Guidelines of Companies Act Relating to CEO Compensation and components
- The CEO or the managing director or the manager.
- The Company Secretary.
- The Whole-time director.
- The Chief Financial Officer
- Any other officer as may be prescribed.
In India, first time law has been prescribed in 1956 as company act for maximum remuneration of the managerial. Sections 198, 309, 310 and 311 read with schedule XIII of the Companies Act, 1956 regulate with the managerial remuneration in India.
Regular amendment has been made in the law regarding the company act. Recent amendment was made for remuneration of the managerial in 2013 as Company act 2013 which replaced the earlier company act 1956.
Executive are top level managerial, who is having keys managerial role between the company and shareholders. A well and balance designed compensation attracts the executives to motivate to works and creates the long term firm value. Several regulations and provisions have been implemented in India for compensation for executives. As per the recent regulation, company act 2013 becomes the important act for appointment and remuneration of managerial.
Section 197 of the company act defines the total remuneration to the managerial persons, whose total remuneration of executives is based on the net profit of a company, which computed as per the manner adopted in the section 198.
As per company act 2013, a maximum ceiling of remuneration is exempted for Private limited company; a private company can pay any amount to the managerial. Once upon a time as per the leading news paper, Naveen Jindal, executive vice-chairman and managing director of Jindal Steel & Power was highly paid CEO in India, whose estimated commission value received from the profit was Rs 39.7 lakh apart from the perks and salary.
- Company act 2013 prescribed the maximum ceiling of remuneration which is applicable to public company or a private company which is subsidiary of public company known as deemed public company. Company act 2013 clearly regulated how much remuneration is prescribed to Managerial in India.
- As per the section 197, prescribed the maximum ceiling for payment of managerial remuneration by a public company to its director, whole time director or manager should not exceed the 11% of the net profit of the company in that financial year computed in accordance with section 198 except that the remuneration of the directors shall not be deducted from the gross profits.
- The public company in the general meeting may consent the payment of remuneration exceeding the 11% of the net profits of the company with the approval of central government and provisions of Schedule V. The net profits for the purpose of this section should be computed as per guidance adopted in section 198.
- In case if there is only one managing director or whole time director, the remuneration payable by public company shall not exceed 5% of the net profits of the company.
- Wherein a public company is having more than one such director then total remuneration payable by public company to them shall not exceed 10% of the net profits of the company.
- The remuneration payable to directors who are neither managing directors nor whole-time directors shall not exceed 1% of the net profits of the company, if there is a managing or whole-time director or manager.
- The remuneration payable to directors who are neither managing directors nor whole-time directors shall not exceed 3% of the net profits of the company, if there is no managing or whole-time director or manager.
Executive compensation or executive pay is composed of the financial compensation and other non-financial awards received by an executive from their firm for their service to the organization. It is typically a mixture of salary, bonuses, shares of or call options on the company stock, benefits, and perquisites, ideally configured to take into account government regulations, tax law, the desires of the organization and the executive, and rewards for performance.
The three decades starting with the 1980s saw a dramatic rise in executive pay relative to that of an average worker’s wage in the United States, and to a lesser extent in a number of other countries. Observers differ as to whether this rise is a natural and beneficial result of competition for scarce business talent that can add greatly to stockholder value in large companies, or a socially harmful phenomenon brought about by social and political changes that have given executives greater control over their own pay. Recent studies have indicated that executive compensation should be better aligned with social goals(e.g. public health goals). Executive pay is an important part of corporate governance, and is often determined by a company’s board of directors.
Executive stock option pay rose dramatically in the United States after scholarly support from University of Chicago educated Professors Michael C. Jensen and Kevin J. Murphy. Due to their publications in the Harvard Business Review 1990 and support from Wall Street and institutional investors, Congress passed a law making it cost effective to pay executives in equity.
Supporters of stock options say they align the interests of CEOs to those of shareholders, since options are valuable only if the stock price remains above the option’s strike price. Stock options are now counted as a corporate expense (non-cash), which impacts a company’s income statement and makes the distribution of options more transparent to shareholders. Critics of stock options charge that they are granted without justification as there is little reason to align the interests of CEOs with those of shareholders. Empirical evidence shows since the wide use of stock options, executive pay relative to workers has dramatically risen. Moreover, executive stock options contributed to the accounting manipulation scandals of the late 1990s and abuses such as the options backdating of such grants. Finally, researchers have shown that relationships between executive stock options and stock buybacks, implying that executives use corporate resources to inflate stock prices before they exercise their options.
Stock options also incentivize executives to engage in risk-seeking behavior. This is because the value of a call option increases with increased volatility (see options pricing). Stock options also present a potential up-side gain (if the stock price goes up) for the executive, but no downside risk (if the stock price goes down, the option simply isn’t exercised). Stock options therefore can incentivize excessive risk seeking behavior that can lead to catastrophic corporate failure.
Executives are also compensated with restricted stock, which is stock given to an executive that cannot be sold until certain conditions are met and has the same value as the market price of the stock at the time of grant. As the size of stock option grants have been reduced, the number of companies granting restricted stock either with stock options or instead of, has increased. Restricted stock has its detractors, too, as it has value even when the stock price falls. As an alternative to straight time vested restricted stock, companies have been adding performance type features to their grants. These grants, which could be called performance shares, do not vest or are not granted until these conditions are met. These performance conditions could be earnings per share or internal financial targets.