Picture this: It’s a typical in-office day for your hybrid team, and as you walk into the break room to refill your coffee, you notice a group of employees gathered together and talking over a news article in the local paper.
“According to this, she makes more than ten times what I make!”
“I don’t understand why she gets so many perks.”
“What good has she done for our organization? It seems like she barely lifts a finger, and I’m here sometimes sixty hours a week.”
They’re talking about your organization’s CEO, and you can see that there’s some clear dissatisfaction among the employees at your organization when it comes to how they’re compensated versus how much your executives get paid.
Unfortunately, this is nothing new– executive compensation is a tricky issue for any organization to navigate, whether you’re a small, family-owned business, a large public corporation, or a mid-sized nonprofit. And like any tricky issue, there are a number of opinions and a variety of approaches to take into account when it comes to executive pay. This can make it all the more difficult to iron out your own organization’s executive compensation program and keep all of your employees satisfied with their jobs.
That’s why we’ve created this guide to teach you everything you need to know about executive compensation, including how to take a critical look at your own program and update it effectively. Specifically, we’ll cover the following:
- What is Executive Compensation?
- Executive Compensation: A Controversial Issue
- Updating Your Executive Compensation Program: 5 Tips
If you’re ready to re-think your approach to executive compensation, this is the guide for you! Let’s get started.
What is Executive Compensation?
Executive compensation (also known as executive comp or executive pay) refers to all of the financial and non-financial benefits that an organization provides to its executives. The term “executives” can apply to senior management, nonprofit executive directors, or traditional “c-suites” like CEOs, CFOs, CIOs, etc.
For most organizations, the “what” and “who” of executive compensation are clear enough. The issue gets more complex when you start to explore the “how” and “why” of executive pay. Let’s take a look at these specifics next.
Executive Compensation Packages Explained
Compensation basics are fairly easy to understand. For a typical employee, these involve direct compensation like salary, commissions, and bonuses. And if your organization takes a total rewards approach to compensation, you’ll factor in the benefits, work location flexibility, and development opportunities you offer as forms of indirect compensation.
While there are some commonalities between a typical employee’s compensation and an executive compensation package, the latter is typically more complex. According to the Center on Executive Compensation, here are the common elements included in an executive compensation package:
- Base Salary: Think of a base salary as a normal annual salary that an executive receives. They’re given a paycheck on a consistent basis, just like other employees are, though executive base salaries are likely much higher due to their position at the top of the organization’s hierarchy.
- Short-Term Incentives: A short-term incentive is typically a bonus given within a year. Executives earn these bonuses for short-term organizational accomplishments, such as seeing a capital campaign through to completion or rolling out a new line of products.
- Long-Term Incentives: Long-term incentives are typically earned over a three to five-year period. Why? These incentives encourage executives to accomplish long-term strategic goals for your organization that maximize shareholder or stakeholder value. Plus, long-term incentives can motivate an executive to stay at their job in order to receive those incentives, helping you retain the talent you’ve recruited. These incentives are usually given in the form of cash, stock, stock options, restricted stock, or performance-vested stock or stock options.
- Benefits: Executive employee benefits are typical of other employee compensation packages– Social Security, Medicare, unemployment, vacation and sick time, severance, and insurance. For retirement, executives are commonly given deferred compensation plans, usually supplemental executive retirement plans (SERPs). These plans are non-qualified, meaning they have more risk because they aren’t protected by federal tax and pension rules and aren’t secured in a trust. But they are beneficial in that they require no IRS approval and can be written off as a business expense.
- Perquisites: Perquisites is simply another way to say “perks.” Executives are given perks that other salaried employees aren’t, signalling their position in the hierarchy of the organization. These might include access to a company car, a personal parking spot, or financial planning services.
- Change-in-Control Agreements: A change-in-control agreement provides compensation to executives who lose their jobs after a merger or sale, as new owners might clean house to make way for new leadership. A change-in-control agreement ensures executives will be motivated to pursue mergers or sales if they will benefit the organization as a whole, instead of shying away from them for their own job security. This is why a change-in-control agreement is also known as a “golden parachute.”
Note that executive compensation has, over time, moved more and more toward being based on performance, as exemplified by the prominence of long-term and short-term incentives. However, there is still an ongoing conversation among compensation consultants and organizations about how to more closely tie pay to performance for these roles.
Another critical point to understand is that pay will vary between executives on the same team, especially with more efforts to base compensation on performance. A CFO, for example, might make more than a CIO. Or one co-executive director at a large nonprofit might make more than the other co-executive director.
Now that we’ve nailed down the basic elements of executive compensation, it’s important to take the time to understand how executive compensation differs between for-profit and nonprofit organizations. We’ll explore these differences in the next section.
