CEO Jeff Immelt, although newly appointed, is being challenged with the duty to re-assess GE's corporate governance. This case study analysis discusses the changes introduced by Immelt insofar as the board of directors are concerned, including Immelt's executive compensation scheme in order to tackle the challenges GE is facing. It discusses the use of stock options and alternative stock-based incentive schemes and their significance in a compensation plan.
V.G. Narayanan; Michele Jurgens
Harvard Business Review (105072-PDF-ENG)
April 27, 2005
Case questions answered:
- Given the situation that Jeff Immelt faced pre-2004, what do you believe were his overall objectives concerning the Board of Directors and executive compensation at General Electric?
- Turning to GE’s executive compensation plan, what are the main features? In dollar-terms, how much did Immelt and Robert Wright make in 2002? In 2003? What part of these two-executive’s pay was awarded subjectively?
- Evaluate each of the GE compensation tools separately, listing the pros and cons for salary, bonus, LTIP, PSUs, SARs, RSUs. Etc. Think in terms of the risks in terms of ERM.
- What does GE’s compensation plan do to encourage executives to manage for long-term results? How long is “long-term” in the GE compensation scheme?
- Looking now at Immelt’s compensation plan, what are the pros and cons that you see in the plan?
- Focusing on the changes made to the plan since 2002, why did the compensation committee at GE decide to replace the stock options in CEO Jeff Immelt’s pay package with performance share units and replace 40% of the stock options for other executives with restricted stock units? Do you accept GE’s rationale for change? How does Jeff Immelt’s pay package compare to Jack Welch’s pay package?
- How did Immelt change the board member compensation? Why were these changes necessary? Why do you think Immelt altered the retirement plan?
- What is going to be different at GE because of the new compensation plan? What are the options/SARs and PSUs designed to achieve? Is there a difference?
- Has GE made these changes because of its decision to expense options? Options expensing became mandatory in 2004 by FASB rules. Did others imitate GE’s changes to executive compensation?
- What modifications would you propose to GE’s executive compensation plan?
- Should there be an ERM team, and what types of risks should they report to the CEO and the Board?
- If incentive options are resettable (strike is reset if stock prices decline significantly), how are the values of options effected relative to non-resettable options? How does this affect incentives to take excess risk relative to non-resettable options?
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Case answers for Executive Compensation at General Electric (A)
1. Given the situation that Jeff Immelt faced pre-2004, what do you believe were his overall objectives concerning the Board of Directors and executive compensation at General Electric?
The situation was hostile with Jeff’s compensation under scrutiny. Jeff was keen on being more inclusive and responsive to shareholder concerns. He took several measures to appease angry and worried shareholders.
As regards the Board of Directors of General Electric, Jeff was opposed to his predecessor. He encouraged the board to meet even in his absence which helps promote responsible corporate governance. He appointed a “presiding director” to a chair outside meetings and serve as a chairman in Jeff’s absence. He understood the fact that a CEO serves investors, serves employees, and leads companies. Money and power are consequences of it.
Regarding the Executive Compensation at General Electric, when he had to decide what to do next, he sought counsel from Warren Buffet. He is the go-to person for CEOs during tough times. Buffet believed that Executive pay should be tied to long-term performances and that stock options could work only when they are accompanied by measures deterring the executives from manipulating stock prices for short term gains.
Following Buffet’s advice, Jeff removed stock options and stock appreciation rights. He also restricted stock units. Buffet advised Jeff that based on the compensation on performance, “Delivery of carrots should be tied to results in the area that a manager controls”. He made sure the changes to compensation started from him, the CEO, and cascaded down.
2. Turning to GE’s executive compensation plan, what are the main features?
The goals of GE’s Executive Compensation Plan were to hire, motivate, reward, and retain executives who created long-term value for the firm. This was done through:
- Salary and bonus: the salary was designed in such a way to attract and retain leaders and bonuses were tied to their exceptional performance.
- Stock options and stock appreciation units: these are incentives given to exceptional long-term performance. They are exercisable only after at least 5 years of granting it and forfeited if the executive leaves the firm prior to that.
- Restricted stock units: Aligns executives’ interest with the long-term interests of investors. Designed to retain executives – paid out only to those who remain in the firm for extended timelines.
- Long-term Performance awards: These are strong incentives given to those achieving specific performance measurements over extended periods.
GE Executives were also compensated in the following forms:
- Payments/Earnings from Employee Savings Plan
- Deferred compensation
- Life Insurance premiums
- Retirement benefits at 60
- Social Security benefits at 62
In dollar terms, how much did Immelt and Robert Wright make in 2002? In 2003?
Compensation (in $) for Jeff Immelt and Robert Wright are:
What part of these two executives pay was awarded subjectively?
Although in 2003, most components seem to be awarded with…