says. Another complication can arise if a company chooses to issue shares that dilute its stock. If that happens, an executive’s stock option package could become virtually worthless, if that eventuality wasn’t covered in the initial agreement.
Zabriskie and Kelly also work on the other side of the table, with executives or management teams who are changing jobs or joining a company. One concern is how consistent their agreements are with one another. “We see it from the company’s standpoint, but also from the executives’ standpoint,” Zabriskie says.
The financial crisis of 2008-’09 revealed fatal weaknesses in many companies’ executive compensation schemes. A good agreement is supposed to reward success, but many Wall Street companies had plans that extravagantly rewarded leadership failures. According to Public Citizen, a lobbying group, 10 financial firms that either failed or took government bailout money paid an average of $28.9 million a year to the CEOs that led the businesses into failure. AIG in particular drew fire for handing out hundreds of millions of dollars in bonuses to executives after getting a government bailout.
Some of those failures can be attributed to executives chasing bonuses by taking excessive risks. Zabriskie and Kelly say that since those times, companies have tried to discourage this kind of behavior by incorporating various mechanisms into their compensation schemes that better tie pay to performance. Zabriskie says many companies also use “claw-back” provisions so that companies can recover past executive compensation in case the business implodes.
Kelly grew up in Gloucester County, and has been working with Morgan Lewis ever since graduating from Rutgers Law School in 1999. She specializes in counseling companies on employee benefits. Zabriskie grew up in Birmingham, Alabama, earned a law degree at the University of Virginia, and worked at a law firm in Virginia before joining Morgan Lewis 20 years ago. She specializes in counseling corporate clients on executive compensation, equity compensation, and tax-qualified retirement plans.
In short, executive compensation is complicated.
“Pay close attention to what you’re trying to accomplish, and get the expertise you need because of the tax and corporate accounting complexities,” Zabriskie says. “Don’t try to do it yourself."