MANAGEMENT COMPENSATION


by

Ashit K. Sarkar,

Management Advisor & Consultant, Ph/Fax: (080) 2554-0393 & 4112-8153 Cell: (0)99720-12382

3E, Palmtree Place, 23 Palmgrove Road, Bangalore - 560 047

E-mail: sarkarsweet@gmail.com Home Page: http://uk.geocities.com/ashitsarkar


 

One of the most vital factors for the motivation, retention and the morale amongst the employees is the compensation system, policies and review philosophies of any organization. While the unionized bargainable employees generally have their unions to negotiate or periodically revise their terms with the Management - which are governed by the Long Term Settlements - the terms of the Managerial employees are mostly seen to be at the sweet mercy or the goodwill of the organization or the top bosses, reviews of which may or may not be regular or timely, or often do not seem to meet the expectations or logic of such management staff!

The objective of this article is to look back at the history and past practices of the progress of the managerial compensation system followed generally in prominent multi-national commercial organizations in India, and attempt to evolve some criteria best suited to the present competitive scenario.

The evolution of the management compensation system for the larger organizations came mostly from the pre-independence British companies, or from the Indian government system - which too was initiated by the British, and was generally paternalistic & protective. The system provided a 20-30 year grade scale of Basic Salary for each grade or level of employees - generally linked to age, with other fixed Allowances - differing for each grade. It was felt that with increasing age & the family size, their needs increased, which required consideration in the compensation. Annual increments were provided with increasing steps as one progressed through the Salary scale, even though the increases were often ad-hoc. Festival, Puja or Annual Bonus was paid to meet the social needs - usually once a year, and was often linked to the profits of the Company. To meet the inflationary trends, a Dearness Allowance system was introduced during the World War II days - in the early forties, but this was generally not applicable to management staff - Basic Salary remained the main component of compensation for them. Benefits frequently included housing - often furnished partially or fully - or an allowance in lieu, annual leave travel expenses, generally quantum linked to the family size & fares to hometown or nearest hill station, use of Company transport or cars (from limited use to extensive, with or without driver - grade related), medical coverage or assistance, and retiral benefits. To encourage Managers in social & sporting activities, either Company clubs existed, or financial assistance was given to join or use local clubs - depending on the level. Overall compensation increased with grade, age & service, with only very limited linkage to performance, and which was often ad-hoc at the discretion or pleasure of the boss. The Company was usually quite actively concerned and involved with the manager's family life & style of living, and strongly believed that the Company's image demanded this conforming discipline from the family members as well.

Most multinational Companies operating in India had a fair number of expatriate staff - even as late as in the sixties - having vastly different terms & conditions of service as compared to the local staff at the same level. This continued partially out of necessity to attract them to overseas postings, and also due to past colonial & historical reasons. Excellent furnished housing was provided to them, and many other personal or social needs for them and their family members were mostly taken care of by the Company, including overseas education for their children, home leave & travel expenses etc., as well as protection of benefits available at the home country to their compatriots. Class distinctions existed even amongst the expatriates - they were generally separated as 'blue blood' at top positions, and 'commoners' at middle management positions! The local Indian Covenanted cadre managers identified for senior positions were often higher in hierarchy than the expatriate middle managers in rank, but their gross terms were generally lower. The junior management local staff were a class apart, and their terms were substantially lower, but were in line with the above philosophy, and therefore, while the cash component may have been low, the benefits of furnished housing, leave travel expenses, use of Company vehicles etc. enabled the overall living standards during the service period remain at a good level. With limited opportunities, retention of management staff was not an issue at all those days. Revisions in overall terms were usually done after 3 to 5 years. The Management salaries were considered to be a highly confidential topic, and any discussion on this subject was seriously frowned upon by the top brass. The management style did not inspire openness, and the lower levels were expected to follow orders obediently. Participative style was not practiced or encouraged generally. Employee & Managerial costs were a small part of the total expenses, and profits were easily made by most of these large corporations having little competition in near monopoly conditions in India.

From the sixties onwards the salaries of bargainable workers increased phenomenally due to the successes of the Unions in negotiations - at times by pressure tactics. At the same time, the Government statutorily limited the Directors maximum Basic salary at a very low level - in line with the socialistic philosophy. This resulted in the need for creating other indirect compensation mainly through perquisites for the management staff due to the salary compression. These perquisites & benefits given to the management staff gradually started being valued by the authorities, and had to be included for tax purposes, thereby further compressing the "in hand post tax" compensation range drastically - with the junior or middle managers being affected most adversely, while the top management were "taken good care of" by the Company. The marginal tax rates had also risen to very high levels, and so was the inflationary trend, requiring much larger increases to meet the employee expectations. The earlier 'taboo' regarding management salaries being a close subject for discussions was also disappearing and the top management started recognizing disparities that needed urgent attention. It started dawning on most progressive organizations that the compensation governance needed clear cut philosophy and policy, instead of the ad-hoc solutions of the past, and that motivation & retention of capable managers was getting to be a very crucial need in the growing scenario in India. Some of the Personnel directors or Heads of major companies informally discussed these issues at regular intervals, and shared data & policies with each other, at what later became the Remuneration Clubs, to address this important subject.

