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PRINCIPLES OF REMUNERATION
Remuneration packages should be created to attract executives capable of motivating people, communicating a vision, and leading a company to success to achieving
long-term shareholder value
Remuneration packages should reward success over short and long term periods with an emphasis on the long term
Remuneration packages should be fair to all stakeholders of the business
The determination of executive’s compensation packages should be handled by a committee composed of fully independent directors.
Remuneration committee members should have ability to exercise independent judgement while being able to balance the long term shareholder interests with the need to attract, motivate and retain executives. To make sure there is a good balance the committee must consider the committee members and how the committee works.
Selecting Committee members
In selecting the committee members, Sunan Pty Ltd should consider the following:
• Diversity of professional backgrounds and if possible include members who specialise in executive compensation.
• There should be nothing less than 66% non CEO representation on the board.
• Mr Sonny Sunan should not be part of the board to make the board fully independent.
Mr Sonny Sunan should not be part of the selection of members who serve on the remuneration committee to keep it fully independent.
Role of the Committee
The role of the committee is to:
• Oversee Sunan Pty Ltd remuneration policies
• Recommend incentive based compensation and equity based plans to the board.
• Review and recommend salary packages to attract and retain senior management.
• Conduct annual performance evaluation and recommend a package or remuneration.
TYPES OF CONPESATION PACKAGES
I recommend an executive compensation program which includes a base salary performance bonuses and long-term incentives in the form of stock options. The stock options should have restrictions on them in which they can only be sold once certain conditions are met. This encourages the interests of both executives and shareholders to be aligned.
Some options the committee could implement may be:
The remuneration committee should make it a requirement that executives maintain a large equity investment in Sunan Pty Ltd. Stock ownership guidelines should be put in place to align the interests of the executives with the shareholders. The committee should make it mandatory that executives hold a significant amount of the company’s stock.
Short term incentives
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The remuneration committee may also implement some short term incentives. This requires the executive to have a base salary plus short term incentives or bonuses which are earned after meeting a performance criterion. An example would be Mr Sonny Sunan receiving a bonus on top of his salary for incremental profitability and revenue growth.
Long term incentives
Long term incentives usually are gained once a long term criteria (usually 3-5 years) is met. Executives may be compensated by cash and share options which usually have restrictions on the time frame from when the shares may be sold. An example would be Mr Sonny Sunan receiving $2million in cash and $2million company shares.
PEROFORMANCE MEASURES FOR CONPENSATION
The committee need to make sure that the amount of compensation corresponds with the performance. This is done doing tests to ensure the pay packages suit the different type of performance outcomes.
Since this is a challenging and technical job the committee should:
• Set meaningful and attainable goals for performance bases remuneration and the payment should be linked to the achievement of those goals.
• Test there remunerations packages under different scenarios to be able to see potential results. This means the packages can be reviewed so that the integrity of shareholders interests and executive payouts remain.
A number of considerations should be dealt with in considering performance measures. These include factors which can be accounted for and factors which cannot.
Performance based incentives should reflect not only company accomplishments but also individual. Remuneration packages shouldn’t just be tied to the company’s operations (e.g. profit growth, net income, cash flow) but also take into account such items as leadership, customer satisfaction, employee development, ethics and integrity of the company.
In saying this Sunan Pty Ltd should make a greater proportion of executive remuneration performance based. This can be accomplished by allowing executives who have long term vested shares incentives be able to sell some of them if they achieve meaningful performance targets.
RISKS CONCERNING THE FORMS OF CONPENSATION
The committee need to understand how the different packages work together. Not understanding this is very risky. For example, if a special bonus of $500,000 is granted to Sonny for meeting a performance criterion then this would have a massive impact on the net present value. This could therefore make the company lose potential investments from shareholders as the company looks less viable.
If the executives have short term incentives then they may use creative accounting to artificially create outstanding performance in the short run so they can activate those incentives. An example of this is ENRON selling container ships to a bank to increase the net value of the company then buying them back a year later.
Share options also have there risks. Having shares can create a conflict of interest and therefore make the executive want to drive there own personal wealth and not that of the shareholder. They drive up the share price by using creative accounting methods, such as the example previous, which results in more shares being bought, hence driving up the price.
This is why I recommended the use of long term incentive measures. The restrictions placed on the shares make the executive work hard to achieve the common purpose.
To avoid any suspect practices, vesting and performance shares should be used with the share options.
Vesting is a method where the shares may be bought and sold over a period of time, usually 3-10 years. An example would be Sonny being to buy 100,000 shares worth at a discount price, vested over four years. This means he can buy and sell 25,000 shares during the first year and each year after that until he reaches the fourth year. Since he bought it at the discount price he can sell them at market value. This means he will want to improve the company to make the share price go up over a number of years.
In these plans the shares only vest after certain performance requirements have been satisfied, such as the company earning a certain level of earnings or revenues (Yale et al., 2002). This means if the executive wants to execute the vest then they will have to achieve a certain level of performance.
Yale D. Tauber, Donald R., Executive Compensation, Published by BNA Books, 2002
Remuneration committee, viewed 7th October 2008, http://www.ventracor.com/investor/corpgov/Remuneration%20Committee_Sept03.pdf
Good governance guidelines for Principled Executive Compensation, viewed 7th October 2008, http://www.ccgg.ca/media/files/guidelines-and-policies/guidelines/CCGG%20Principled%20Executive%20Compensation%20(FINAL%20Version%20-%20June%202006).pdf