THE BALANCE BETWEEN BASIC SALARY AND INCENTIVES FOR FULL-TIME DIRECTORS

Basic Salary Differentials

Differentials in basic salary exist in the UK between directors in different functions and between the board as a whole and the chief executive. Differences between directors by function are normally market related - based on survey and other evidence of competitive remuneration practice.

To set the basic salary differential between the managing director or chief executive and other directors, survey evidence should also be sought. Evidence from a number of sources suggests that board salaries are, on average, some 60–70 per cent of chief executive's pay. The earnings differential with sales directors may sometimes be lower, or even the reverse (ie higher than the chief executive), where special incentive arrangements exist. It may also be narrower for other directors in response to market forces or where recent recruitment has dictated a higher basic salary that has not, as it often does, yet triggered a general review of boardroom pay.

The majority of major UK employers operate executive incentive schemes and the payments involved continue to grow as a proportion of basic salary. In more aggressive and performance-orientated organizations, incentive payments which exceed 100 per cent of basic salary are being made, sometimes with no 'cap' when profits rise unexpectedly. In good times such payments are, as we have already said, an outward visible sign of company and indeed executive success - the 'applause' given to those who perform well.

The credibility of this approach, however, probably depends in the long term on whether the beneficiaries are prepared to take the decline in payments as inevitable when profits fall, or when the country faces an economic recession from which even they cannot escape. (A recent review of chief executives' bonus payments at the top of the FTSE 100 would suggest this is not happening and that annual bonuses may be being held at high levels to compensate for poor returns from long-term incentives.)

Such considerations inevitably affect the decision on where to set basic, pensionable salary and what to provide as performance reward. If basic salaries are set competitively, there will be less temptation to 'fudge' the incentive payments in lean years because executives have become more dependent than they should on 'risk' payments. Provision of the benefit of independent personal financial counselling, to help directors plan their incentive payments sensibly in 'good' years, is worth considering.

Before a board decides to implement change in its current salary and incentive arrangements, it needs to consider how this will affect salary policy for staff lower down. A particular concern should be the differential within the level of management just below. The basic salary differential should provide for sensible progression and a reasonable jump on promotion to the legal responsibilities of a full-time directorship.