Many Companies had chosen to use somewhat 'shady' reimbursements or perquisite routes, in order to maximize the "in-handī" amounts or benefits, & contain the overall costs, with the assumption of these being considered non-taxable, and therefore, meeting the compensation needs more easily, rather than the larger cost of taxable increases for the same net gain. The Basic Salary as the main component of overall compensation had also consequently become lower - with reduced indirect component costs that affected the retiral benefits substantially, often ignored by the Company.

The above stated traditional system started being challenged during the last two decades by the "money for the job", "total cost to the Company", "flexible package" & "Variable Performance Pay or Bonus" concepts followed by some of the well known large new organizations, with annual increases mostly linked to performance, results and inflation, rather than gradually increasing salaries with traditional 'grey hair' philosophy of age! The protective long term security of employment was shaken by these companies with easier hire & fire practices, with second raters & non performers not being acceptable or retained. This resulted in much larger compensation packages being suddenly available to young and confident managers without having to wait for years, as in the past. This so called "American" compensation strategy conflicted with the traditional (British) methodology, causing unexpected upheavals.

The Government had in the meanwhile realized the futility of very high rates of taxation which encouraged tax evasion, and had also relaxed the compensation limits for the Company directors as well. This provided an opportunity for companies to rectify tax irregularities, and realign their compensation philosophy moving away from the shady perquisite oriented style, and becoming competitively market driven. They recognized the need for greater freedom to their managers to choose their own standard or style of living, with remuneration systems based on the external compensation trends. With liberalization came greater competition and new opportunities for jobs, and therefore both organizational excellence and retention of key managers became paramount. The need for an effective impartial performance appraisal and reward systems therefore became essential, which in the past was generally weak, if at all present.

The Y2K era opened the floodgates for the Indian IT industry & personnel for lucrative overseas jobs, and easier to & fro movement, which created new paradigm for managing the aspirations of IT professionals - so very different to the traditional managers in Indian Industry. Job security, & long term employment needs came much lower down for these people, and the international compensation based on declining exchange rates created newer benchmarks. The Retiral benefits were discarded as a major need by many of the young professionals. The distinction between manager and an entrepreneur faded in small start-up companies, as did compensation & profits through value addition for such people. Stock options suddenly became a part of the remuneration package despite tax implications, and international compensation systems influenced the Indian scenario substantially, which did not remain unique to the IT industry only. For such 'Knowledge workers' in the organizations, changes in compensation strategies were needed that had to be extended to the traditional industry, which had become very competitive.

An interesting book "Hidden Value" by Charles O'ReillyIII & Jeffrey Pfeffer has a subtitle "How great companies achieve extraordinary results with ordinary people." This is explained by: "Every rational company in the world is trying to hire the best people in the world. And all but one of them will fail at this task. There can only be one company with the best people. Hiring the best is a failing strategy. Organizations must be designed to thrive with ordinary people. If businesses can thrive with the capabilities of ordinary people, they can also thrive with extraordinary people." The book goes on to discuss the specific recruiting, training, information-sharing, and rewards practices that aim to exploit the capabilities of ordinary and extraordinary people alike. Useful guides emphasize that it is not just compensation alone that produces the required results by the 'ordinary' people - that needs to be well understood for the policy makers determining the compensation philosophy.

Management compensation therefore, now plays a very significant part along with the working style & environment, empowerment etc. in the organization's success strategy. While individual organizations may have differences in their methodologies based on factors best suited to their perceived needs, some general directions are evident, and are discussed below:

  1. Salary, Basic Salary or Consolidated Salary continues to remain as the major component of compensation, though Salary Scales are often discarded these days, or used only as guides. Individual Salary is generally decided initially using the Scale, but thereafter performance, contribution to targets or results generated determine the revisions periodically - which may vary widely from individual to individual. 'Salary broad banding' is therefore, getting recognition & acceptance.

  2. Grade wise flat Allowances are being consolidated generally, except where tax exemption benefits are still available, when they continue as separate components. Allowances may be linked to the Salary as a percentage or by slabs, but preference is for flat amounts, which do not increase automatically, and therefore increases could be discretionary, and therefore controllable.