Executive Compensation in For-Profit and Nonprofit Organizations
There are a number of obvious differences between nonprofit organizations and for-profit businesses. But the gap gets even wider when it comes to executive compensation philosophies, rules, and programs. Let’s take a closer look at these differences:
For-Profit vs. Nonprofit Compensation
For-Profit: It can be challenging to manage employees’ executive compensation expectations. Employees might perceive their organization as having unlimited funds for its compensation program.
Nonprofit: For nonprofits, compensation is even more complex, as they have more stakeholder opinions to take into account. These might include donors, grant funders, government funding sources, etc. Nonprofits also have to compete for talent in a wider market that includes the for-profit sector.
For-Profit: Base targets typically vary, with entry role salaries often landing in the 25th percentile, the majority of positions being paid 50th percentile salaries, and executives’ compensation coming in at the 75th percentile. There is typically a 50th percentile target for benefits and a large emphasis on variable compensation, like commissions.
Nonprofit: Base pay targets are typically between the 25th and 50th percentile for staff roles and the 50th and 75th percentiles for leadership roles. In nonprofits, there is more emphasis on benefits and less emphasis on variable compensation.
For-Profit: There are a variety of federal, state, and local laws that impact compensation, as well as industry-specific regulations, like U.S. SEC regulations for publicly-traded companies and the Dodd-Frank Act for banking.
Nonprofit: In addition to general federal, state, and local laws, nonprofits also have to design executive compensation plans within grant restrictions, government funding sources, and IRS Intermediate Sanctions.
For-Profit: When hiring, for-profit organizations tend to focus their market strategy on narrow industry-specific definitions, geography, and supply and demand for talent by position.
Nonprofit: The market strategy for nonprofits focuses on broader industry definitions, geography, and labor supply and demand influences. Nonprofits also keep an eye on for-profit market rates that influence their own rates.
Financial Constraints and Implementation
For-Profit: When deciding on executive compensation details, for-profit organizations tend to focus more on long-term strategies, looking at how they’ll be able to support the position in question for multiple years.
Nonprofit: Organizations have to take their budgets and funding sources into account when deciding on compensation packages, which can often cause them to focus more on short-term strategies. However, nonprofits are increasingly moving toward long-term compensation strategies.
Knowing the differences between nonprofit and for-profit executive compensation can help you audit and update your own organization’s program effectively according to your sector. However, whether you’re a for-profit organization or a nonprofit, there will still be controversy you’ll have to face head-on. Let’s take a look at the executive compensation debate next.
Executive Compensation: A Controversial Issue
No matter the industry they work in or the specifics of their individual compensation packages, executives typically receive an incredible amount of money. Here are some notable executives from the for-profit world and what they made in 2020 alone from salaries, stocks, and options, according to Bloomberg:
- Elon Musk, Tesla CEO: $6.7 billion
- Mike Pykosz, Oak Street Health CEO: $568.4 million
- Trevor Bezdek, GoodRX Holdings Co-CEO: $497.8 million
While nonprofit executives typically make much less than their for-profit counterparts, their salaries are still significant. Here are the top three highest-paid nonprofit CEOs and what they made in the recent past, according to CharityWatch:
- Craig Thompson, Memorial Sloan Kettering Cancer Center CEO: $5.7 million (in 2019)
- Robert Stone, City of Hope and Affiliates CEO: $3.8 million (in 2020)
- Nancy Brown, American Heart Association CEO: $2.5 million (in 2020)
It’s clear that these numbers are high, but why the controversy?
According to the Economic Policy Institute, CEOs now earn 320 times as much as typical workers do. In fact, according to a 2018 Money article, Amazon CEO Jeff Bezos makes more money in ten seconds than an average Amazon worker does in a year.
Simply put, there isn’t just a pay gap between the average worker and their executive– there’s an ever-widening chasm. And because issues of income inequality and pay equity have been a long-time concern, the fact that executives continue to make more and more is disconcerting for many. And for nonprofits, there’s extra pressure. People already expect nonprofits to spend as little as possible on overhead, so high executive compensation packages can come off very poorly to donors, funders, and the public at large.
This obvious pay gap, however, isn’t the only thing driving people to question executive compensation trends. We’re also living through a time of significant labor turbulence. This may be due in part to a recent jump in people quitting their jobs. Coined “The Great Resignation,” this trend saw 4.4 million Americans quit their jobs in September 2021 alone, according to the U.S. Bureau of Labor Statistics. Though it is difficult to parse out the exact causes for The Great Resignation, it is clear that many workers are realigning their priorities during the pandemic and seeking better opportunities.
