Rethinking Compensation in a COVID-19 Environment

This article addresses the current economic COVID-19 realities and provides alternative compensation guidelines to minimize its impact while still retaining valued and high-performing employees.

While some companies might be actually growing, that’s not the reality for a lot of them. This article doesn’t deal with businesses that are in dire straits and need government aid to survive, which may be the case for the airline industry, travel/entertainment businesses, retail and restaurants. It also doesn’t address those companies who are benefiting from this crisis such as distribution companies like Amazon, FedEx, UPS and grocery businesses. This article deals with other businesses stuck in the middle of this crisis.

This article provides a set of compensation guidelines to address the decision making that will facilitate a company in meeting its business objectives relative to elevated to severe levels of economic circumstances that businesses might be facing. Figure 1 illustrates these levels.

It is important to note that there will be no universal quantitative metrics to support these definitions. Each business is unique and the quantitative factors will vary by industry and competitive strength within each company’s industry.

The negative economic impact varies from business to business, and region to region. It reduces the ability of people to freely change jobs. Employees are more willing to accept job security over increases in compensation. The economic realities require compensation restructuring and adjustments. Those are the knowns.

Components of Pay

The following sections provide guidance on the various components of pay from executives to sales employees.

Base Salary

We have learned some key lessons from past recessions.

In past recessions, companies moved quickly to downsizing to reduce cost but then found themselves in a difficult situation when the economy recovered. Companies lost some of their significant assets – their human capital.

This time around, other options need to be considered to avoid reductions in force and retain the key differentiator for a company’s future success – its talent. That’s because as quickly as companies found themselves in this recession, they could find themselves on the road to improvement because the global economy and the lightning speed of electronic communications may make recovery happen much more quickly than in the past recessions. We need to be ready for that.

In every economic situation, approaches are provided that touch upon the following elements:

  • Compensation structure
  • Hierarchy of jobs and job requirements and their size
  • Timing of increases and increase amounts
  • Processes
  • Communication

Following are approaches for reducing base salary costs without having to reduce staff. Options are provided for a range of companies from those characterized as “Low” to those that are in “Severe” financial straits.

In any situation, it would be recommended that the major portion of their salary increases be focused on top performers and top skill talent.

Note that this article focuses on companies in an “Elevated” to “Severe” state. The “Elevated” company needs to put into play actions, such as salary increase deferments, that were discussed. The degree to which these are implemented will depend on the amount of cost reduction that needs to be achieved.

The change in processes and communications should be at a heightened level.

For those companies in a “High” category, the lowest common denominator ought to be pursued in organization, compensation and job structure. This gets translated into removing any unnecessary layers and combining roles in the organization.

Jobs should be grouped into career ladders with broader and fewer pay bands.

Base salaries could be frozen at current pay levels and any salaries over pay band or salary range maximums could be reduced to the maximum of the band or salary range.

Processes and policies need to be revised across the board to reflect the new realities.

Communication needs to be clear and transparent regarding the rationale for these actions.

For those companies in the “Severe” category, actions that are suggested for the “High” category companies need to be taken in these situations. However, the changes will need to be made immediately and the degree of the changes will be greater than any of the other company situations we’ve discussed in order to achieve the greater cost reductions that are necessitated by the company’s financial condition.

Base salaries would need to be reduced across the board. The extent of the reduction can be higher at the senior management level and lower moving down the organization. The same action mentioned in the “High” category with respect to reducing salaries over the pay band maximum to the maximum of the salary range or band should be considered.

Figure 2 summarizes the recommendations that should be considered by companies in various economic stages.

Short-term or Annual Incentive Compensation

For the short-term or annual incentive compensation element of total compensation, companies need to focus on three areas: the performance of the business; the performance of employees; and the cost impact of an incentive program to deliver the right

performance from an ROI perspective.

Companies that are in an “Elevated” financial state should consider granting retention incentives to keep key talent in place. In the place of formula incentives, discretionary bonuses should be allowed for select executives to recognize their individual contributions.

Positions that have low impact on results should be removed from this plan.

If management lowers performance standards in incentive plans to match anticipated conditions, it should look at concomitant reductions in targeted payouts and narrower performance ranges.

Performance metrics should be 100 percent quantitative operating metrics. Eliminate components based on individual performance objectives. Use hard operational measures such as cash flow, working capital and Earnings Before Interest, Taxes, Depreciation and Amortization (EBITDA).

In an attempt to get ahead of the curve, provide purposeful communications about why changes are being made.

Companies in a “High” financial state should carve out all positions below senior management. For those carved out, create a discretionary bonus pool to handle any potential for incentive payments to these people for extraordinary results or effects they may produce.

A threshold of meeting the financial plan should be the basis for the threshold in the plan’s performance range. Any payout should be in the form of equity. Above that point, have a steep upward payout line or curve.

For companies in the “Severe” financial category, all payouts should become discretionary. Typically, in a severe business environment, setting performance metrics becomes very difficult. The company needs to be able to balance creating alignment with shareholders and keeping executives engaged and retained to get the company back to successful performance levels. In this situation, there needs to be a set of compensation guidelines between the Board and management as to the level of incentive payouts given the economic environment in which the company is operating – a formulaic approach just won’t work. It may be advisable to set some ranges of discretion for payout with some criteria tied to it. So, if management achieves a certain level, the Compensation Committee has the latitude to pay between 0 percent and 5 percent of target incentives. This should be reviewed quarterly.

Figure 3 summarizes actions to be taken by companies in the top three (3) categories of difficult economic stages.

In Summary

Companies need to develop a roadmap that can address all of the scenarios presented in this article. It’s important that the organization has a roadmap to utilize when faced with various economic realities to help guide decision making so it is done thoughtfully versus creating a “fire drill” mentality. In defining the roadmap, a company needs to consider its culture, its compensation philosophy, internal and external organization factors, and its workforce demographics.

If a complete roadmap is developed addressing all the “Elevated” to “Severe” scenarios, it should also outline the tools needed to successfully meet current business challenges.

Written by: Barbara Manny, BCR President & Consultant