How would one determine the reasonableness of executive compensation?

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Michael Ugulini eNotes educator| Certified Educator

An organization's Management and/or Board would determine the reasonableness of executive compensation through looking at several factors concerning an executive's current performance, as well as the individual's past track record and experience and what they will bring to the company in the future. It really is a broad-based way to come up with executive compensation.

Future executive compensation will be based on current performance; current executive compensation is based on past performance as well as initiatives the executive has set in motion for the company that the organization deems is currently working and valuable.

How an executive contributes to the company's profitability and sales growth can help determine their compensation. In addition, the compensation paid to other executives in similar positions in like industries is a way to judge one's compensation. A company must also look at where the executive is working and what increased responsibilities they are taking on.

For example, a mining executive may be taking a position in a foreign jurisdiction, with labor unrest. His or her compensation must take into account the costs of living in this other nation and the risks inherent in a work environment beset with labor strife.

An organization must also look at their entire organizational chart and determine where one executive's compensation fits in that chart. In essence, over compensating one individual can throw the whole organization's compensation program out of whack. A trickle through effect can occur where a precedent is set, which leads to calls for others to have their compensation increased. In addition, one who receives compensation far and above what most others of his or her level are receiving can cause rancour and division within an organization.

As pertains to business acumen, an executive who initiates processes and programs that cuts costs and streamlines operations may well deserve an increase in compensation based on the benefits's he or she has provided to the company - and by extension their shareholders' - if the Company is publicly-traded. A smart executive can help cause the company's stock price to appreciate as his or her actions may cause others to see great value in the company.


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