Evaluating Executive Compensation - 21 March, 2010

http://www.sfgate.com/cgi-bin/article.cgi?f=/g/a/2010/03/21/investopedia2188.DTL

SFGate.com

Justin Kuepper, provided by Investopedia
Sunday, March 21, 2010

Executive compensation is a very important thing
to consider when evaluating an investment opportunity. Executives who
are improperly compensated may not have the incentive to perform in the
best interest of shareholders, which can be costly for those
shareholders. While new laws and regulations have made executive
compensation much clearer in company filings, many investors remain
clueless as to how to find and read these critical reports. This article
will take a look at the different types of executive compensation and
how investors can find and evaluate compensation information.

Types
of Executive Compensation
There are many different forms
of executive compensation that offer a variety of tax benefits and
performance incentives. Below are the most common forms:

1. Cash
   Compensation – This is the sum of all standard cash salary
   compensation that the executive receives for the year.
   
   


2. Option
   Grants – This is a list of all options granted to the
   executive; the information includes strike prices and expiration dates.
   
   
   


3. Deferred Compensation – This is compensation
   that is deferred until a later date, typically for tax purposes.
   However, changes in regulations have lessened the popularity of this
   type of compensation.
   
   


4. Long-Term Incentive
   Plans (LTIPs) – Long-term
   incentive plans encompass all compensation that is tied to
   performance for tax purposes. Current tax laws favor pay for
   performance-type compensation.
   
   


5. Retirement
   Packages – These are packages given to executives after they
   retire from the company. These are important to watch because they can
   contain so-called "golden parachutes" for corrupt executives.
   
   


6. Executive
   Perks – These are various other perks given to executives,
   including the use of a private jet, travel reimbursements and other
   rewards. These are found in the footnotes.

Finding
Executive Compensation
All executive compensation
information can be found in public filings with the Securities and
Exchange Commission (SEC). The SEC mandates that all public companies
disclose how much they are paying their executives, how this amount is
derived and who is involved in determining pay. The information itself
is disclosed in several locations, including:

• Form
  8-K: The current event filing can be used to disclose
  compensation information if the event is related to changes in
  compensation policies and/or procedures.


• Form 10-K:
  The annual report filing is always used to disclose yearly compensation
  information.


• Form 10-Q: The quarterly report
  filing also contains quarterly compensation information.


• S-1/S-3
  Forms: New issues contain executive compensation information
  relevant for future investors to consider.

Evaluating
Executive Compensation
Evaluating executive compensation
can be a difficult task for the individual investor. Luckily, there are
many tools that are now available to make the process much easier. These
tools automatically parse SEC filings to pull the numbers and make
comparisons designed to give meaning to raw information.

Pay
Vs. Performance
One of the most popular ways to evaluate
executive compensation is by comparing pay versus performance.
Unfortunately, many executives are given raises and bonuses even when
their companies are faltering. Comparing pay to stock performance can
help you determine whether executives are overpaid. The specific metric
used most often is comparing the change year-over-year in executive pay
increases to the change year-over-year in stock price. Obviously, if the
change in the stock price outpaces the change in pay, the executive is
not overpaid. Here is an example of a comparison for Bill Gates, who was
Microsoft's CEO between 1975 and 2000 and the company's chief software
architect and chairman between 2000 and 2006: