Strategic compensation and executive pay

In recent days, two items on the subject of executive pay have been in the news nationally, but for opposite reasons. A television programme targeted and criticised the benefits paid to executives at the National Bank of Pakistan, while UBL made public its plans to set up a trust for the purposes of retaining and motivating the best performing officers.
There is an anomaly here. One bank whose pay packages are generally considered below the market norm, is under fire for paying too much, while another bank, known to pay above-market, has to find incentives to retain its talent.
Critics of the executive pay in our country tend to take a tunnel rather than perspective vision of the issue. For instance, executive compensation in Pakistan, even after adjusting for the economic imbalance, lags well behind corporate pay in India, a country with similar socio-economic conditions, where the top earners are on a plateau of their own (ranging from Indian Rs 1.04 billion in salary and bonus for Mukesh Ambani to Rs16.6 million for number 500 on the list.) Secondly, unlike corporations and banks in the West, where executives unashamedly paid themselves huge bonuses from the public funds, even as their companies were bankrupt, executive compensation and bonuses in Pakistan are met from corporate profits, therefore rancour, if any, should arise from management or shareholders or investors, not TV channels.
Executive pay falls within the ambit of strategic compensation, a phenomenon driven by a corporation's ever-changing business environment and the resultant imperative for a more effective mobilisation of talent and people for achievement of strategic priorities. Strategic compensation, very broadly, consists of four elements in a closed loop, or continuous, process, in which (i) a business' long-term and short-term goals are translated into compensation interventions; (ii) these interventions are aligned with key plans, (iii) they are deployed to lead the resultant change process and (iv) are reviewed continuously for evaluating the outcomes.
The rationale behind strategic compensation management is that good fit, or alignment, between a firm's business strategy and its human resource management system, especially the compensation system, improves a company's competitive advantage - better business results, more effective performance, stronger capability, higher staff attraction and retention levels, heightened motivation and employee satisfaction.
The issue that draws public attention to strategic compensation is the exorbitant size of executive pay packages and why they are so out of sync with the tiers below.
To understand this, it needs to be remembered that, while on the surface a corporation may appear to be solid and functioning effectively, every day its very survival is threatened - internally by a multiplicity of operational risk factors; and externally, not only by competitors determined to see it fail but also by forces outside its control, such as interest rates, exchange rates, tariff barriers, government policy, adverse macroeconomic developments, market variables, supply chain disruptions, political upheaval, to name a few.
If the notion of fighting for survival each day sounds far-fetched, it would be good to remember Lehmann Brothers, which was a going concern with a triple-A rating at 9:00 am one morning but had ceased to exist by 6:00 pm the same evening and, as later discovered, the collapse was caused by three key competitors, who declined the release of Lehmann's deposits of approx US $30 billion, cash that would have kept Lehmann liquid but return of which might have engendered the collapse of certainly one, possibly two, of these competitors.
In any organisation, the responsibility for steering a company through the competitive minefield rests with its senior executives, who must ensure corporate growth and profitability even as they anticipate and manage the adversities posed by change.
Successful management of change requires vision, boldness and, above all, a willingness to take risks. As in politics, in business also caution is appropriate in a time of stability and equilibrium, but in times of dynamic change, the best way to defend or to take a great leap forward is to take risks. This is best observed in the continuous battle for market share, retention of which is a paramount concern of all companies, because the monetary and human capital costs involved in recapturing lost market share often can be so prohibitive as to bring a company down.
At the top level, the price of failure to manage change is often the loss of one's job, therefore, given the stakes, many executives tend to be conservative and averse to risk-taking, some even to timely decision-making, when faced with major challenges to their institutions. When companies do not respond to change, they lose market share and can even cease to exist. For this reason, effective management is characterised as the ability to anticipate and use change as an instrument for improving an organisation's competitive performance, while striking a balance between short-term and long-range goals.