  3. Reimbursements of expenses incurred on Company work has become limited, and in line to conform to the tax laws. Being actuals in most cases, they are not considered as a part of the compensation, unless it is provided towards personal benefits.

  4. Annual payments: Bonus or Commission, and Leave Travel are common features - some tax relief does apply for the latter.

  5. Benefits generally comprise of mostly unfurnished company owned or leased accommodation, use of company owned or leased vehicle, medical coverage, retiral benefits covering Provident Fund, Pension or Superannuation and Gratuity, post-retiral medical assistance, easy loan schemes at low or zero interest rates for house building, cars or vehicles, furniture or utility items etc., renting employee owned housing, club entrance fee reimbursement etc. Minor benefits could be provision of security, driver or gardening assistance, sale of products or assets at a concessional rate, relocation & transfer expenses including admission etc fees for children, credit card fees, phones etc.

  6. Employee stock option schemes - which have been popular in IT industry - is not extensively used yet, not being tax advantageous to other industries, nor seen as being very attractive with lesser growth trends for their share values, especially in the well established older companies.

  7. The "Total cost to the Company" concept is used as basis by most companies, as against earlier "visible costs". Cost of the benefits are averaged or computed on actual basis, and included in the above. Greater openness is practiced, and some permit individual flexibility within the system of the overall cost, but with greater compliance to tax laws, this 'basket concept' is on the wane.

  8. As mentioned earlier, Retiral benefits are important to many, whilst the younger generation & specially IT professionals, do not consider it as an advantage, unless the benefit value is available to them on moving to a new job. This is a complex issue, and may require attention. Periodic improvement in pensions or a guaranteed grade minimum pension is practiced by some in recognition of the past external experience of pensioners, and to partly offset the inflation post retirement. A separate article about Defined Benefit & Defined Contribution types of Pension schemes as a Case Study describes them in greater detail.

  9. Against the past practice of modest gradual increases applicable to all, with only marginal additional to the good performer, the differential in performance is now being recognized through very substantial and varying increases during the review to the very good performer, and often a Salary freeze or loss of job is being used for poor performers! This strategy often manages the rewards within the same total cost, and has become a very dynamic and motivating way adopted by most good organizations of repute. While the Salary increases in the past resulted in benefits continuing during the rest of the service period, now large amounts in once off (annual) Performance Bonus that do not increase future liability, is being given more and more in recognition of results generated. Emphasis on Variable Performance Pay or Bonus as a reward is getting to be an important & growing component of the compensation system. It requires transparent, balanced and fair systems & benchmarks, and also agreed targets by the managers in advance during planning & review discussions. A separate article on "Performance Based Award Scheme" explains the above in considerable detail, along with a practical working example developing a simple basic scheme for the above.

  10. From the earlier grade oriented compensation system within reasonable boundaries, compensation often has to be somewhat tailor made for specialists or key contributors to retain them in the very volatile job market. This has many repercussions, and therefore policies for such compensation need to be carefully built in to the system in an open manner to avoid loss of credibility.

  11. Compensation review periods have become annual generally and sometimes oftener, as compared to every three to five years earlier, in the fast changing market situation. The quantum of increases has jumped of late, and successful organizations need to not only keep pace, but have to be seen and reputed to be amongst the best to attract talent. The employee cost increases have to be set off through productivity and greater contribution from the resources. This requires constant market data on compensation practices & benchmarks, and very pragmatic analysis for determining strategy.

  12. Retention strategies employed are generally the attractive interest free or at low rates for loans, on which market rate of interest may apply on early exit, renting employee owned property to set off repayment of loans, qualifying periods or attractive service benefits added to the retiral benefits or post retirement benefits etc., besides the terms, compensation & any special deals. Managers and teams having commitment require empowerment, lean and supportive structure, a healthy organizational climate - which are all great retention motivators, and also end up as a 'puller' from the external environment or the competition!

To conclude, the need to regularly carry out detailed compensation reviews both within and without, and with full support & commitment from the top is essential. The specific needs of the organization must be identified and addressed during such reviews. Openness and transparency are important to the managers in the very sensitive and personal issue of management remuneration, and therefore policies and practices should match the rhetoric. The remuneration & the rewarding systems have to be, and seen to be, fair and just, non bureaucratic & dynamic, and which are dealt with human feelings and necessary speed, and still remain competitively attractive - quite a management challenge in today's tough & highly aggressive scenario!

"If people come for money, they will leave for money."
– James Treybig, CEO of Tandem Computers

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CLICK to see the article on Defined Benefit & Defined Contribution type of Pension Schemes.

or, to see an article on "Performance Based Award Scheme".