Just rewards: it's not so much what someone is worth as what you want a pay package to accomplish that determines executive compensation

Folio: The Magazine for Magazine Management, Nov 1, 1990 by James B. Kobak

Establishing a company's worth is essential if that company offers an Employee Stock Ownership Plan (ESOP) or is involved in a leveraged buy-out. The current tax code contains provisions that help profit-sharing plans, or ESOPs, buy the companies that set them up -- but that does not make it easy by any means. Good tax advice is needed before embarking on any such scheme.

The idea of an ESOP seems attractive, but the business aspects should be carefully reviewed. Think about these things: Who will run the company after the purchase? Virtually all the employees will be owners, and no one will have a majority. Will there be enough capital left to carry on the operation well? Will the new organization be able to buy out the employees at a fair price when they retire or die?

A leveraged buy-out is, of course, the ultimate piece of the action. It normally involves a number of executives raising money from financial sources and buying the company from its present owners. In recent years, a number of publishing companies successfully followed this route -- Diamandis, Billboard and Marketing & Media Decisions are examples.

However, a leveraged buy-out is not as simple as it sounds. A number of things must be considered. First, because the purchase price of a magazine company will probably be large, substantially higher profits than before will be needed to pay ongoing financing costs and to repay investors. The new management group, therefore, must be capable of accomplishing this -- and new outside forces must not make this impossible.

Second, the people who put up the money will have the real control of the company -- and chances are good that they will know little about publishing. Their goals and strategies may differ from those of the operating people.

Third, the financial people will probably want to sell within a few years. It may not be possible to do this profitably when the time comes.

A piece of the action

Most executives want to own part of the companies for which they work. These people give more time and thought to their organization than to anything else. And what other way do they have to get rich? Part-ownership helps them enjoy the growth that they have helped achieve. It is also a big morale builder -- and the most complex part of the compensation scheme.

Determining how big the piece of the action should be can be difficult. It has to be large enough to be meaningful, but the aggregate amount must not strap the company for future expansion. And room must be left for shares for future executives or for those whose value increases. You also want to avoid giving away so much that you feel threatened by the other executives. Usually something like 5 to 10 percent of the company is set aside at first, but some of this is reserved for the future.

Because it is common to have a buy-back provision when executives leave, the total amount may never have to be very large to satisfy executives. Examples of various stock options follow. (For more on the same subject, see Figure 2.)