So, why should your organization be concerned about the executive compensation debate? Because how you compensate your executives affects your organization’s ability to retain talent, from your c-suite executives all the way down to entry-level workers. In turn, retention impacts your organization’s ability to progress toward larger goals and maintain your brand in the public eye.
This raises another question: How do you know if your approach to executive compensation is fair, leads to a strong employer brand, and helps you maintain a positive reputation in your community? The best way is to audit and update your executive compensation program. Start by looking for the following red flags among your employees:
- Red Flag #1: Employees do not understand the philosophy behind your compensation approach.
- Red Flag #2: Employees perceive your organization as having unlimited resources to pay executives.
- Red Flag #3: Employees disagree and push back on initiatives put forth by your organization’s executives or see your executives as “out of touch” with the real work of the organization.
- Red Flag #4: Employees can’t see a clear connection between executive pay and performance.
If your organization is seeing any of these red flags, it’s likely time to take a step back and readjust your executive compensation approach.
Updating Your Executive Compensation Program: 5 Tips
When you take a fair and transparent approach to executive compensation, it sends a ripple effect throughout your entire organization. This is why it’s so important for leaders and HR representatives to work together to analyze and update their own executive compensation programs. Let’s walk through our five tips that can help you make effective and sustainable changes.
1. Our Top Tip: Work with an executive compensation consulting firm.
As an organizational leader or HR representative immersed in the day-to-day of your organization, it can be challenging to remain objective and truly see the issues with your own executive compensation program. This is why it can be beneficial to work with an executive compensation consulting firm.
The right executive compensation consultant can help you do the following:
- Conduct compensation and pay equity audits to dig into your current approach and how it is perceived by employees
- Incorporate total rewards into your current approach to make your program more dynamic and sustainable
- Create a program tailored to your organization’s specific goals and constraints
- Prioritize transparency and communication surrounding compensation to enhance internal culture
- Develop compensation policies and assist HR representatives in administering new compensation programs
- Maintain compliance with legal requirements for executive compensation
Choosing the right compensation consultant will take some effort, but it’s worth getting right. Here are some steps you can take to ensure your organization finds the consulting firm that will best suit your needs:
1.Review your organization’s needs. At this point, you’ve probably seen one (or multiple) red flags indicating it’s time to make changes to your executive compensation program. Pinpoint what issues you need help with and your goals for working with a consultant.
2. Discuss with your organization’s leaders. Get everyone on the same page and align your goals so that your leaders and HR team understand the need for outside help.
3. Outline some guidelines. These guidelines will include a general budget, a target start date, and a general timeframe for the engagement.
4. Begin your research. Research some potential consulting firms. Get recommendations from your professional network, or take your research to online lists or directories of top consultants.
5. Draft an RFP. An RFP, or a request for proposal, helps you communicate your organization’s needs and goals for working with a consultant. After drafting your RFP, make sure you review it with your organization’s leaders.
6. Compare the candidates. Make a shortlist of candidates that you’re interested in and then start reaching out to your top picks. Introduce yourself and submit your RFP, and settle on a date for them to get their proposal back to you.
7. Make your pick. Read through the proposals you receive in response to your RFP, and discuss them as a team. Once you’ve identified the consultant you want to work with, start nailing down the details!
Once you’ve found the right consultant for your organization, you can move forward with updating your executive compensation program. The next step will entail focusing on total rewards.
2. Focus on total rewards for everyone, not just executives.
Total rewards is a more holistic approach to compensation. Organizations that offer direct financial compensation like salary, base pay, bonuses, commissions, and equity benefits can often boost their compensation approach by characterizing other offerings as indirect compensation.
Indirect compensation like quantifiable benefits (health insurance, retirement, PTO), and intangibles like schedule flexibility, performance recognition, and career development opportunities can help your organization develop an internal culture and working environment in which employees want to stay, reducing turnover risk and helping you put more of your attention on long-term organizational goals.
And total rewards won’t just be important for your organization’s executives. Offering total rewards to all of your employees can signal to them that no matter their position, they’re important to your organization. This means showing employees the full range of ways they’re compensated and appreciated can keep your employees happy for the long term!
3. Clarify and articulate your organization’s compensation philosophy.
When employees don’t understand their organization’s compensation philosophy, it’s easy for them to become frustrated and disillusioned. In some cases, employees even start to look for employment at another organization where they feel they would be compensated more fairly and their work would be more appreciated.
This is why it is important to be transparent with your employees regarding their compensation. Invest the time into being transparent by hosting meetings and trainings where you explain the following:
- How executive compensation works
- Your efforts to incorporate total rewards into your compensation strategy for everyone
- Market trends and demands that affect pay levels for incoming and current employees
- How performance and compensation are connected for every employee
- The realities of current economic trends or organizational strategies and their effects on compensation
Many organizations hesitate to be transparent with their employees, especially when the news about compensation changes is bad. Trust that your employees will appreciate your honesty when you share with them that the organization has had a particularly bad quarter or you’ve lost a large source of funding.
