Adjusting CEO Incentives to Compensate for a
Market-Driven Depressed Stock Price
Background
A leading global manufacturer of high-technology printers and software hired a new Chief Executive Officer, replacing the founder, who had served as CEO since the company’s inception. When he was hired, the new CEO was awarded a significant performance-based compensation package that depended on doubling the stock price over a five-year period, as an incentive to motivate and retain him over the long term.
In late 2008, the stock market collapsed, resulting in a market-driven depressed stock price. Given the significant decline in the stock price, it was virtually impossible to achieve the required levels of total shareholder return.
Approach
The Board’s Compensation Committee engaged The Delves Group to assess the current state of the CEO’s original sign-on award and develop alternatives to achieve its objectives of motivating and retaining the CEO over the long-term. The purpose of the assessment was to see whether another retention award was necessary, and, if so, how a new long-term incentive could be designed.
The Delves Group interviewed the Chairman of the Compensation Committee and other members of the Compensation Committee to understand each Committee members’ point of view on retention, motivation, and the direction of the Company. The Delves Group also met with the CEO to understand the newly developed strategy and the direction the Company.
Our assessment included a detailed description of the original sign-on award, the value of the award at each given level of performance, how the Company’s stock performed against the market, and total cash and equity compensation earned and granted since the CEO joined the Company.
Recommendations
The Delves Group concluded that the original sign-on award could not, under the circumstances, provide an incentive to motivate or retain the CEO. At the same time, the accounting expense incurred for the plan could not be reversed, and canceling the plan would accelerate the expense accrual. If the plan was modified by changing targets, measures, or time periods, the plan would be considered a new plan, which would generate a new, additional expense.
Consequently, The Delves Group recommended that the Compensation Committee implement a new long-term incentive for the CEO to replace his original sign-on award. Based on the interviews and discussions, The Delves Group recommended that the new long-term incentive plan be:
- based on the core value drivers of the Company,
- aligned with the new long-term strategy of the Company, and
- powered by back-weighting the vesting schedules.
This was achieved through three equity vehicles:
1. time-based stock options,
2. time-based restricted stock, and
3. performance-based restricted stock.
This design made more than 75% of the new award based on performance. The performance-based restricted stock portion of the new plan was based on compound annual revenue growth rates with a return on invested capital multiplier. These two performance measures best reflected the Company’s strategy and ensured strong alignment between the CEO and shareholders.
Results
The Compensation Committee accepted The Delves Group recommendation to implement a new performance-based long-term incentive plan that replaced the CEO’s original sign-on award.
The CEO and the Compensation Committee decided to implement a very similar long-term performance-based equity grants to all of its executive officers below the CEO to align the interests of not only just the CEO to the rest of the management team but also to shareholders.
Since the implementation of the new performance-based long-term incentive, the Company has recorded record financials and the stock price has increased by about 30%.
