Because the economy is struggling, some compensation committees are devising new approaches to help executives achieve bonus targets.
``It appears that the challenging economy is causing companies to lower the bar. They want to reward significant performers, so they build-in significant opportunities, even in a down economy,'' said Steve Van Putten, advanced senior manager and senior compensation director in the Wellesley, Mass., office of Washington-based Watson Wyatt Worldwide.
Joe Mallin, a managing partner of New York-based Pearl Meyers & Partners, agreed. ``I expect that companies will continue to ratchet down to more realistic targets during this down economy,'' he said in a telephone interview.
To do that, some companies are rewarding executives for outperforming their peer group, regardless of how the individual or company performed, said Mallin, who works out of the Atlanta office of the executive compensation consultant.
``Investors prefer that. But when you do that, you get away from paying executives for meeting and exceeding goals,'' he added.
Why would companies want to compensate executives when performance targets aren't met? Much of it stems from concern that lower payments could make it difficult to retain executives.
Companies may want to reassess goals based on current conditions and lower the performance and the bonus thresholds ``so there is a higher probability that bonuses might be paid out,'' said Mike Esser, managing director in the Los Angeles office of Pearl Meyers, during a recent webcast.
He also said companies may want to increase the use of discretionary bonuses to reward executives even when targets aren't met. That is precisely what Foamex International Inc. did when its executives failed to meet their one-year performance targets in 2007. Even though the company's one-year return to shareholders declined 81 percent, the compensation committee gave four of its top six executives discretionary bonuses.
According to the company's proxy report, when incentive plan targets for earnings before interest, taxes, depreciation and amortization were not achieved, the compensation committee decided ``discretionary awards were necessary in part to retain certain key executives and to reward such employees for accomplishments that were achieved.''
As justification, the committee pointed to ``how close the actual financial results were to the target, a reduction in the company's debt significantly beyond the original target, improvements in working capital, sales of nonstrategic assets'' and several other factors. The committee awarded a $100,000 bonus to Chief Executive Officer and President John Johnson Jr. on top of his $462,500 salary.
Executive Vice President and Chief Financial Officer Robert Larney was given a bonus of $50,000 — almost one-third of his salary.
But subjectively rewarding below-target performance or lowering targets during difficult economic times doesn't sit well with some compensation experts.
``If you see a company with poor performance and a declining stock price paying out bonuses, something is out of whack,'' said Charles Elson, director of the John L. Weinberg Center for Corporate Governance at the University of Delaware in Newark, and an advisory board member of the National Association of Corporate Directors in Washington.
``Although you do have to take into account situations that create rewards or penalties beyond the executive's control, the best way to reward and `punish' executives is to link them to the equity value of the company,'' Elson said.
Two-year-old Securities and Exchange Commission rules require disclosure of specific incentive targets unless it would cause competitive harm.
Many companies ``don't like to disclose performance targets because often they are profit and break-even points, and they are afraid it will disclose their capacity and possibly subject them to predatory prices,'' said James Reda, founder and managing director of James F. Reda and Associates in New York.
Disclosing targets can put a company in an awkward situation if the targets are different from the guidance provided to investors. And sometimes failing to meet targets may simply be embarrassing, he said.
``For the percentage of companies who fall flat on their face, it is embarrassing — particularly if they didn't do as well in their goals, but still paid out a bonus,'' said Reda. ``Another concern is the possible difference between investor guidance and compensation-related performance goals. That is airing your dirty laundry in public, and companies are petrified of that.
``Disclosing those numbers is particularly a problem for the plastics industry because it is so highly competitive.''
Van Putten agreed. ``Companies are concerned about letting their competitors know how their goals compare to industry growth — and whether they are bullish or bearish. Disclosure can give other companies insight into the downside risks and the opportunities.''
The result is that some companies are moving back to discretionary plans like bonuses or tying performance to a peer group, ``so they don't have to reveal an actual target,'' said Eric Hosken, a client partner with Los Angeles-based Executive Compensation Advisors, a Korn/Ferry International company. Hosken is based in New York.
But using subjective metrics to avoid disclosing sensitive figures can backfire on a company.
``Every dollar spent above and beyond the scheduled [payout] is subject to criticism and charges of spending money you don't have,'' Reda said. Once you set a line and pay for performance below that line, you are setting a dangerous precedent,'' Reda said.
That is particularly true, he said, in the capital-intensive plastics industry where cash flow is so important.
``You can't underperform your budget drastically and still come up with bonus dollars, because you are taking money away from dollars you were going to use to pay down debt and buy new machines,'' said Reda.
``Putting the entire short-term bonus on a relative basis could be a disaster financially and difficult to explain to shareholders,'' he said, unless there is a trigger, requiring the company to make at least 90 percent of what it made the prior year.
Still, Reda said he expects that to be one of the biggest issues going forward.
``More companies will set performance goals on a relative basis to get away from setting a single number,'' he said.