Remember that transparency is a two-way street. Encourage your employees to ask questions and give feedback regarding their compensation. This will help you to cultivate a workplace culture and a compensation strategy in which everyone at your organization can thrive.
4. Monitor executive performance.
Compensating executives based on performance takes effort. As an organization, you’ll need to ensure you have a strong talent management process in place for your executives, with an eye to long-term retention. You’ll also need specific performance management protocols that can help your board of directors measure executive performance management and adjust compensation as needed. Here are three protocols your board can apply to your executives:
- Make the expectations for the role clear. If the executive in question doesn’t know what big picture initiatives or goals they’re supposed to be overseeing or pushing forward, it will be difficult for both your board members and the executive to see how they’re performing. Record these goals and identify specific timelines for the executive to follow. Establish a system for accountability, and articulate how their efforts are tied to their ability to earn short-term and long-term incentives as part of their compensation package.
- Hold executive performance reviews. Performance reviews are a more formal way of assessing an executive and their work. Your board should hold these on a regular (typically annual) basis and use them as an outlet for getting up to speed on the executive’s efforts and discussing compensation particulars.
- Look for ways that the executive makes an effort to participate in internal culture. Does the executive in question connect with the employees underneath them? They might participate in company holiday parties, host trainings, or attend conferences with employees. If the executive is taking action to make your workplace a better place and to develop professional relationships with others that help drive larger organizational goals, this should be factored into their compensation.
It isn’t easy to actively evaluate executive performance, but doing so can help you maintain rigor and fairness in a performance-based executive compensation program. It’s a good idea for the board to rely on the services of an external consulting firm as they administer the executive performance process.
5. Get feedback from your employees and make adjustments as needed.
Your executive compensation strategy may evolve over time, depending on performance, market trends, and more. Prepare to make adjustments and sustainable changes to your compensation program by requesting frequent feedback from your employees. This feedback might be gathered in one or more of the following ways:
- Internal compensation surveys: A custom total compensation survey designed by a compensation consultant can help you identify your employees’ compensation needs and expectations moving forward. Since these surveys are anonymous, it can be easier to get honest feedback that gives you a realistic idea of how employees are responding to your current strategies and what you can do to improve.
- One-on-one meetings between managers and direct reports: Encourage managers and direct reports to have conversations in their regularly scheduled one-on-one meetings about compensation. The manager can discuss the organization’s compensation philosophy with the direct report, answer questions and record concerns about executive compensation, and get ideas for and feedback on your total rewards approach.
- Compensation change conversations during performance review season: Some employees feel most comfortable discussing an organization’s approach to compensation when adjusting their own personal compensation during performance reviews. Encourage managers and HR representatives to directly ask for feedback regarding your organization’s compensation approach. This will not only ensure that the employee’s compensation is adjusted effectively during the performance review, but will also give you ideas that you can later develop into long-term policies for everyone.
Regularly soliciting feedback on compensation ensures that your employees see your organization taking deliberate action to improve their work experience. When employees know that you are aware of their needs, concerns, and expectations, they’ll be more engaged with your organization and their work.
Executive compensation is hard for an organization to get right, and it’s important to be aware of potential issues and concerns that will arise among your employees from time to time. However, as you work to understand these issues and concerns and make positive and fair changes to your compensation program, you’ll create a more sustainable approach to compensation that will help you with employee retention at every level of your organization.
Compensation is complicated and has far-reaching impacts, which is why many organizations choose to work with experts to make sure they’re taking the best approach possible.
Interested in learning more? Check out the resources below that can help you find the outside help you need and base your compensation approach on performance:
- Hiring a Nonprofit HR Consultant: The Complete Guide. Does your nonprofit need a third-party perspective on your executive compensation program and other large-scale human resources issues? Check out this guide to learn how to pick the right HR consultant.
- Web-Based Talent Management Software with Flare®. Talent management has a lot of moving parts, but with the right talent management software, you can stay on top of everything and ensure every employee’s compensation is based on performance. Check out Astron Solutions’ software, Flare®!
- Performance Reviews: Overview and Tips from HR Experts. This article from our friends at RealHR Solutions can help you prepare for and conduct effective and insightful performance reviews.
Luke Smith says
It’s great that you pointed out how executive compensation is a tricky issue for any organization to navigate. I read a bit about executive compensation yesterday and I am now trying to learn more about it. From what I’ve learned, it seems companies could actually hire an executive compensation consultant now, which seems pretty useful for businesses.