August 2002

The Real Story About Executive Compensation

By JAMES S. ANCHIN, CPA

Finally, some good economic news Ñat least for the construction industry. Despite the devastating effects of September 11th, the current economic doldrums, corporate scandals and all the other storm clouds gathering on the horizon, compensation for construction industry executives is forecast to rise by just over five percent in 2002. That's on top of more than 10 years of wage increases that beat those of executives in other industries and exceeded the rise in the Consumer Price Index. What's more, experts see this trend for construction industry executives continuingÑand that means for everyone from the company's Board Chairman to the CEO to the executive and senior VPs.

So, how much do construction executives make? Without getting into actual dollar amounts, there are some notable findings that are indispensable in developing or adjusting your company's compensation program. (Industry surveys are available with more specific information regarding compensation levels by type, size and location of contractor.) Trend watchers have spotted some fascinating ratios. Naturally, compensation strongly correlates with the size of the company. The larger the company, the greater the compensation received by senior level executives, which includes salary and most often bonuses.

Who determines the salary levels of the various managers? The answer to that compelling question is a key factor in the overall health of a company. An interesting finding Ñ and one that is true for construction companies across the board, regardless of size, location or specialty Ñ is how executive pay is calculated. For many years, the compensation for senior management, from the chairman of the Board right down to the vice president of Administration has been a function of the CEO's base salary. A definite hierarchy has emerged, with the board chair receiving 125 percent of the CEO's pay, an executive vice president, 84 percent of CEO base pay and so on down the line to the chief financial officer at 63 percent and the vice president of Administration at 55 percent of base pay received by the chief executive officer.

What's behind these percentages? Experts attribute assignment of the percentages to the CEO, to whom the responsibility for determining the duties and value of each executive usually falls. Based on the CEO's perceived value of each executive position, the percentages are applied. Because they have remained consistent throughout the industry over time, these ratios are considered part of the construction industry culture Ñ a situation that makes it relatively easy to structure the wages of top management. Simply determine the CEO's pay, and apply the percentages to arrive at the dollar amount of each manager's base salary.

A viable compensation structure, however, is the function of the validity of the CEO's base pay. Set either too high or too low, the CEO's pay can have unfavorable repercussions within the company and within the industry. For example, if a CEO is underpaid relative to his counterparts in other firms, his entire management team will see a drastic contraction of their own salaries. There have been instances when CEOs, for personal and/or tax reasons, don't want a high base pay. This can happen when the CEO is also an owner of the company. In such situations, the CEO must be creative in setting up a compensation structure that will both meet his needs and not upset the hierarchy of executives within the company. Take advantage of the expertise of your accountant in such a situation.

On the other hand, if a CEO's pay is higher than the industry standard, the other executives may balk at the discrepancy in compensation between his and their own. In those cases it's advisable either to increase the executives' pay or lower the CEO's pay, making it more consistent with those of CEOs in similar companies. A "do nothing" alternative may end up with heavy defections by senior management.

Many situations arise in the management of a company that may find relief in application of these ratios. Consider the case of a family-owned firm in which a son or daughter takes over the reins from the founding parent. This new top officer may be inexperienced, uninterested or simply not CEO material. As a result, a longtime CFO or executive vice president may have to pick up the slack, resulting in an upset of perceived value and actual compensation.

Obviously, the hierarchy of positions and related compensation are highly important in an organization. Well managed, they can lead to a stronger, more motivated and more effective team. Unheeded, the same issues can jeopardize both the company's current performance and its future goals.

About the author: Mr. Anchin is a managing partner of Anchin, Block & Anchin, LLP, a regional certified public accounting firm with offices in New York City and Westchester, that specializes in meeting the needs of contractors in the tri-state area.