Anticipation is the genesis of planning, and planning is the systematic ordering of resources and commitments. Consequently, the basic framework for managing change is through a strategic business plan, but such a plan is viable only if executives are committed to its implementation; and the best way for an institution to ensure executive commitment to strategic plans is through a strategic compensation system that provides reciprocal responsibilities and assurances between key executives and the organisation, ie risk and reward.
Finding senior executives capable of motivating people, communicating a vision, managing risk and leading a company to the top can be both emotionally and physically challenging, which is why the rewards have to be substantial.
Reverting to the television program on NBP, an apoplectic anchor was seen ranting over a bonus of twenty-five million rupees allegedly paid over five years to a senior executive vice president. What the anchor omitted to mention was that, over this five-year period, the bank had made a cumulative profit of more than sixty billion rupees, a substantial portion of which had been earned by the retail banking division headed by this executive. Moreover, in spite of extreme economics stress and aggressive competition from privatised banks, the bank increased its market share in the sector. Consequently, from the perspective of strategic compensation, it was NBP that got a better deal than the hapless executive under media attack.
UBL's decision to create a fund for retention of talent is a mature approach towards righting existing compensation issues that are doubtless impacting negatively on the implementation of its strategic plans. Most corporations use a blend of non-cash rewards in areas such as work-life balance, children's education, professional development and training to incentivize and motivate their managers. Nevertheless, despite best efforts, retention remains a problem and Pakistan is no exception.
Because of the absence of studies, statistics for Pakistan are unavailable, but since senior executives world-over tend to respond to the same motivations, one can gauge the importance of retention from relevant research studies in the USA, which show that: 43% of companies find skills shortage as a top business concern, behind competitive pressure and growth; employee turnover costs more than two times employee salary (recruiting, training, severance costs); 77% of companies do not have enough successors to replace current senior- and middle-level managers working in their organisations; employees who feel that seniors who do not respect them or recognise their efforts, are three times more likely to leave their employer in the next two years, irrespective of the compensation, than those who feel respected; and, bad hires and promotions lead to lower morale (68%), lower productivity (66%), lost customers (54%), higher training costs (51%), higher recruiting costs (44%).
Therefore, while UBL's proposed retention fund may be a step in the right direction, its HR managers would do well to investigate the existence of non-compensatory reasons, such as new hires perceived to be of insufficient competence or unjustified promotions, that may be behind their retention problems.
If the compensation offered to Indian executives is much higher than that of their Pakistani counterparts, one of the major reasons is that Indian managers place a far greater emphasis on knowledge-enhancement and knowledge-acquisition. This may be because Indian companies have much greater exposure, inland and overseas, to international competitors, but let us not forget that India's competitive ability came about in the first place due to management commitment to knowledge acquisition.
Pakistani managers cannot expect to stay insulated for too long in a protected economic environment and must make a quantum leap in the development of their human capital. Increasingly, modern management, whether in services, trading, agriculture or manufacturing is all about acquiring knowledge and applying it to gain competitive advantage and increase in company value.
The banking sector is a case in point, where risk, operational, compliance, finance and audit management are almost entirely technology-driven, with the Basel directives providing a universal standard by which appropriately-skilled managers can process and interpret data for prudent decision-making by senior managers. Unfortunately, Pakistani banks are seen to lag behind not only their regional counterparts but also timelines given by the State Bank for training and acquisition of knowledge and its implementation in key banking areas.
Consequently, while our banks may be gaining competitive advantage against one another domestically, they will lose out against outside competition if they do not quickly address the knowledge gap. This has a direct link with strategic compensation and retention issues. Banks HR management could be overlooking that many technological and mathematically-adept managers may be frustrated by the insufficient training that is denying them professional development opportunities and chances to implement organisational efficiencies. In any company, talented managers who become frustrated at lack of internal opportunity for advancement due to development of professional skills will look elsewhere for job satisfaction, no matter what the pay.
To conclude, we return to National Bank. It would be interesting to learn how many of its retail banking managers left the bank during the five years that their leadership was producing profits for the Bank. Those details will illustrate whether NBP's strategic compensation management was in alignment with its strategic policy.
(The writer is a management consultant) ([email protected])