Paying for Performance

October 3, 2006

Just days after The Wall Street Journal published an in-depth look at the seven-figure compensation package of E. Gordon Gee, chancellor of Vanderbilt University, colleges' human resources leaders gathered in San Diego. Not surprisingly, there was much chat about the article at the annual meeting of the College and University Professional Association for Human Resources, in San Diego.

The Gee story and its aftermath – in which many at Vanderbilt were not the least bit upset about their popular chancellor’s generous compensation – illustrate the realities of executive compensation as they were discussed at the meeting. Session topics weren’t devoted to bringing down pay levels, but to making sure that they wouldn't cause problems.  One session topic that typified the mood was “Breaking the $1 Million Barrier: The Implications of Rising Presidential Pay.”

Discussion at the meeting focused on how to best structure executive pay packages so that they would accomplish institutional goals and also be defensible -- to the Internal Revenue Service and to campus groups if the pay and benefits become public.

Charles W. Quatt, president of Quatt Associates and co-author of Dollars and Sense: The Nonprofit Board’s Guide to Determining Chief Executive Compensation, said that in his compensation consulting, he increasingly sees an “interesting balance” of goals. The IRS and some members of Congress are raising more questions about college presidents’ compensation -- and boards realize that they need to be able to justify the packages, Quatt said. But to many board members, a dominant issue is simply attracting or keeping presidents, and board members are quite willing to pay a lot for “a president who can perform.”

One way that some college boards are trying to deal with these competing interests is adding or expanding incentive payments linked to specific performance measures, Quatt said. Studies that his firm has conducted for colleges considering compensation strategy have found that about 25 percent of institutions are using these approaches in some way, he said -- a substantial increase from past patterns.

The practice, particularly at private colleges, has grown without showing up on the radar screens of those who monitor presidential compensation, Quatt said, because these payments are not necessarily visible on the IRS Form 990, which nonprofit groups must file and which reveals presidential pay and benefits. If the incentive payments are lumped together with cash payments and other benefits, it may not be clear that some of the funds are from incentive payments.

These payments aren’t just bonuses for a good year, but are tied to specific metrics. Quatt said he has seen incentives based on increases in the applicant pool or in SAT averages, progress in recruiting faculty talent, growth in endowments, successful completion of a fund raising campaign, and increases in graduation rates. He said that on financial incentives, it is important for colleges to make clear that they aren’t giving “a commission” to presidents, but are rewarding talent.

The incentive approach has also led some colleges to think more strategically about timetables for achieving goals, Quatt said. Some goals can’t be achieved in a single year, or it might not be clear if a one-year success can be repeated. So adding incentive payments can prompt boards to think about what reasonable time frames really are, and to have the incentive payments kick in at the end, not throughout.

This, in turn, has led colleges to push for more “golden handcuff” provisions – in which chief executives receive a substantial payoff for staying in their positions for set periods of time. Quatt said he has also seen increased interest in setting such provisions for multiple key members of an administrative team. At one institution that is a client, he just helped the board set up long-term contract incentives for four of the top five executives. (He quipped that when the fifth finds out, that person may not be happy about the message of being left out.)

The use of incentive pay also raises questions about how boards should set their target goal for total compensation. Say a board wants a president to have 10-20 percent of his or her compensation be based on performance metrics, and a board has a policy of having presidential compensation in the top 25 percent of peer institutions. Does the board want the base salary to get the president to the top 25 percent, or should the base plus bonuses get him or her there?

Another issue boards need to confront, Quatt said, is that incentive pay isn’t incentive pay in a true sense if someone is assured of earning it. Quatt said that he gets “pushback” from some board members when setting up the metrics for bonus pay. They tell him that their executives will take it as an insult if -- told that there is an incentive bonus of 10-20 percent -- they receive anything less than 20 percent.

Executive expectations are frequently a problem, several human resources officials said at the CUPA conference in private conversations. (Because the human resources people on college payrolls are in the awkward position of providing advice to boards on the HR directors’ bosses -- presidents -- they generally don’t like to talk with their names attached, and those speaking in public on this topic at the meeting were generally consultants.)

The problem HR officials see is one of “peer group creep.” If presidents only want to take jobs at institutions that pay in the top 25 percent of a peer group, and boards accept that premise, then everyone’s salary keeps going up – unless you have the unlikely scenario of a president saying he or she wants a job in the bottom 25 percent of pay for the group.

At Quatt’s session and elsewhere, there was a lot of interest in the incentive pay approach. But some other consultants, while seeing the logic of incentive pay for presidents, questioned how much the trend would take off.

Mark Rosen, a managing director of Pearl Mayer and Partners, said that “theoretically,” incentive pay “makes a lot of sense.” But he said that incentive pay only works “if everyone agrees” on what the top performance measures should be. At most campuses, he predicted, “it’s going to be too complicated to get everyone to agree," he said.

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