The long and winding road.

• Author: McMillan, John D.
• Position: Executive pay - Compensation

That's the direction executive compensation is taking, as companies tighten up the links between long-term profitability and their executives' net worth. Find out how they're driving the message home with new variations on the old stock-option carrot.

Hitched your star to your company's wagon? You'd better be prepared for the long haul. Today, executive-compensation programs primarily emphasize long-term incentive programs - and that's probably where the focus should have been all along. Annual-bonus plans have been almost universal since the late 1980s, but while the average bonus levels have increased, most of the increase stems from higher profitability, not changes to the bonus plans themselves. This signifies that in the future, your compensation will probably be tied even more closely to the company's overall profitability and the shareholder value you contribute.

In general, executive pay is a function of company size. The average salary and total cash compensation (salary and bonus) for executives in industry usually depend on company revenues, and the same is true in banking and insurance. For example, CFOs in companies with revenues under $200 million earn an average base salary of $140,000, while those in companies with $200 million to $500 million receive an average of $156,700, according to our latest executive-compensation survey. CFOs working for companies with $500 million to $1 billion in revenues receive an average of $211,100. And CFOs in companies with more than $3 billion in annual revenues earn average base salaries of $313,500, more than double their compatriots in smaller companies. Pay should correlate with size, of course, since fewer executives are experienced at running a $10-billion company than a $10-million company. As long as we have a free market, the rarer gem will command the higher price.

Overall, executive salaries haven't been rising rapidly, headlines in recent years notwithstanding. Between 1989 and 1994, CFO salaries rose more than financial-executive salaries in other categories - by about 4.7 percent. The average salary for a treasurer and a controller rose by approximately 4.2 percent and 4.5 percent, respectively, while the average salary for a CEO increased by about 3.6 percent per year.

The average salary increase by position is less than the average salary increase budgeted for executives, which was just over 5 percent during this five-year period. One reason for the differential is that companies often replace executives who retire or leave with lower-paid executives, a phenomenon often called "turnover savings." So a company that budgets an overall salary increase of 3 percent may be able to actually give its executives 5 percent, depending on the turnover rate.

Like salaries, bonuses also vary with the size of the company. Larger companies tend to pay larger bonuses, both in dollars and as a percentage of salary, than smaller companies do. The average bonus for CEOs in companies with less than $200 million in revenues is approximately 55 percent of salary, compared to more than 80 percent in companies with more than $3 billion in revenues. For CFOs at those companies, the numbers are 40 percent and more than 60 percent of salary, respectively. Average bonuses for CEOs have increased during the last five years by about 23 percent (or slightly more than 4.2 percent annually), while average bonuses for CFOs during the same time period increased by about 12.4 percent (2.4 percent annually).

In recent years, both the Securities and Exchange Commission pay-disclosure rules and tax laws have been modified in an effort to more strongly emphasize the pay-performance linkage. This isn't a new concept, of course. Our American sense of fairness has always demanded that pay relate to performance. Many studies have...